Hidden equity (Switzerland)

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Hidden equity refers to capital that is used for business functions through external financing, actively concealing its origin and use, according to i. S. v. Art. 65 DBG or Art. 24 Paragraph 1 lit. c i. V. m. Art. 29a StHG.

When choosing external financing, there are still relevant differences between equity and debt from a tax perspective. Since 1995 the law regulates the conditions under which debt capital can be reclassified into equity capital for tax purposes. The administrative implementation of the economically formulated standard is demanding and, in special cases, full of pitfalls.

Relevant basics

Tax consequences of capitalization

When choosing between equity and borrowed capital, fundamental differences must be taken into account, which also have tax effects. Overall, corporate financing using debt capital appears to be more advantageous, as equity is subject to a double tax burden (profit and income tax as well as [cantonal] wealth and capital taxes). In principle, the issue tax is owed on the addition of equity and the income is charged with withholding tax. The situation is different with the interest expense on borrowed capital, which is a tax-deductible expense. Furthermore, capital tax is not owed on the outside capital, nor is the injection of outside capital subject to the issue tax. Ultimately, interest expenses are not charged with withholding tax.

Purpose of the hidden equity

The concept of hidden equity has two basic goals: on the one hand, to ensure the economic double burden including the prevention of the abuse of the freedom to finance, on the other hand, the equal treatment of all commercial enterprises. This also goes hand in hand with the “fiscal link” between the tax base and Switzerland, which is to be seen as the third purpose of hidden equity.

Relevant legal text

"The taxable profit of corporations and cooperatives also includes interest on debt that is attributable to that part of the debt capital that is economically important as equity." This principle is set out in both Art. 65 DBG and Art. 24 Para. 1 lit . c i. V. m. Art. 29a StHG and, with a few adjustments, has always found its way into the cantonal tax laws.

Interpretation of the legal text

When determining hidden equity, the debt capital in question must be assigned the economic functions of equity, so that a reclassification into tax equity is justified. The typical basic functions of the forms of capitalization must therefore be considered in advance:

Two prerequisites must always be met in order to justify a tax law reclassification from debt to equity:

  1. Lack of economic leverage functions
  2. the entrepreneurial risk of the lender must be equal to that of an equity investor.

In principle, however, all relevant, equity-specific functions must be fulfilled by the debt in question in order to justify reclassification economically.

Determination of hidden equity

Sense and purpose of FTA-KS No. 6/1997

The FTA-KS No. 6/1997 is intended to give an indication of the average amount of borrowed capital that would be available on the “free financing market”. The connection to the accounted assets is intended to provide the user with an accessible, simple way of determining the debt capital normally available from third parties in order to evaluate in a first step whether the existence of possibly hidden equity still needs to be examined in more detail. And if the taxpayer moves within these “safe haven” rules, the adequacy of the service relationships is assumed, i. H. the taxpayer does not have to expect a tax correction (“unilateral liability”).

Determination of hidden equity

The following audit catalog is useful for determining hidden equity within the meaning of the legal text:

  1. Determination of the relevant borrowed capital, excluding various special situations (e.g. financing of extraordinary business transactions, interest-free borrowed capital, taxed hidden reserves, subordination, mezzanine capital, demarcation between parent company and permanent establishment).
  2. Identification of the harmful lender, because only outside capital that comes directly or indirectly from the shareholder can be subsumed in the scope of Art. 65 DBG. In other words, outside capital from a third party can never be harmful. The relevant point in time for the appraisal must be when the loan financing was granted; an “ex post” view would not do justice to the situation.
  3. Benchmarking of the financing structure including the determination of the maximum debt capacity: either on the basis of FTA KS No. 6/1997 (“Safe Haven” approach) or by means of economically common procedures.

Individual evidence

  1. ↑ BÖHI, 283 mw H.
  2. ↑ BÖHI, The hidden equity in tax law, Zurich 2014, 112 mwH
  3. ↑ BÖHI, 115 ff., 213; BÖHI in “Der Schweizer Treuhänder” 3 | 2015, p. 179.
  4. ↑ BÖHI, 137 ff. With an overview of the cantonal regulations including the deviations.
  5. ↑ BÖHI, 158 mwH
  6. ↑ Continuity and livelihood security function as well as loss compensation function; see. BÖHI, 162 fmwH
  7. ↑ BÖHI, 216; BRÜLISAUER / ZIEGLER, Commentary on Art. 65 DBG, in: ZWEIFEL MARTIN / ATHANAS PETER (Eds.), Commentary on Swiss Tax Law I / 2a, Federal Act on Direct Federal Taxes (DBG), 2nd A., Basel / Geneva / Munich 2008, Art. 65 DBG N 42; GRIESSHAMMER, Commentary on § 83 AG StG, in: KLÖTI-WEBER MARIANNE / SIEGRIST DAVE / WEBER DIETER (Ed.), Commentary on the Aargau Tax Act, Vol. 1 §§ 1-94, 3rd A., Bern 2009, § 83 StG AG N 36; LOCHER, DBG Comment II, Art. 65 N 22; ROBINSON / WIPFLI, ST 1998, 68.
  8. ↑ Cf. on the whole BÖHI, 227 ff; BÖHI in “Der Schweizer Treuhänder” 3 | 2015, p. 181.
  9. ↑ On the special situation where the third party loan is secured by the shareholder, cf. BÖHI, 244 ff.
  10. ↑ BÖHI, 250 f .; a. M. HONGLER, 61.
  11. ↑ Due to the text of the law, a maximum debt capital, but not a minimum equity capital, must be assumed; see. BOHI, 252; BRÜLISAUER / ZIEGLER, Art. 65 DBG N 32.