Calculating a lump-sum

Thursday, 01 April 2010
A discussion on residence and lump-sum taxation in Switzerland.

Foreign nationals residing in Switzerland who fulfil certain requirements, in particular those who are not gainfully occupied in Switzerland, can take advantage of a special tax arrangement often referred to as lump-sum taxation. Under this regime, Swiss taxes are levied on the basis of expenditure and standard of living in Switzerland, rather than on the usual worldwide income and assets. Many prominent persons, including Formula 1 drivers and other sports personalities, artists, famous singers, but also well-known industrialists and many private wealthy individuals benefit from this special tax regime. At present, lump-sum tax arrangements are available in all Swiss cantons, except in the canton of Zürich, where the voters surprisingly dismissed the cantonal lump-sum tax regime in a referendum in February 2009.

Residence permits for foreign nationals

Residence permits for EU/EFTA citizens

Due to the bilateral agreements on the free movement of persons (concluded between Switzerland and the EU and all individual EU and EFTA member states), access to residency in Switzerland has become easier for EU and EFTA citizens. For citizens of all member states that joined the EU before 1 May 2004, as well as for citizens of Malta, Cyprus and EFTA member states, the free movement of persons agreement came into force without any restrictions on 1 June 2007, i.e. since then citizens of these EU/EFTA member states have had the legal right to be granted a residence and work permit in Switzerland.

Specific transitional periods still apply for the new member states that joined the EU on 1 May 2004 (excluding Malta and Cyprus) and on 1 January 2007, respectively, with regard to the granting of work permits. However, financially independent citizens of all new EU member states, who are not gainfully occupied in Switzerland and who have sufficient funds to support themselves in Switzerland without working there, may acquire a residence permit without further restrictions.

Residence permits for non-EU/EFTA citizens

A non-EU/EFTA national may acquire a residence and work permit to become gainfully employed in Switzerland, if a Swiss employer can prove that the person is: indispensable for a specific function in the company, that he or she possesses the relevant qualifications for this function and that no suitable candidate can be found on the Swiss labour market. However, a strict quota system is in place to control and limit the number of gainfully occupied non-EU/EFTA nationals in the country.

If a foreign national establishes a company in Switzerland as an investor and is employed by it in a senior position, a residence and work permit can be issued within the scope of the economic promotion programme, where this may be justified by economic reasons of sustained relevance of the investment to Switzerland.

To obtain a permit as a pensioner, a foreign national must be at least 55 years old, show close ties to Switzerland and have sufficient funds. The key condition here is the minimum age of 55 years. In many cases, it may be difficult to fulfill the criteria of showing close ties to Switzerland.

Financially independent persons not being gainfully occupied in Switzerland, who agree to pay a certain minimum in net annual taxes, can usually acquire a residence permit regardless of their age, provided that the granting of residency to a potential taxpayer is considered to be in the ‘fiscal interest’ of the residence canton. The minimum annual taxes that must be paid in order to qualify under this specific immigration category vary from canton to canton.

Lump-sum taxation

General requirements

Swiss tax law requires that a foreign national wishing to benefit from the lump-sum tax regime must not have been resident in Switzerland or have carried out gainful occupation during the last ten years in Switzerland. Moreover, he or she is not allowed to carry out a gainful occupation while being taxed under that tax regime. Indeed, the lump-sum taxation provisions are specifically aimed at financially independent foreign persons who are not seeking employment in Switzerland. At present, applicable tax regulations do not specify any age requirements or similar restrictions.

If spouses move to Switzerland and wish to benefit from the lump-sum tax option, both spouses must fulfill the requirements. It is generally not possible for one spouse to be taxed under a lump-sum tax arrangement where the other is taxed normally. However, if one spouse moves to Switzerland while the other continues to live abroad (and does not establish a domicile in Switzerland), it is possible for only the spouse in Switzerland to be taxed under a lump-sum tax arrangement.

How the lump-sum tax is calculated

Under the lump-sum taxation regime, the Swiss tax authorities generally require the assessment of a minimum taxable income, which must in general be equal to at least the tax resident’s expenditure for living. According to currently applicable tax regulations the taxpayer´s living costs are assessed to be at least five times the annual rental value of the apartment or house in which the foreign national resides in Switzerland. Additionally, the amount of tax actually due must exceed the tax that would be due on the taxpayer’s Swiss source income, as well as income for which a partial or total reduction of foreign taxes is requested by virtue of an international tax treaty (see below). If the tax on such an income exceeds the tax on the lump-sum amount agreed with the tax authorities, the income tax for the respective year will be based on the higher amount. Also note that in the case of financially independent, non-EU/EFTA citizens applying a for residence permit in Switzerland, the annual tax amount payable must be appropriate with regard to meeting the ‘cantonal fiscal interest’ requirements (see above in the section on residence permits).

In many cases, the hypothetical taxable income is simply based on the rental payments (or the rental value of the owned apartment or house) in Switzerland. Assuming that the annual rental value of the apartment in Switzerland is CHF60,000, the taxable income is then calculated as five times the annual rental value, which amounts to CHF300,000. This amount serves as the hypothetical annual income to which the normal tax rates apply. On an income of CHF 300,000 one can expect to pay approximately 35 per cent in taxes (depending on the place of residence), which amounts to a total annual income tax bill of about CHF105,000 (cumulative communal, cantonal and federal income taxes), besides social security contributions. In addition to this calculation for income tax, the taxable income will be capitalised to calculate a taxable hypothetical net wealth, to which the cantonal net wealth tax is applied. This amounts to a total wealth tax bill of about CHF25,000 (depending on the residence canton). These two calculated amounts added together will then yield the lump-sum tax payable to the tax authorities and represent the total tax liability, regardless of worldwide income and assets. An important aspect of the lump-sum taxation regime is therefore that Swiss residents, who are taxed on this basis, are not asked to declare their worldwide income or assets.

The modified lump-sum tax

In several tax treaties concluded by Switzerland, it has been agreed to limit treaty benefits to foreign source income that is taxed in Switzerland at the regular tax rates. Because these treaty clauses would normally exclude persons who are taxed under a lump-sum arrangement, modified lump-sum taxation has been introduced. Under the modified lump-sum taxation regime, the income derived from the respective treaty country will be included in the assessed tax base. In order for the tax authorities to determine the correct tax rates at which the foreign source income should be taxed, the total worldwide income would have to be taken into account. However, if the worldwide income is not declared, the highest tax rates apply to the respective foreign-source income for which treaty relief is sought.

Closing remarks

While the general guidelines for the calculation of the lump-sum tax base, as explained above, are clear and even set out in the federal law, in practice there are considerable differences, not only from canton to canton, but also from case to case. Besides applying the general criteria, consideration may be given to the age of the taxpayer, to the immigration category under which he or she applied for residency, whether or not he or she has dependents living in the same household in Switzerland, whether there are under-age children who go to school in Switzerland, what else the taxpayer may bring to the canton, the taxpayer´s approximate worldwide wealth, etc. Furthermore, all cantons have a certain lump-sum tax minimum below which they do not go (e.g. a minimum annual taxable income of CHF400,000 or a minimum of CHF 100,000 in annual tax payable, etc.) even if the prospective taxpayer is single and rents a modest apartment and would, according to the general rules, pay much less than that minimum amount in tax. Accordingly, as no case is like another, it pays to evaluate the options available in various cantons for each particular situation.

Author block
Dr Peter Krummenacher

Dr Peter Krummenacher is a Partner at Henley & Partners.

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