Extension of the loss offsetting period

The permissibility of offsetting losses across periods can be justified primarily on the basis of the total profit principle (profits of a company over its entire lifetime), which in turn is justified by the constitutional principle of taxation according to economic performance. Due to the requirements of the periodicity principle, which is legally stipulated at the level of direct federal tax in Art. 80 para. 1 DFL ( = direct federal tax law) and Art. 79 para. 1 and 2 in conjunction with Art. 58 para. 1 lit. Art. 58 para. 1 lit. a) DFL, tax losses can only be offset within a limited period of time, which is currently seven years.

The federal legislator is currently seeking to extend this loss offsetting period to ten years, not least in order to contribute to the further recovery of companies damaged by the pandemic Motion 21.3001). With this in mind, it is also envisaged that the extension of the loss offsetting period will apply to losses from the 2020 tax year onwards. In addition to a tax relief function, the extension of the period for loss carryforwards is intended to ensure the equal treatment of companies in loss situations and, in particular, to increase this treatment compared to the current regulation. This blog post discusses the background to the planned reform of tax loss offsetting, provides an overview of its key points and takes a critical look at its specific design, in particular its connection with the Covid-19 pandemic.

Current law and need for new regulation

According to the total profit principle, the sum of all of a company's operating results for the period represents its total profit, i.e. the profit that is generated over the entire life of the company and thus reflects its full economic performance. Even if, according to this view, it would be appropriate to offset losses for an unlimited period, this principle is restricted by the requirement under accounting law to recognize income and expenses on an accrual basis. As the requirement of periodic taxation as well as the total profit principle must be adequately taken into account, the legislator has so far provided for a time-limited offsetting of losses for seven financial years preceding the tax period within the framework of this conflicting relationship.

However, particularly as a result of the pandemic, the Swiss parliament recognizes a need for action to adjust or extend the ordinary loss carryforward from seven to ten years. The current regulation harbors the risk of unequal treatment of companies despite equal economic performance. This could affect legal entities or self-employed natural persons if, for example, they generate a high loss once and then low profits several times in subsequent years. Companies that make smaller losses over several tax periods and subsequently make modest profits may also be disadvantaged. Under certain circumstances, this can result in a loss of offsettable annual losses for the companies concerned and thus in over-taxation. The need for greater tax relief for companies in loss-making situations is highlighted not least by the considerable losses recorded during the pandemic.

Time limit for offsetting losses

By extending the offsetting of losses, the current proposal aims, among other things, to enable a more comprehensive consideration of the economic performance of companies. The offsetting of losses is to be extended in this sense, although for various reasons it will still be permitted for a limited period of time. In addition to the budgetary interests of the public sector, particularly with regard to greater planning certainty, it is argued that such a decision also makes sense for companies in terms of practicality. Without a time limit on the offsetting of losses, companies would have to keep their business records from the time of their initial existence until their liquidation, which would entail a considerable amount of additional administrative work. The planned extension of the offsetting of losses to 10 years is also based on the periods for the retention of business records in accordance with the Swiss Code of Obligations.

Financial impact of the reform

In the long term, an extended loss carryforward period means that economic players who make one-off larger losses or smaller losses over several financial years are exposed to a lower overall tax burden. The tax relief means that the companies in question have more financial resources available for their business activities. In particular, newly founded companies with a longer start-up phase, in which high investments are made in growth and the further development of products, will benefit if the losses incurred during this phase are allowed to be offset against subsequent profits for a longer period of time.

At the same time, it must be taken into account that an extension of the loss offsetting period is most likely associated with annually recurring revenue shortfalls at federal and cantonal level, the amount of which cannot be precisely estimated. Lower revenues are likely to result if companies that have generated losses for more than 7 years generate profits again after a successful restructuring, which they can offset against unused tax losses from more than 7 years. Furthermore, a reduction in income is possible if start-up companies only generate profits after a longer loss-making phase lasting more than 7 years, which can be offset against losses over a longer period as a result of the extension of loss offsetting.

Evaluation of the template

Although the proposal to extend the offsetting of losses to ten years appears balanced in view of the need to weigh up the principles of total profit and periodicity, it is not understandable from a tax perspective why the reform should be linked to the Covid-19 pandemic. Despite the fact that the new regulation can help companies to rebuild their business after the pandemic, among other things, there is no reason to restrict the retroactive effect to losses from 2020. In order to ensure that the measure has an immediate practical impact, it would be desirable from a tax system perspective to generally extend the period for offsetting losses to ten years from the entry into force of the bill and to allow the new rules on loss offsetting to be applied to losses prior to the 2020 tax period. Various participating associations also expressed this view in the recently concluded consultation procedure.

Last but not least, the question arises as to whether the reform project that has been initiated should not also be used to conduct a more fundamental discussion on the topic of loss offsetting. For example, the introduction of a loss carry-forward option, as already provided for in the canton of Thurgau for the purposes of state and municipal taxes, could be considered. This would entitle companies to offset losses incurred in the present against profits from previous tax years, which would also avoid overtaxation in the long term and ensure a more far-reaching implementation of the total profit principle. This topic should also be examined in particular from the perspective of maintaining Switzerland's (tax) attractiveness internationally. In terms of loss offsetting, Switzerland is not one of the most attractive countries due to its relatively severe restrictions. Some of Switzerland's direct competitors, including various EU states, have significantly longer (e.g. 17 years in Luxembourg) or even unlimited (e.g. in Germany, Italy and Austria) loss set-off periods. A few countries also have a loss carry-forward, including Germany and France, Switzerland's neighbors. In order to maintain the tax attractiveness of Switzerland as a business location and, in particular, to increase it in comparison to other countries, the introduction of further relaxations for loss offsetting should be considered.

Bucher Tax AG, tax consultancy, tax advisor, Lucerne
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