Hidden equity in Switzerland: tax risks and new regulations

In Switzerland, corporations are taxed separately from their shareholders as independent taxable entities. This inevitably leads to a double tax or economic burden, as the income generated with the company's capital is taxed as profit at company level and as income when distributed to the shareholders in the form of dividends. In addition, the dividend distribution is subject to WHT of 35%.

Why shareholder loans are attractive

Shareholder loans, on the other hand, are an attractive way of providing a company with capital quickly and informally. In contrast to equity injections, shareholder loans are generally not subject to the issue tax and the company can deduct the interest on the loan from its profit and loss. Interest on loans is also generally not subject to WHT. This avoids the double economic burden that arises with an equity injection.

When a shareholder loan entails tax risks

In view of the various advantages of shareholder loans compared to equity capital, the legislator enacted provisions some time ago in Art. 65 DBG and Art. 24 StHG to limit the permissible debt capital by shareholders of Swiss corporations (so-called hidden equity capital). The concept of hidden equity primarily serves to ensure that there is no double economic burden and to prevent tax-motivated abuse of the freedom of financing under civil law.

Our article explains the methodology for determining hidden equity in Switzerland using a simplified practical example, shows the tax consequences of disregarding the rules on hidden equity and finally deals with the changes resulting from the recently issued circular no. 6a of the Federal Tax Administration (FTA).

Practical example: How to calculate hidden equity correctly

In order to explain the calculation of hidden equity, we will use the following simplified example of X AG, which is domiciled in Switzerland. The shareholder of X AG is a natural person liable for tax in Switzerland who holds the participation rights in X AG as private assets. The balance sheet of X AG is as follows:

The bank loan and the shareholder's loan both bear interest at 2%.

Determination of hidden equity

In order to determine the amount of hidden equity, it must first be checked whether debt capital originates from shareholders or related parties. This is because only debt capital from shareholders or parties related to shareholders can constitute hidden equity. Loans from independent third parties that are secured by the shareholders or related parties must also be taken into account. In the present case, CHF 650,000 of the debt capital of X AG consists of a loan from the shareholder.

If part of the borrowed capital comes directly or indirectly from shareholders or parties related to them, the total borrowed capital may not exceed the amount of the maximum permissible values per asset class in accordance with KS-ESTV No. 6a. If the maximum values are exceeded, this constitutes hidden equity.

The maximum permissible debt capital of X AG according to KS ESTV No. 6a on cash and cash equivalents is CHF 80,000 (100% of CHF 80,000), on receivables from L&L CHF 102,000 (85% of CHF 120,000) and on movable tangible assets CHF 400,000 (50% of CHF 800,000). The maximum permissible debt capital of X AG therefore amounts to CHF 582,000.

As the debt capital from independent third parties already amounts to CHF 200,000, the shareholder loan may not exceed CHF 382,000. The excess amount of CHF 268,000 therefore qualifies as hidden equity.

This is subject to proof that the financing can withstand a third-party comparison and that there is no undercapitalization in the specific individual case. It should also be noted that the company can prove that the market value of the individual assets is higher than stated in the accounts, which may result in a higher loan-to-value ratio. This is regularly the case with properties, which are often understated in the accounts.

Tax consequences: capital, profit and income tax at a glance

Capital taxes

Hidden equity is treated as equity from a tax perspective and must therefore be offset against capital tax. In the present case, the factors for determining taxable capital at cantonal level are increased by CHF 268,000.

Corporate Income Taxes

Art. 65 DBG stipulates that the debt interest attributable to the hidden equity must be added to the reported net profit.

In the present case, the loan to X AG from the shareholder bears interest at 2%, analogous to the bank loan and thus in line with the third-party comparison. However, as part of the shareholder loan is to be regarded as hidden equity for tax purposes, the permissible interest is to be reduced by CHF 5,360 (i.e. CHF 268,000 * 2%) and offset for profit tax purposes at X AG.

Individual Income Tax

The interest of CHF 5,360, which is attributable to the hidden equity, qualifies as a hidden profit distribution and is therefore subject to Individual Income Tax at shareholder level as investment income.

As long as the shareholder is an individual resident in Switzerland and holds a stake of more than 10% in the company, he or she generally benefits from the so-called partial taxation procedure (federal government: taxation at 70%; cantons: taxation at 50% to 70%, depending on the canton). This means that the income tax burden for the shareholder alone is lower if hidden equity is assumed and interest income is reclassified as investment income. Interest income is taxed at 100%.

Withholding tax (WHT)

KS-ESTV No. 6a stipulates that the debt interest attributable to the hidden equity also qualifies as a non-cash benefit for WHT purposes in the same way as for income tax purposes.

As the shareholder domiciled in Switzerland already has to pay tax on the interest as interest income and has already disclosed this in his tax return, the FTA generally allows the application of the so-called notification procedure (i.e. no submission of WHT). This must be applied for using form 102.

Circular no. 6a of the FTA: The most important changes at a glance

In implementation of the legal basis, the FTA issued an administrative directive in 1997, which differentiates the provisions for determining hidden equity in Switzerland. The practical instructions were only recently revised with circular no. 6a as of October 10, 2024.

As part of the revision, the application of the circular was extended to WHT , which had already been taken into account in practice, but is now explicitly stated. The sections on capital tax and proportional capital have been deleted, as these have long since lost their significance at federal level due to the abolition of federal capital tax. The comments on offsetting losses have also been deleted, according to which hidden equity is to be equated with share capital and share capital and not with reserves.

Finally, the Jurisprudence of the Federal Supreme Court was taken into account by stating that the hidden equity is to be determined in accordance with the values in the so-called functional currency.