According to our observations, Chinese entrepreneurs have become more aware of tax issues when considering offshore investments. One of their first questions in this regard is often whether income received from their Swiss affiliates would be taxed both in Switzerland and in China, or whether comparable taxes would be imposed for the same item by both the Swiss and Chinese tax authorities.
Double taxation is harmful to the international exchange of goods and services, and cross-border movements of capital, technology and persons. In recognition of the need to remove this obstacle, the Swiss government has concluded double taxation agreements (DTAs) with more than 90 countries; the Sino-Swiss DTA has been in effect since 1991.
According to the Sino-Swiss DTA, the profits of an enterprise of a contracting state will be taxed only in that contracting state, unless the enterprise carries on business in the other contracting state through a permanent establishment (PE) situated there.
If the enterprise chooses to carry on business through such a PE, the profits of the enterprise may be taxed in the other contracting state, but only those (specifically or directly) attributable to that PE.
For the purposes of the Sino-Swiss DTA, a PE is typically a place of management, a branch, an office, a factory or a workshop – a fixed place of business through which the business of an enterprise is wholly or partly carried out.
Since the Swiss rate of corporate income tax – 12-26%, depending on the location canton, or district – can be considerably lower than the Chinese rate (30%), it could be interesting for Chinese enterprises doing business in Switzerland to have their Swiss business entity qualified as a PE.
Goods and services transferred between a Chinese enterprise and its Swiss subsidiary have to be accounted at fair market value.
Whether or not a PE is in fact more advantageous compared to setting up a subsidiary depends on various circumstances and needs to be analysed in any particular case.
According to the Sino-Swiss DTA, dividends paid by a company which is a resident of a contracting state (e.g. Switzerland) to a resident of the other contracting state (e.g. China) may be taxed in that other contracting state (e.g. China). However, such dividends may also be taxed in the contracting state of which the company paying the dividends is a resident (e.g. Switzerland) and according to the laws of that contracting state, but only if the recipient is the beneficial owner of the dividends, and the tax so charged shall not exceed 10% of the gross amount of the dividends.
In practice, both countries levy a withholding tax (WHT) on dividends paid. In Switzerland, the dividend WHT rate is reduced from the standard rate of 35% to 10%, based on the Sino-Swiss DTA; in China, dividends paid to a Swiss natural person are taxed at 10% – versus 20% without a DTA – and those paid to a Swiss enterprise are taxed at the standard 10% (no treaty advantage in this point).
To avoid double taxation, the WHT paid in Switzerland on dividends to a Chinese resident recipient will be credited against the Chinese tax imposed on the recipient by the Chinese tax administration. If the Chinese company holds at least 10% of the shares in the Swiss company, even the corporate profit tax paid by the Swiss company is credited against the profit tax in China.
Dividend payments received by a Swiss company from its Chinese subsidiary are subject to participation exemption in Switzerland, provided it holds at least 10% of the shares in the subsidiary. Should the participation exemption not be applicable, the Chinese withholding tax would be credited against the corporate profit tax in Switzerland.
According to the Sino-Swiss DTA, both countries impose a maximum WHT of 10% on interest (derived from loans). In Switzerland, however, there is no WHT on interest derived from regular loans (e.g. intercompany loan) agreements, it is only levied on bank interest and interest on bonds (35%). In China, interest paid to a Swiss natural person is taxed at 10% – versus 20% without a DTA – and those paid to a Swiss enterprise is taxed at standard 10% (no treaty advantage in this point).
Similar as with interest payments, the tax authorities of both countries are entitled to impose a maximum of 10% WHT on royalties (e.g. patent or trademark licence fees). However, there is no WHT on royalties in Switzerland, whereas in China, royalties paid to a Swiss natural person are taxed at 10% – versus 20% without a DTA – and those paid to a Swiss enterprise are taxed at the standard 10% (no treaty advantage in this point).
There is no specific capital gains tax in Switzerland for residents. For Swiss companies, capital gains – unless from sale of participations, which may qualify for participation exemption – are taxed as ordinary income. Under the domestic law of Switzerland, capital gains earned by a non-resident (e.g. Chinese) investor from disposal of shares in a Swiss company are generally not subject to Swiss tax, except where the disposal is of shares in a Swiss property holding company.
Meanwhile, the 1990 Sino-Swiss DTA has been significantly revised by a new DTA, signed by both China and Switzerland on 25 September 2013. This new DTA is expected to enter into force in 2014, and the provisions are expected to become applicable as of 1 January 2015.
The new treaty provides, among other things, for a lower withholding tax on dividend payments from qualifying subsidiaries (5% instead of 10%), for a full relief of Swiss withholding tax on dividends paid to entities held by the Chinese government (e.g. China Investment Corporation) and to a lower withholding tax on royalties (9% instead of 10%). A deeper analysis of the new DTA will be given in our column in the next issue.
Christoph Niederer is partner and head of the tax team at the Swiss law firm Vischer, and Wu Fan is counsel at Vischer
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