On 28 February 2022, the Swiss Federal Court, which is the highest instance in Switzerland, handed down a ruling (officially published on 31 March 2022) on a leading case concerning the reorganisation of real estate portfolios held by Occupational Pension Schemes in Switzerland.
Swiss social security is based on a three-pillar system, of which compulsory and voluntary savings exist under the second pillar (legally known as the Occupational Pension Savings), serving to ensure a continued living standard upon retirement.
Contributions under the second pillar are jointly financed through employer and employee contributions and administered by regulated Occupational Pension Schemes. Such schemes typically take the form of a foundation, but may also be incorporated as a co-operative or a public institution. An employer may form its own occupational pension scheme or join a collective pension scheme; in practice, the collective pension schemes as offered by institutional insurance companies typically cover thousands of businesses. Due to practical demand, for some years the law has allowed the incorporation of Investment Foundations, where Occupational Pension Schemes pool their assets in order to optimise management and achieve scaling effects. Such Investment Foundations are only open to Occupational Pension Schemes and are not subject to the Law on Collective Investment Schemes.
In recent years, Occupational Pension Schemes have proceeded to transfer their real estate portfolios to these types of specialised Investment Foundations. While both Occupational Pension Schemes and Investment Foundations are generally exempt from corporate taxation, an exception applies to Real Estate Capital Gains Tax and Real Estate Transfer Tax, which are both cantonal municipal taxes.
In the case appealed to the Federal Court by the tax administration of Zurich, an Occupational Pension Scheme had transferred a portfolio of properties with a market value of approximately CHF 48m to the Zurich Investment Foundation (managed by the Zurich insurance group), one of the largest Investment Foundations in Switzerland with assets under management exceeding CHF 23bn. In exchange for the transfer, the Occupational Pension Scheme received shares in a specific asset class of the Zurich Investment Foundation.
The question to be reviewed by the Federal Court was whether this type of transaction, a Real Estate Asset Swap, meets the requirements for tax-neutral restructuring, which would suppress the obligation of the Occupational Pension Scheme to pay real estate capital gains tax on the difference between market value and acquisition costs of the real estate portfolio.
The Federal Court interpreted the relevant art. 80 (4) of the Federal Law on Occupational Benefit Savings, which formally deals with mergers and demergers of Occupational Pension Schemes, and concluded that a transfer of an entire real estate portfolio in exchange for shares in an Investment Foundation must be qualified as a transaction for which the legislator envisaged the tax neutrality at the level of Real Estate Capital Gains Taxes.
Under the specific circumstances, the Federal Court did not need to consider whether the transaction would also have met the general definition of a tax neutral restructuring for Real Estate Capital Gains Tax purposes. Moreover, the court ruling did not have to deal with the topic of Real Estate Transfer Taxes, because the canton in question had abolished this tax.
This leading case is good news for Occupational Pension Schemes looking to consolidate the management of their real estate portfolios. However, there are still some open questions, particularly regarding the definition of tax-neutral restructuring as well as the exemption from Real Estate Transfer Taxes, which requires a careful analysis of the applicable cantonal legislation in light of the specific circumstances. Asking for an advance tax ruling is welcomed in Switzerland and highly recommended in order to obtain legal certainty on the potential tax consequences before the transaction is implemented.
For more information on this ruling and tax laws in Switzerland, contact your CMS client partner or local CMS expert.