Overview of crowdfunding – i.e. raising money via online platforms – from a taxation standpoint.
Crowdfunding – i.e. raising money via online platforms – in Switzerland is still in its infancy. Although the individual forms of funding are essentially nothing new under civil law, many uncertainties remain under tax law. The main problem affecting not only those involved in the transactions (e.g. backers, recipients of the funds and brokerage platforms), but also the tax authorities, is a lack of relevant experience. Yet taxation represents a not insignificant transaction cost, which must be reflected in business plans and financial planning. It is therefore vital that anyone entering into a crowdfunding transaction should clarify the tax situation at the onset of the project.
This analysis offers a preliminary overview of possible problem areas and demarcation issues. It starts by outlining the various types of taxation of potential relevance to crowdfunding. It then discusses these in more detail in relation to the four main categories of crowdfunding. This overview should be seen as a pragmatic guide: not only does it make no claim to be complete, it also covers only Switzerland and does not touch on the nondomestic situation.
Individual income tax is levied on all recurring and non-recurring income of natural persons. Capital gains on the disposal of private movable assets are tax exempt. Wealth tax is levied on all the net assets of natural persons.
Corporate income tax is levied on the net profits of legal entities. Profits arising from the capital contributions of shareholders, membership subscriptions for clubs and associations, and transfers of assets to foundations are tax exempt[1]. Furthermore, losses can be set off against profits for up to seven consecutive years. The net equity of legal entities is subject to tax on capital.
Legal entities having a public or charitable purpose are exempt from corporate income tax and tax on capital. Business purposes are not deemed charitable[2].
Gift tax is a (cantonal) levy on donations from one living person to another. It is levied on the beneficiary by the donor's canton of domicile at the time of the transaction. Generally speaking, beneficiaries such as spouses, direct descendants and legal entities exempt from corporate income tax (see Section Corporate tax and tax on capital) are exempt from gift tax, while other family members often benefit from tax-free allowances of one kind or another. Also exempt from tax are standard occasional gifts not exceeding a certain value (e.g. in Canton Zurich: CHF 5,000).
Anyone conducting business within Switzerland is subject to the value added tax (VAT) regime if the annual turnover arising from taxable activities (i.e. the supply of goods and services) in the country exceeds CHF 100,000. The income threshold for not-for-profit sports and cultural associations and charitable institutions is CHF 150,000. Tax liability is deemed to begin upon commencement of a new activity. Depending on the business conducted, however, it is also possible to register voluntarily for VAT.
The amount of tax due is arrived at by multiplying the consideration for a supply by the relevant rate (2.5% for e.g. food, medicines or printed matter; 3.8% for accommodation services; 8% for all other supplies). A number of statutory exemptions (with or without credit) to VAT exist. Also exempt from VAT is the exchange of non-consumable goods, such as land or money (including Bitcoin).
VAT-registered persons or entities can deduct the VAT they are charged by other persons or entities as input tax. They may not, however, deduct input tax for supplies which are tax-exempt without credit.
Equity stamp tax of one percent is levied on the issuance and increase in par value of securities (i.e. shares or bonus and participation certificates) and other capital contributions of the shareholders in excess of the first CHF 1 million.
Security transfer tax is levied on transactions involving the transfer of taxable securities if one of the contracting parties or brokers is a securities dealer. The rate is 0.15 percent for domestic and 0.3 percent for nondomestic securities.
A 35 percent withholding tax is levied on income arising from movable assets (principally dividends, interest on bonds and on savings accounts, but also deemed dividends to shareholders and related parties) and on lottery prizes. The tax is reimbursed to the recipient of the payment on which the tax has been levied in accordance with the law (or under double taxation agreements). Withholding tax is essentially designed to encourage taxpayers to declare their investment income and wealth properly.
Depending on the components of the transaction, other types of taxation (e.g. property tax, inheritance tax or entertainment tax) or even social security contributions may come into play. This analysis does not propose to discuss these further.
Since the nature of the consideration for the delivery of the funds is a key factor when it comes to determining the tax consequences of a transaction, this analysis proposes to keep the pre-defined four categories of crowdfunding. It should be noted, however, that in reality crowdfunding offerings in the marketplace frequently exhibit a heterogeneous combination of these categories. This leads to problems of demarcation with a concomitant need for clarification.
Crowdinvesting involves a backer contributing capital into a company in exchange for a share of its equity, i.e. shares or bonus and participation certificates. Mixed forms of equity and debt (e.g. profit participating loans) are also possible.
The following tax implications need to be taken into account when making equity investments:
The rules on crowdlending additionally apply where mixed forms of equity and debt are present (see Section Crowdlending). It should also be noted that disproportionately high interest payments to shareholders that are not in line with the market conditions are not deductible for tax purposes and are subject to 35 percent withholding tax, which amounts to a fiscal reclassification as a dividend, e.g. in the case of profit participating loans. Disproportionately high debt financing by shareholders may lead to a reclassification from debt to equity.
Unlike investing in a legal entity, if a private investor injects capital into a partnership, the profits as well as the losses are attributed to the investor as income arising from self-employed activity. Under civil law, such investors are also liable for the obligations of the partnership to the extent of their personal assets. That is why extreme care must be taken when making investments of this nature, particularly where the investor is unable to exert any direct influence on the business activities, e.g. as a silent partner.
Crowdlending is where loans are granted that yield risk-based interest payments; the tax position is as follows:
The provision of funds without consideration is termed crowddonating. The following needs noting:
Reward-based crowdfunding is where backers receive something in exchange for their payment, generally a one-off consideration such as a product, work of art or service. The relevant tax situation is as follows:
Ambiguities arise in the event of a lack of balance between the payment and the consideration. Backers often receive a T-shirt or something similar by way of thanks for their payment, rather than consideration in the true sense of the word. This gives rise to the following issue:
No one likes paying taxes. However, the good news is that taxes generally become due only when capital flows into a project, revenues are generated, or a profit is earned. For start-ups, this means that at this time the first hurdle in the quest for success has already been cleared.
That said, the backers as well as the recipients of the funds must be clear about both the financial implications of a transaction, and their respective rights and obligations. The difficulty of crowdfunding is that the tax implications differ widely, depending on the form it takes. Moreover, countless combinations (including profit participating loans, reclassification of debt as equity, mixed donations, and so forth) and cross-border issues are possible, which further complicates matters.
Crowdfunding projects at the large / complex end of the spectrum would benefit from closer analysis to identify their exact circumstances and particularities. Furthermore, this would enable the tax implications to be discussed with the relevant authorities ahead of time, in order to avoid any unpleasant surprises down the road that could jeopardise the very existence of the project.
Above all, however, it is vital that the platforms conduct detailed analyses of the tax situations of all those involved in transactions; after all, as brokers between backers and recipients, they should be assuming a clarificatory role. All sides must be able to rely on the information presented on the platforms.
Last but not least, politicians should be considering generally simplifying the fiscal and regulatory landscape relating to crowdfunding. Tax breaks for risk capital investments (e.g. making capital contributions in start-ups tax-deductible and exempting such investment from wealth tax) would greatly benefit the investment climate in Switzerland. Other countries such as the UK and USA are way ahead of us in this respect. Canton Zurich's announcement in March 2016 of its intention to ease the wealth tax burden when evaluating start-ups[8] is a first step in the right direction. Far more needs to be done, however.
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[1] See also the Federal Law on the Taxation of Legal Entities with Idealistic Aims, due to come into force on 1 January 2018. This law provides for a tax-free allowance of CHF 20,000 in taxable profit for legal entities with idealistic aims, subject to derogation provisions by the cantons.
[2] However, see also additional cantonal rules for start-ups, e.g. the ""LJEDI"" law in Canton Geneva that confers the status of ""JEDI"" on young companies developing innovations. The Swiss Federal Council is not in favour of measures of this nature at a federal level (see e.g. its report ""Tax shortfalls arising from the exemption of start-up companies from tax"" of 10 September 2013). The Federal Council prefers instead to support all companies by means of fiscal measures that promote research and development. Encouragingly, measures of this nature in support of R&D are now included in the parliamentary Corporate Tax Reform III discussions.
[3] The same applies to prices paid by investors during financing rounds or capital increases. This can be highly problematic, in particular for the founders. If, during a second financing round, for instance, CHF 1 million is offered for a five percent stake, the tax authorities suddenly deem the remaining 95 percent to be worth CHF 19 million, even though the company is in all probability still posting losses: despite this, the founders will find themselves having to pay a correspondingly large amount in wealth tax. Canton Zurich has recently recognised this and disregards, wholly or in part, investor prices achieved during the first three to seven years (see official communication of 1 March 2016: https://www.steueramt.zh.ch/internet/finanzdirektion/ksta/de/aktuell.newsextern.-internet-de-aktuell-news-medienmitteilungen-2016-attraktivere_45_regeln_45_fuer_45_besteuerung_45_bei_45_start_45_ups.html).
[4] Which, however, would require the recipient to hold a bank licence (see Art. 6 of the Banking Ordinance).
[5] Although arm's-length donations of small amounts between independent third parties (e.g. up to CHF 5,000 in Canton Zurich) and donations to spouses, direct descendants and tax-exempt legal entities are generally deemed a gift, they are usually exempt from gift tax (beware of differing cantonal rules). In addition, where shareholders and related parties are involved, the situation is rendered more complicated by the need to observe rules governing hidden profit distributions and capital contributions.
[6] For example, the development of a product starts only when a certain level of funding has been received; if this threshold is not reached, the contributions must be returned.
[7] The contributions received from backers must, for example, be invested in developing a particular product.
[8] See footnote 3.