Country Note: Arm’s Length Principle from a Swiss Perspective: Profit Allocation to Inbound and Outbound Permanent Establishments

Abstract

Switzerland continues to be one of the most preferred locations for many businesses when setting up a headquarters or permanent establishment (PE) structures. Thus, obtaining tax certainty and predictability is crucial for such structures. Swiss tax law does not provide for detailed rules for international profit allocation and particularly the arm’s length principle (ALP) for the determination of an enterprise’s profit. Therefore, the Swiss tax authorities and courts largely rely on general national tax law principles for their assessment of the allocation and calculation of the taxable profit of a company or a PE in Switzerland. They have developed a sophisticated system of profit correction in order to determine the relevant taxation basis, in particular when prices between related entities or within PE relationships are deemed to not be set at arm’s length. This practice is continuously evolving, and the Authorized OECD Approach (AOA) is increasingly integrated in the assessment of each individual case. Against this backdrop, the present contribution discusses the application of the ALP from a Swiss tax treaty and Swiss national law perspective as applicable to transactions among separate entities as well as to head office and PE relations. With respect to the latter, the reader will find an overview of the profit allocation rules applicable in domestic and international cases. Moreover, for illustration, two case studies are developed and analysed for cross-border relations with fixed place PEs (inbound and outbound cases) and an example is provided for the interaction between international and domestic profit allocation. Switzerland, profit allocation, AOA, permanent establishment, arm’s length principle, transfer pricing, international, intercantonal, developments, cases.