In my last few articles, I have taken readers on a tour of the wonderful world of net wealth taxes, a once-common but now almost extinct form of taxation. As I wrote on Monday, Switzerland is a particularly interesting laboratory because each of its local governments imposes its own rate of wealth tax. Why do Swiss cantons not engage in a race to the bottom on wealth taxes to attract wealthy people? This was one of the big questions on my mind when I went there last week to explore.
It is obviously far easier to flit from one canton to another once you are based in Switzerland than it is to move between countries. So if wealth tax competition can be contained here, it surely cannot be a big challenge at the international level. Swiss national law prevents cantons from abolishing the wealth tax altogether, but they are free to set any rate they want. As a result, both income taxes and net wealth taxes vary significantly, depending on cantonal politics. Yet the data show little effect of these variations on wealth differences across cantons.
One reason why these differences can be maintained is that while it is easy to move within Switzerland, the cantons are not always substitutable. Culture, other policies and family roots all influence where people choose to live. Just think of the difference between living in a French-speaking or German-speaking place.
“The spirit of Zug is not the same as the spirit of Lucerne” was how Heinz Tännler, Zug’s finance director, put it to me during an interview in his office (which by some quirk of history used to be that of the late Marc Rich — the commodity trader and fugitive from US justice). Tännler chuckled that the neighbouring canton had tried to compete with Zug on taxes, but “it didn’t work”, and soon enough the lost revenue forced Lucerne to retreat. The real competition for hosting business, according to Tännler, was not with Lucerne or other cantons, but with Singapore or the Netherlands.
That leads to another reason: the cantons need the money. That creates an effective floor to tax competition.
A third reason, several people told me, is that the wealth taxes are in fact popular. They have existed for so long that they are accepted as a normal part of how things work. According to one tax expert, wealth taxes have been around longer than income tax, and a referendum in their favour would certainly be triggered if anyone tried to remove them. There has been no political debate in Zug on the place of wealth taxes in the tax system, according to Tännler.
One reason for the popular support is that the wealth tax, in Tännler’s words, “helps to avoid Gratisbürger” — free-riding citizens who despite their wealth would contribute nothing in taxes without a wealth tax (especially as Switzerland has limited taxes on capital gains).
All these factors help prevent the tax competition that is undeniably there from degenerating into a race to the bottom: Geneva can continue to charge its 1 per cent top marginal rate of tax on net wealth.
Switzerland provides guidance on one further challenge. A serious objection to the wealth tax is that some wealth is illiquid, so cash-poor taxpayers may face tax bills they do not have the income to pay. A particular worry is entrepreneurs, who may not even be taking out salaries but find their start-up company valued at a large amount based on the venture-capital funding they receive.
Swiss tax authorities bend their system to address such issues. Zug, for example, uses tax rulings to protect owners of start-ups from wealth taxation until the companies are listed on public stock markets. The use of tax rulings, however, is a slippery strategy, which can clearly allow for more unhealthy tax competition than first meets the eye by letting the very rich agree lower valuations with tax authorities. A transparent set of rules is always preferable.
Robert Waldburger, a professor in tax law at the University of St Gallen, told me some cantons use a clever solution for agricultural land converted into more lucrative uses. Farming is a relatively unprofitable form of land use, so owners of agricultural property are assessed for wealth tax purposes on the income they derive from it rather than the full market value if sold. But if the property use changes — if a field is developed into, say, a golf course — it will be assessed at market value. Cantons may then choose to levy a corresponding wealth tax retrospectively up to 20 years back from the point of sale. Prof Waldburger has proposed that a similar rule could be applied to start-ups (for a shorter retrospective period).
Gabriel Zucman has proposed a different scheme for a US wealth tax as it would apply to unlisted companies: payment in kind. Instead of paying 2 per cent of the value of an unlisted company in cash, owners could give the government a 2 per cent equity stake. This could be used to create a public market in private company shares (or form the core of a sovereign wealth fund). One could also consider a hybrid solution: rather than an outright ownership share of an illiquid asset, the government could accept “virtual” claims on the asset that would build up until the time the asset is sold, at which point the taxman cashes in past wealth taxes due.
(Payment in kind has an illustrious history: the Musée Picasso in Paris built its collection from artworks offered by Pablo Picasso’s heirs in lieu of inheritance tax obligations.)
The bigger point is this: globally, wealth taxes are unusual and generate scepticism in most quarters. But Switzerland shows that there are good answers to the objections.
Before leaving the office that was once Marc Rich’s, I asked Zug’s finance minister what message he would send from Switzerland to other countries thinking about introducing a wealth tax or phasing out the one they had. “The wealth tax is perfectly adequate,” said Tännler. “It’s a good system, that’s my opinion.”
Get alerts on Global Economy when a new story is published