Wealth tax: a minimum tax on the rich

Various studies show that the (super-)rich – despite their very high incomes – typically have a lower effective tax burden than individuals on middle and fairly high incomes. The relevant literature suggests that the tax system as a whole is significantly less progressive than one might think when looking at income-tax rates alone (Piketty, Saez, and Zucman, 2018; Saez and Zucman, 2019a, 2019b; Advani, Hughson and Summers, 2023; Schuster, 2024; van Essen et al., 2024).

The main reason for this is that wealthy individuals primarily earn investment income (dividends, rental income, and interest), which is usually taxed at a lower rate than salaries and is not subject to social security contributions. In addition, investment income from various sources can be pooled in one business so that no income tax is payable for the time being. And although Swiss income tax does not actually differentiate between employment income and investment income, dividends from qualified shareholdings (at least 10 per cent) are taxed at a preferential rate, which confers a reduction of up to 50 per cent depending on the canton.

Comparison of income-tax burdens in Switzerland using a typical example

But how high is the tax burden on the rich in Switzerland? A recent KOF study (Martínez, 2024) examines this question using various examples. It compares the tax burden on a typical millionaire in the canton of Zug with that on a middle-income family in the same canton.

Millionaire Max Muster owns a medium-sized firm together with his sister, which they inherited and which he runs as CEO. He owns a total of around CHF 83 million and is therefore in the top 0.1 per cent of the wealth distribution (roughly 5,400 taxpayers). He earns an annual income of CHF 6 million, only 10 per cent of which comes from his gainful employment as CEO. The rest of his income comes from the firm’s profits, rental income and imputed rental value. As he owns half of the firm, the dividends distributed each year are taxed at a reduced rate. This discount is 50 per cent in the canton of Zug and 30 per cent at federal level. Although the top tax rate including direct federal tax in the canton of Zug is 22 per cent, his income is only taxed at 13.6 per cent (including social security contributions and health insurance premiums¹).

However, Mr Muster can significantly reduce his tax burden by setting up a holding company. In legal terms, Muster Holdings owns the firm’s various assets. The resulting investment income thus flows tax-free to Muster Holdings and not to the individual Max Muster, who would pay income tax on it. The holding company can manage and reinvest these assets, for example in securities or property, the income from which also flows to the holding company. Max Muster’s income-tax rate is thus reduced to 3.9 per cent.

The tax savings are therefore so great that setting up a holding company is worthwhile for Mr Muster. Although income tax is payable when he distributes dividends from the holding company (these are also taxed at a preferential rate as he is the sole owner of the holding company), he can still earn a decent living without distributing his entire income. The assets in the holding company grow over the years and, at some point, his two children will inherit them tax-free.

The Zuger family, a middle-income family of four, also benefits from the benign tax regime in the canton of Zug. As they have a gross income of CHF 200,000 (including imputed rental value from their owner-occupied flat), their tax burden is 11 per cent (including social security contributions and health insurance premiums). Although this is less than a comparable family would pay in most cantons, it is significantly more than 3.9 per cent and only marginally less than the 13.6 per cent paid by the Muster family, whose gross income is 30 times higher.

Roller and Schmidheiny (2016) show in the case of Switzerland that effective progressive taxation due to tax competition is lower than average progressive taxation across all cantons on paper because taxpayers on high incomes are much more likely to live in low-tax cantons than in cantons with average or high tax burdens. The effect on incomes over one million Swiss francs is so strong that progressive income tax actually decreases.²

Wealth tax makes a difference

The picture changes when wealth tax is taken into account. This is because even if Mr Muster sets up a holding company, he is ultimately still the owner of these assets and the holding company. He therefore pays wealth tax of around CHF 215,000 per year. When applied to the income he actually earns (most of which flows to his holding company), the tax burden increases from 3.9 per cent to 7.4 per cent. If corporation tax is taken into account, his total tax burden is 18.5 per cent.

Wealth tax is therefore a kind of minimum tax that steps into the breach when income tax is no longer effective. The latter is designed for the vast majority of people, who receive their income in the form of wages and from modest capital gains that are difficult to optimise. However, the income of the super-rich is structured completely differently. They derive a small proportion of their income from labour and have various options for structuring their investment income in such a way that their tax burden remains low.

Wealth tax has another side effect. Using the example of two Roche heirs – Jörg Duschmalé and André Hoffmann – KOF’s study shows that wealth tax forces billionaires to have some of their dividends distributed every year in order to pay this tax. André Hoffmann, for example, who lives in the high-tax canton of Vaud, owes around CHF 20 million in wealth tax every year. Even assuming that CHF 2.5 million per year is enough for him to live on and that he can park the rest in a holding company, he will still have to have almost CHF 20 million of his estimated CHF 84.6 million in dividends paid out to him in order to pay this tax. His personal tax burden rises from 12 per cent of his income to 35 per cent if wealth tax is taken into account.

These examples show that wealth tax can fill the gap in taxing the incomes of taxpayers with substantial assets and resulting incomes far in excess of their annual consumption needs. The global wealth tax of 2 per cent on billions worth of assets currently being discussed in the G20 should also be understood in this context. The objective is, in fact, to ensure a minimum tax burden. The principle of taxation according to economic performance, to which Switzerland is explicitly committed in its constitution (Art. 127 para. 2 BV), should thus be more fully taken into account.

------------------------

¹For international comparisons it makes sense to treat health insurance premiums as a poll tax, as these premiums are often deducted from income as social security contributions in other countries. In addition, insurance is compulsory, so the premium effectively amounts to a tax.

²Higher house prices in low-tax cantons are taken into account.

³Calculations for the Roche heirs are based on simplified assumptions about their tax situation.