The taxation of convertible loans

Alain Friedrich
Alain Friedrich

Convertible loans (or SAFEs) are a popular form of financing for early-stage start-ups. A lender grants the company a loan which, under defined conditions, is later converted into equity, i.e., the lender receives participation rights in the company instead of the loan amount.
The following article explains the taxation of convertible loans to Swiss domiciled companies and for lenders resident in Switzerland.

A convertible loan (or SAFE in Switzerland) is a hybrid financing instrument that has characteristics of both debt and equity. It is characterised by the fact that, in addition to the claim to loan repayment, the creditor receives an option to convert the loan into an equity participation under predefined conditions.

Tax consequences at the level of the company

The following taxation principles apply at the level of the company:   

  • Deduction of interest paid: If the company pays interest on the convertible loan, it can be deducted and qualifies as a business expense.
     
  • Tax neutral conversion into equity: The conversion of a loan into newly issued equity is tax neutral, i.e., does not trigger any profit tax.
     
  • Stamp Duty: The issuance of new equity in the amount of the converted loan is subject to issuance tax [Emissionsabgabe] at the time of conversion.
     
  • Formation of capital contribution reserves: The company may form capital contribution reserves upon conversion of the loan provided that the relevant requirements are met. 
     
  • In principle no withholding tax: Any interest on the convertible loans is generally not subject to withholding tax. Withholding tax is only due if the convertible loan qualifies as a bond [Anleihens- oder Kassenobligation]. In practice, this is usually not the case.  

 

Tax consequences at the level of the investor

The tax consequences at the level of the investor primarily depend on whether the convertible loan is qualified as a “classic” convertible loan or not.

Classic convertible loan

A classic convertible loan is characterised by the fact that the lender exclusively receives newly issued equity securities of a company domiciled in Switzerland and that the equity securities are issued at par (or with a premium). If these conditions are not met, the loan is a non-classical convertible loan.

In practice, classic convertible loans are often found in start-ups. In the case of a classic convertible loan, only periodic interest payments and any potential issue discount or repayment premiums are taxed at the level of the investor. A discount at the time of conversion, on the other hand, is subject neither to income nor to withholding tax.

The treatment of a convertible loan as a classic convertible loan requires that the parties initially agree upon that loan will be converted into newly issued shares.

Non-classical convertible loans

In the case of non-classical convertible loans, all payments or monetary advantages received by the investor in excess of the capital originally invested is subject to income and, if applicable, withholding tax. Any discount granted to the investor in a financing round is thus also subject to income tax. This can lead to unpleasant surprises, especially in the case of convertible loans granted by Swiss residents to foreign companies.

Disclaimer: The information contained in this article is for general information purposes and does not constitute legal or tax advice. In specific individual cases, the present content cannot replace individual advice by expert persons.

 
Let’s
Team Up
You have a project, case, legal issue or anything else you want to ask us? We are passionate to find out how we can team up with you to get it done.
Let's get in touch