Sweden: trusts and foreign foundations in Swedish tax law

622 Trusts & Trustees, Vol. 17, No. 6, July 2011, pp. 622 629 Sweden: trusts and foreign foundations in Swedish tax law David Kleist* Abstract Sweden does not have domestic trust regulation and is not a party to the 1985 Hague Convention on the Law Applicable to Trusts and on their Recognition. Furthermore, only a few cases on trusts and foreign foundations have been decided by the highest tax court in Sweden. The Swedish tax treatment of trusts and foreign foundations is therefore unclear, but is likely to be given more attention due to Sweden s recent conclusion of a number of tax information exchange agreements. Although there are many unclarities, some conclusions can be drawn on the basis of the cases and relevant legal provisions. Introduction The concept of trust and the idea of splitting the ownership of property into legal title and equitable title are unknown to the Swedish legal system and, as a consequence, many of the issues discussed in this publication are virtually terra incognita to the most Swedish lawyers. However, the amount of property placed into trust by Swedish resident individuals or held in trust for the benefit of Swedish resident individuals is probably substantial. In spite of this, the Swedish tax implications of placing property into trust are far from clear. Furthermore, although less alien to the Swedish lawyer, there are also many unresolved issues relating to the tax implications of Key points Trusts are unknown to the Swedish legal system. The few cases decided by the highest tax court in Sweden and the relevant legal provisions give some clues as to the Swedish tax treatment of trusts and foreign foundations. The topic is likely to be given raised attention due to Sweden s recent conclusion of a number of tax information exchange agreements. transferring property to a foreign foundation. Only a few Swedish judgments dealing with trusts and foreign foundations have been delivered. However, tax matters relating to trusts and foreign foundations are likely to be given increased attention in the coming years, not least as a result of the fact that Sweden in the last few years has entered into of a number of tax information exchange agreements with jurisdictions such as Jersey, Guernsey, Isle of Man, Gibraltar, Belize, British Virgin Islands, the Cook Islands, and Liechtenstein. 1 Tax matters relating to trusts and foreign foundations are likely to be given increased attention in the coming years, not least as a *David Kleist, Researcher at the School of Business, Economics and Law, University of Gothenburg, and Advokat at Advokatfirman Vinge KB, Nils Ericsonsgatan 17, Box 11025, 404 21 Gothenburg, Sweden. Tel: þ46 31 722 3579; Fax: þ46 31 722 3700; Email: david.kleist@vinge.se; www.vinge.se. 1. By the end of February 2011, Sweden had entered into 29 tax information exchange agreements, out of which 12 had entered into force. ß The Author (2011). Published by Oxford University Press. All rights reserved. doi:10.1093/tandt/ttr051 Advance Access publication 21 April 2011

Trusts & Trustees, Vol. 17, No. 6, July 2011 Jurisdiction-specific articles 623 result of the fact that Sweden in the last few years has entered into of a number oftaxinformation exchange agreements withjurisdictions such as Jersey, Guernsey, Isle of Man, Gibraltar, Belize, British Virgin Islands, the Cook Islands, and Liechtenstein The establishment of a trust by a Swedish resident individual, potentially giving rise to tax implications in Sweden, can of course have many different purposes. Historically, the Swedish tax burden is likely to have been a major incentive for placing property into trust, either as a form of tax planning or for the purpose of illegal concealment of income and capital from the tax authorities. Gift and inheritance tax was levied at progressive rates. The top bracket was quickly reached and the highest rate was therefore in practice often applicable to the major part of a gift or inheritance, even for close relatives. 2 Furthermore, wealth tax was levied on the net amount of capital held by a taxpayer 3 and in the 1970s and 1980s the marginal income tax rate exceeded 70 per cent. Moreover, the relatively high level of openness of Swedish authorities (or low level of secrecy, depending on how you put it), has probably been another important factor for Swedish residents having placed property into trust. A decision by the Swedish tax authority on tax assessment is public, meaning that information on the taxable income of all Swedish taxpayers is freely available to the press. Historically, the Swedish tax burden is likely to have been a major incentive for placing propertyinto trust Today, the tax environment in Sweden is very different. The gift and inheritance tax was abolished with effect from 17 December 2004 and the wealth tax was abolished on 1 January 2007. Although individuals are still subject to higher income tax than in most countries, the tax rates do not even come close to those applicable in the past. Furthermore, the abolishment of the wealth tax means that the incentive to use trusts in order to avoid publicity may not be as strong as in the past, as the decision by the tax authority on tax assessment no longer comprises an assessment of the taxpayer s wealth. Although the above-mentioned motives for placing property into trust are weaker than they used to be, they may still have some bearing. Furthermore, there may of course be other reasons for using trusts, such as asset protection, the protection of beneficiaries against their own inability to handle money, or the transfer of property without limitation by rules on forced heirship. In addition, the Swedish tax treatment of trusts is of relevance where property has been placed into trust by a non-resident individual who subsequently becomes a resident of Sweden or where a beneficiary of a trust is resident in Sweden for tax purposes. In spite of the fact that there are a number of situations where the Swedish tax treatment of trusts is of relevance, Swedish case law concerning trusts is very sparse. The reason for this is probably that, at least until now, it has been difficult for the Swedish tax authority to obtain information relating to trusts and, as a result, only a few cases have been brought to court. Only two Swedish Supreme Administrative Court (SSAC) judgments on the tax treatment of trusts have been delivered. 4 Both of them are advance rulings, which have been appealed to the SSAC. On a few occasions, the SSAC has rejected applications for advance rulings since it has found that the circumstances presented by the applicant were not sufficiently clear. 5 In spite of the fact that there are a number of situations where the Swedish tax treatment of trusts is of relevance, Swedish case law concerning trusts is very sparse 2. The highest tax rate was 30 per cent when the gift and inheritance tax was abolished, but was in the 1970s as high as 70 per cent. 3. When the wealth tax was abolished, it was levied at a rate of 1.5 per cent on wealth exceeding SEK 1,500,000 (roughly corresponding to EUR 170,000). 4. RÅ 2000 ref 28 and RÅ 2008 not. 94. 5. RÅ 1988 not. 56, RÅ 1999 not. 20 and RÅ 2010 not. 4.

624 Jurisdiction-specific articles Trusts & Trustees, Vol. 17, No. 6, July 2011 Many of the purposes for placing property into trust are also relevant to the transfer of property to a foreign foundation. The Swedish tax implications of transferring property to a foreign foundation are almost as uncertain as the tax implications of placing property into trust. The purpose of this article is to examine the cases on trusts and foreign foundations that have been decided by the SSAC and the relevant Swedish regulation in order to try to shed some light on the tax status of trusts and foreign foundations in Sweden and its implications for settlors/founders, trusts/foundations, trustees, and beneficiaries. The tax status of trusts and foreign foundations A first question to answer is whether a trust or a foreign foundation can be regarded as a body corporate for tax purposes. The consequence of regarding a trust or foreign foundation as a body corporate for tax purposes is that income relating to the trust property or to the property that has been transferred to the foundation is taxed at the level of the trust or foundation. As a consequence, the beneficiaries are not taxed until funds are distributed to them. According to the Swedish Income Tax Act of 1999, 6 entities with legal personality are considered resident for tax purposes in Sweden if they are registered in Sweden. 7 This provision is not applicable to trusts and foreign foundations, first because they may not have legal personality, secondly because they are not registered in Sweden. Foreign entities (meaning entities registered abroad) with legal personality are considered as non-resident persons, 8 meaning that they are liable to tax in Sweden in respect of certain types of income, such as income from a permanent establishment or real estate in Sweden, royalty paid by a business in Sweden, or dividends paid by a Swedish company. 9 A foreign entity with legal personality is defined as a: foreign association if it, according to the legislation in the state where it belongs, (i) may acquire rights and incur liabilities, (ii) can sue and be represented in court and in front of authorities, and (iii) owners do not have free access to the assets of the association. 10 It is not decisive whether the entity is regarded as having legal personality in the jurisdiction where it is established. Since it is typically the trustee rather than the trust itself that can sue, acquire rights and incur liabilities, it seems that the definition excludes most forms of trusts in most jurisdictions. 11 The SSAC has not addressed the question of whether a trust can be regarded as a body corporate for tax purposes. The SSAC has not addressed the question of whether a trust can be regarded as a body corporate for tax purposes As regards foreign foundations, the question is a bit more complex. On the one hand, it can be argued that since foundations are not associations in a strict sense and do not have any owners, they would fall outside the scope of the definition of foreign entity with legal personality. 12 On the other hand, it can be argued that the definition should be interpreted extensively, as a foreign foundation comparable with a Swedish foundation would otherwise not be regarded as a taxable entity, in spite of the fact that a Swedish foundation is deemed to be a body corporate for tax purposes. 13 6. Inkomstskattelagen (1999:1229). 7. Ch 6, s3 inkomstskattelagen. 8. Ch 6, s7 inkomstskattelagen. 9. Ch 6, s11 inkomstskattelagen. 10. Ch 6, s8, para 1 inkomstskattelagen. 11. Cf Teresa Jönsson, Trustens ställning i svensk skattelagstiftning, IUR Information 2004, Issue 6/7, 12 13, who concludes that trusts (presumably referring to trusts that do not have legal personality in the trust jurisdiction) cannot be regarded as taxable entities under Swedish law. 12. Peter Sundgren, Beskattning av utländska privata truster och familjestiftelser, IUR Information 1997, Issue 24, 19. 13. Cf Kent Simon, Skattenytt 1992, 417.

Trusts & Trustees, Vol. 17, No. 6, July 2011 Jurisdiction-specific articles 625 In 2003, the wording of the third criterion of the definition of foreign entity with legal personality was changed slightly to clarify that an association does not need to have owners in order to constitute an entity with legal personality. 14 Furthermore, the wording of the definition as it existed prior to the amendment was interpreted by the SSAC in RÅ 2004 ref 29. The SSAC held that a Norwegian foundation was a foreign entity with legal personality in accordance with the definition. According to the SSAC, the purpose of the provision was to determine whether taxation shall take place at the level of the entity or at the level of the owners. Taxation of the owners was not an option as the foreign foundation did not have any owners. If the foreign foundation had not been regarded as a body corporate for tax purposes, it would not have been possible to tax the income of the foundation at all, regardless of whether it conducted business in Sweden. Therefore, the SSAC found that the absence of owners did not exclude a foreign foundation from the scope of the provision. Thus, the amendment of the provision together with the ruling by the SSAC makes clear that a foreign foundation can be regarded as a body corporate for tax purposes. Although a foreign foundation can typically be assumed to constitute a body corporate for tax purposes, there are situations where the Swedish tax authority may challenge the existence of an entity with legal personality. In particular, that is likely to be the case where a transfer of property to a foundation is not irrevocable. Possibly, the fact that the founder has access to the capital of the foundation would mean that the third criterion of the above definition is deemed not to be fulfilled. Furthermore, according to chapter 1, section 2 of the Act on Foundations of 1994, 15 a Swedish foundation is established through the separation of property by one or more founders in accordance with a letter of donation. If the founders are able to take back the property, the property is considered as not sufficiently separated and, as a consequence, no foundation is deemed to exist. Although the foreign foundation may not be a nullity in the jurisdiction in which it is created and although the definition of foreign entity with legal personality does not require that the criteria applicable to Swedish foundations are fulfilled, it is possible that a court would disregard a foreign foundation that would be regarded as a nullity according to the regulation applicable to Swedish foundations. To sum up, a trust will typically not be regarded as a body corporate for tax purposes whereas the opposite can be said of foreign foundations. Attribution of income relating to trust property or property transferred to a foreign foundation With a few exceptions, Swedish tax law does not contain any specific rules for attributing income to a person. Instead, income is generally attributed to the person who is legally entitled to the income. 16 Income from assets, such as capital gains, royalty, interest, and dividends, is typically attributed to the person who under private law is considered the owner (ie the person who is in possession of the most important rights connected with the assets and who has control over the assets). Thus, for the purpose of determining whether a settlor/founder, trust/foreign foundation (if a body corporate for tax purposes), trustee, or beneficiary shall be liable to tax on income relating to trust property or property transferred to a foreign foundation, one must first determine who is legally entitled to the income according to Swedish private law. In this context, it can be noted that Sweden does not have any domestic trust regulation and is not a party to the Hague Convention of 1 July 1985 on the Law Applicable to Trusts and on their Recognition and is therefore not obliged to recognize the legal consequences in the trust jurisdiction of a trust agreement. As regards the determination of the legal consequences of a trust agreement or the creation of a 14. The definite form the owners was replaced by the indefinite form owners. See Goverment Bill 2003/04:10, 122. 15. Stiftelselagen (1994:1220). 16. Cf Ulrika Gustafsson Myslinski, Cahiers de droit fiscal international, International Fiscal Association, Rotterdam 2007, Vol 92b, 603 4 and 611 13.

626 Jurisdiction-specific articles Trusts & Trustees, Vol. 17, No. 6, July 2011 foreign foundation, there is an express provision in the Swedish Income Tax Act of 1999 concerning the treatment of foreign legal concepts, which is of relevance. 17 According to that provision, terms and expressions that are used in the Income Tax Act comprise corresponding foreign legal concepts unless it follows from the wording of the provision in question or the context that only Swedish legal concepts are covered. Thus, the legal implications of concepts in the Swedish legal system may be applied by analogy. Sweden does not have any domestic trust regulation and is not a party to the Hague Convention of 1 July 1985 on the Law Applicable to Trusts and on their Recognition and is therefore not obliged to recognize the legal consequences in the trust jurisdiction of a trust agreement If the settlor/founder can revoke the property or if the settlor/founder remains in control of the property, it can be argued that no transfer of ownership has taken place. Instead, the trust agreement or the creation of the foreign foundation may be regarded as an agreement regarding management of the settlor s/ founder s assets. 18 If the property has been sufficiently separated from the settlor/founder, there would in my view be no ground for attributing income to the settlor/founder. If the property has been sufficiently separated from the settlor/founder and the trust or foreign foundation is not regarded as a body corporate, one must discern whether income related to the trust property or property that has been transferred to the foreign foundation shall be attributed to the trustee or the beneficiary. If a trust or foreign foundation which is not regarded as a body corporate for tax purposes holds 25 per cent or more of the capital or voting rights of a low-taxed company and a Swedish resident person is considered as owner of or has control over the trust property or property transferred to the foundation, the income of the company may be deemed as income of the Swedish resident person on the basis of the Swedish controlled foreign corporation regulation. 19 If income related to trust property or property that has been transferred to a foreign foundation is not attributed to the beneficiary, the beneficiary may instead be taxed upon distribution. In order to discourage the use of Swedish family foundations for tax planning purposes, payments from a foundation that has as its purpose to distribute funds to a particular family or families or specific persons are under Swedish law taxed as income from employment. 20 The same provision may also apply to payments from foreign foundations with a similar purpose and it is possible that payments from a trust may also fall within the scope of the provision. If it was the intent of the settlor/founder to make a gift and the provision on payments from family foundations is not applicable, a distribution from a trust or foreign foundation without legal personality may instead be regarded as a gift. 21 Tax is not imposed in Sweden on gifts. 22 Similarly, if a trust or foreign foundation without legal personality was set up for the purpose of transferring funds to the heirs of the settlor/founder, a distribution may be regarded as an inheritance, which is also exempt from tax. 23 The same reasoning can probably not be applied to a distribution from a trust or foreign foundation with legal personality as the case law on Swedish foundations suggests that such distributions cannot be regarded as gifts 17. Ch 2, s2, para 1 inkomstskattelagen. 18. Cf Simon (n 13) 417 18, and the Swedish Tax Authority, Skatteverkets handledning för internationell beskattning, Skatteverket, Solna 2010, 788. 19. Ch 39 a inkomstskattelagen. 20. Ch 10, s6 inkomstskattelagen. 21. NJA 1984 s 246 and Peter Sundgren, Beskattning av utländska privata truster och familjestiftelser, IUR Information 1997, Issue 24, 20 1. 22. Ch 8, s2 inkomstskattelagen. 23. Ch 8, s2 inkomstskattelagen.

Trusts & Trustees, Vol. 17, No. 6, July 2011 Jurisdiction-specific articles 627 or inheritances from the settlor/founder. 24 Other alternatives than the above are also conceivable. For instance, a distribution from a trust or foreign foundation may be regarded as income from employment if the settlor/founder is the employer of the beneficiary. It is difficult to say anything in general regarding the attribution of income relating to trust property or property that has been transferred to a foreign foundation as the attribution will always have to be determined on the basis of the facts in each case. However, the two judgments on trusts delivered by the SSAC deal with related issues and are therefore analysed below. RA 2000 ref 28 The case is an advance ruling concerning the transfer of a pension liability for an employee by a Swedish employer to a Guernsey trust. According to the trust agreement, an undertaking was made to pay a pension insurance premium at the time the employment ended (upon retirement or otherwise). If the employee were to decease before the retirement, the pension liability would cease and there would be no obligation to pay the premium. One of the questions was whether the consideration paid to the trust for taking over the pension liability was deductible for the employer. The Swedish tax authority argued that the employer remained the owner of the funds paid as consideration. However, the SSAC held that since the funds transferred to the trust had been definitely separated from the employer and the responsibility for the pension liability had been transferred from the employer to the trust, the employer was entitled to a deduction for the payment to the trust. Although the question did not concern the attribution of income, the outcome supports the view that property must have been sufficiently separated from a settlor/founder in order for the transfer of the property to be accepted for tax purposes. 25 Another question asked by the applicant was whether the transactions triggered taxation for the employee and, if so, when. Under Swedish law, pension paid on the basis of the type of pension insurance in question is tax exempt. Taxation in connection with the pension payments was therefore precluded. Furthermore, since the employee did not have access to the trust property it was, according to the SSAC, not possible to tax the employee in connection with the transfer of funds from the employer to the trust. Instead, the employee was considered to have received a taxable benefit when the premium was paid. Finally, the applicant asked whether the employee would be liable to wealth tax and pension yield tax on the trust property. As regards wealth tax, the SSAC held that the employee was not owner of the trust property. Since wealth tax could also be imposed where a person is entitled to the yield of another person s property and reasonably should be deemed as owner of the property, the SSAC analysed whether the employee could be deemed as owner. However, since the benefits under the pension scheme would cease upon the death of the employee and since the pension premium was independent of the value of the trust property, the SSAC found that the employee was not a deemed owner of the property. On the same grounds, the SSAC held that the employee was not liable to yield tax on the trust property. Although this question did not concern taxation of ordinary income, it is clear that the SSAC held that the beneficiary was not considered as owner of the trust property and that income relating to the trust property (in this case computed on the basis of a standardized yield) was therefore not attributable to the beneficiary. Since the property had been sufficiently separated from the settlor, only two alternatives remain as regards the attribution of income, namely attributing the 24. NJA 1991 s 748 and RÅ 1998 ref 28. 25. See also, Case Nos 2088 09 and 2090 07 of the Administrative Court of Appeal in Stockholm delivered on 4 September 2008, where the court found that the trust property had not been sufficiently separated from the settlor since the settlor was entitled to add himself to the list of beneficiaries and was able to defer distribution from the trust until the time of his death.

628 Jurisdiction-specific articles Trusts & Trustees, Vol. 17, No. 6, July 2011 income to the trust (if a body corporate for tax purposes) or to the trustee. Unfortunately, the judgment did not cover that issue. RA 2008 not 94 The case is an advance ruling concerning a Swedish hockey player, who was resident in Canada for tax purposes. In accordance with an agreement between the hockey player and his Canadian employer, a part of his salary was paid into trust. The funds were managed in accordance with a trust agreement between the employer and the trustee for the benefit of the hockey player and were used for acquisition of securities. According to the legislation in Canada, preliminary tax was payable by the hockey player in connection with the payment of funds into trust and on yield relating to the trust property. The trust property would also be regarded as taxable income in Canada upon termination of the agreement with the trustee, but the hockey player would then be able to credit previously paid tax. The hockey player planned on taking up residence in Sweden. One question asked by him was whether a future capital gain on the securities was to be computed on the basis of an acquisition value corresponding to the market value when the trust agreement ended or on the historical acquisition value. The applicant also asked whether taxation would be triggered if the trust agreement ended when he had become a resident in Sweden for tax purposes. The Swedish tax authority argued that the trustee should be regarded as owner of the securities and that a transfer of the ownership would take place in connection with the termination of the trust agreement. If so, the hockey player would be allowed to apply the market value of the securities in connection with the transfer of ownership to him as acquisition value for the purpose of computing a future capital gain on the securities. Further, the tax authority argued that the hockey player had a claim on the trustee and that the transfer of securities to him would constitute an exchange of the claim against the securities, resulting in a capital gain. The National Tax Board (ie the authority which gave the advance ruling that was appealed by the Swedish tax authority) referred to a previous advance ruling concerning the tax consequences of the salary payments that were made into the trust. In the previous ruling, the terms of the trust agreement, mainly that the property would be managed on behalf of the hockey player, that he would be entitled to take decisions regarding the capital management and the fact that tax was payable by the hockey player when the salary was paid into trust resulted in the conclusion that the property had been transferred to him at that time. The National Tax Board came to the same conclusion this time. The SSAC concurred with the National Tax Board and emphasized that the purpose of the arrangement was to defer taxation in Canada until the active career of the hockey player had ended and not to transfer the ownership of the earned income. Thus, no taxation was triggered for him as a result of the termination of the trust agreement (as he remained the owner) and a future capital gain on the securities was to be computed on the basis of the historical acquisition value. To sum up, neither the trustee nor the trust itself was considered as owner of the trust property. Instead, the property was considered to have been transferred directly from the employer to the hockey player in connection with the payment of a part of his salary into the trust. Thus, if he had been resident in Sweden for tax purposes, income related to the trust property would surely have been attributed to him. Conclusions Although there are many uncertainties as regards the Swedish tax treatment of trusts and foreign foundations, some conclusions can be drawn. A trust that does not have legal personality in the trust jurisdiction will hardly fulfil the criteria of the definition of foreign entity with legal personality, and can be expected to not be regarded as a body corporate for tax purposes. A foreign foundation, on the other hand, can typically be assumed to constitute a non-resident person, which is taxable in Sweden in respect of certain types of income.

Trusts & Trustees, Vol. 17, No. 6, July 2011 Jurisdiction-specific articles 629 For the purpose of attributing income relating to trust property or property that has been transferred to a foreign foundation, Sweden is not bound by the legal implications of the creation of a trust or foreign foundation in the jurisdiction in which the trust or foundation is established. Provided that trust property or property that has been transferred to a foreign foundation has been sufficiently separated from the settlor/founder, income relating to the property can hardly be attributed to the settlor/founder. Unless the trust or foreign foundation is regarded as a body corporate for tax purposes, income relating to the property will in such cases be attributed to the trustee or the beneficiary. The choice between the trustee and the beneficiary will have to be made on the basis of the circumstances in each case. As pointed out above, the Swedish tax treatment of trusts and foreign foundations is likely to gain more attention in the future. Hopefully, more cases on trusts and foreign foundations will be decided, so that the tax treatment will become less obscure.