A small Swiss village has established itself as a financial services center by offering corporate tax breaks – much to the dismay of many European governments and some area residents – By Gerd Zitzelsberger

Pfaeffikon in Switzerland’s Schwyz canton has become a magnet for international financial services companies since lowering its corporate tax rates. About 1,000 people in this village of 7,000 inhabitants work in the field, managing $92 billion in assets. Other Swiss cantons hope to emulate the model, creating Pfaeffikon clones and dropping taxes.

It’s obvious as soon as one exits the train station that this is no ordinary Alpine village. A few cows graze to the left, while to the right stands a rather shabby 15-story residential tower. Between the two is a car dealer, where salesman Othmar Batschelet sells Rolls-Royces and Bentleys. His current showpiece is a 1955 Bentley without a price tag. A few steps further on, an old farmhouse, its window boxes overflowing with geraniums, has survived through the centuries. But it’s now surrounded by new office buildings, each more hideous than the next.

 

One of those buildings houses Konrad Bächinger, a banker, who points out the window and says, “This place is almost turning into a mini Wall Street.” That’s a fairly bold comparison, considering that Pfaeffikon is a village of 7,083 residents, 421 post office boxes and three abandoned factories. At noon, the streets are a study in siesta-like quiet. Yet, behind the façades, bankers and financial consultants juggle billions in assets.

A few of these have already fulfilled their dreams of financial fortune in Pfaeffikon. But for the finance ministers of neighboring countries, the village is a nightmare. A business that sets itself up here instead of in France or Germany can save millions in taxes, meaning that revenue is lost to national coffers. And not all the locals are enamored of Pfaeffikon’s new status.

Many warn, “don’t try to drive into the center of Pfaeffikon, you’ll never get there.” The reason for this – there is no center. During the 1970s and beyond, zoning was apparently unregulated or ignored here. Developers built to the very edges of their plots to maximize returns. Town planning went completely and literally by the wayside.

It’s not difficult to find the village itself, which is just 30 minutes from Zurich at the other end of Lake Zurich. The area used to be considered the “wrong side” of the lake. Baechinger, who grew up within sight of the village, remembers: “When I was a child, the people here led a meager existence.” Due to the industrial smog that used to hang over the region, people today still sometimes refer to it by a nickname: the red-eye coast.

But these days, Pfaeffikon is in the right place. It is right off the highway and on the express train line, making it just a 30-minute trip from downtown Zurich and 45 minutes from the nearest airport. “It takes longer to get from Heathrow to London,” said Baechinger. At the same time, something else distinguishes Pfaeffikon from the city – it’s not in the canton of Zurich but in Schwyz canton, which tourists tend to associate with idyllic mountain scenarios á la Heidi. But what makes the canton famous at the European Union commission in Brussels and among consulting firms are its tax advantages.

Tax advantages are the reason that 421 post office boxes aren’t enough for the town’s 7,083 residents. And the mailboxes in the many new office buildings often sport three or four company names each. A look at the official registry of companies shows many that have some kind of German connection. “Look around,” said Marco Walser, a financial advisor in the town. “There’s not much space for manufacturing operations here, which is why there are so many domiciliary companies.”

Domizilgesellschaft (domiciliary company) is the politically correct term for a company in Switzerland that draws most of its revenue from foreign sources – whether from administrative or licensing activities or in the form of dividends. Walser is familiar with the village’s corporate inhabitants. He works part-time as the town treasurer.

Mail-drop companies are as much a part of the Swiss myth as the country’s banking secrecy laws. In recent years, the practice has come under close scrutiny from Brussels. And despite their numbers, those firms represent only a small side income for Pfaeffikon’s coffers. What really brings in money are companies that actually operate in the village. One of those is OC Oerlikon, which manufactures high-tech components. The company moved its headquarters to Pfaeffikon several years ago.

The modern building across the street houses Bächinger and the other employees of the LGT Group. LGT is the private bank of the royal house of Liechtenstein and Pfaeffikon is just 45 minutes from Vaduz, the capital of Liechtenstein. Here, the bank manages the fortunes of its wealthy private clients, putting money into hedge funds and private equity funds.

A few doors down, a new, blue four-story building is home to Man Investments, the village’s largest employer. Man Investments is part of London’s Man Group, one of the world’s leading hedge fund providers. Man Group occupies three additional buildings in Pfäffikon and employs 520 people, almost as many as in its London headquarters.

Fund manager Rainer-Marc Frey keeps a somewhat lower profile. It was Frey who first brought the Swiss village to international prominence in the financial sector five years ago. “We had six difficult years at the beginning,” he recalled. Then in 1998, the treasurer of the Swiss national pension fund, who would later be fired, joined the Frey Fund board of directors and things began to look up. The pension fund gave the Frey Fund a contract to manage its billions until 2009.

The Man Group, which had been Frey’s neighbor for years, later bought his fund company for an astounding CHF1.3 billion (€782 million). Since then, Pfaeffikon has garnered a reputation as a place to get rich. Frey has since founded a new fund and once again taken on a “strategic partner.” This time, it was Swiss Re, a reinsurance and financial services company.

Even George Soros, the famous speculator who once “broke the Bank of England” has discovered Pfaeffikon. With two partners, he founded Glacier Re, a reinsurance company, in the village. Enticed by the success of the bigger firms, a few smaller asset and fund management companies, at least eight banks and 17 auditing and tax consultancies, have set up shop in Pfaeffikon.

Taken altogether, the financial services sector employs about 1,000 people in the village and manages assets worth more than €35 billion. Baechinger says, “at this point, we have at least 150 people here, from 25 different countries.” When the company first decided to beef up its presence in Pfaeffikon in 2000, it was much easier “to hire experts from all over the world here than in Liechtenstein,” he said. Like the other managers, he has high praise for the other benefits of the area, including the accessible location, the pleasant lakeside setting and the local authorities, which he says behave like service personnel.

Oh, and of course, there are the taxes. Each of Switzerland’s 26 cantons has what amounts to its own tax system and most of the 2,900 municipalities have the power to lower taxes even below the canton average. Corporate taxes for mail-drop companies are low everywhere in Switzerland but Pfaeffikon is a true paradise.

According to Walser, “a company here that shows a steady one million Swiss franc annual profit, has capital of half a million and no special deductions, currently pays CHF153,000 in taxes.” That makes the corporate tax rate in Pfaeffikon roughly the same as in Ireland, a known tax haven.

But in Ireland, it gets expensive when an entrepreneur starts buying a yacht, or even a small convertible – when he actually starts spending company profits. By contrast, the tax burden in Pfaeffikon remains low, thanks to a 75 percent deductible on dividend income. A family of four that spends one million Swiss francs in dividends, with no other income, would pay CHF137,000 in taxes. Even in the tax haven canton Zug, that figure would be CHF100,000 higher.

Neighboring countries, including Germany, keep adding clauses to their tax laws to try to prevent the flight of business and capital to tax havens like Pfaeffikon. But there’s no compelling reason why a new fund or reinsurance provider has to be headquartered in London or Munich. “And companies like that can be set up quickly here,” Walser says. The unspoken implication is that new tax laws are useless against that trend.

The Schwyz canton has led the way in tax advantages since the end of the 1990s. For Pfaeffikon, it was an easy decision. A large company with an extraordinary distribution paid CHF20 million into the municipal coffer. At the time, it was equivalent to almost half the town’s annual budget, making it easy to lower corporate taxes even further than the canton.

However, the tax breaks and financial services boom have not brought peace and harmony to Pfaeffikon. One monument to the strife is the vast factory ruins occupying what should be a beautiful spot on the shores of the lake. There are irreconcilable differences over plans for its future development. The increase in property values benefits almost exclusively seven local families, about 250 people, who own most of the actual land. “It’s beyond the means of the normal people here,” said resident Robi Diethelm. “If we were to have another child and need a bigger apartment, we would have to move elsewhere.” High earning bankers and money managers have driven rents so far up that the locals can’t afford them anymore.

The rest of Switzerland is largely unaware of the discord and the widespread complaint that the village is a soulless money factory. In fact, Pfaeffikon has become a national symbol of how a canton and a community can lower corporate taxes, attract new businesses and still increase tax revenue substantially despite the lower tax burden.

Various cantons and municipalities have followed Pfaeffikon’s lead. Towns like Nidwalden and Obwalden are unlikely to attract more than a smirk from the international financial sector. Both mini-cantons are located so deep in the mountains that it’s hard to imagine them ever developing into a Wall Street outpost. But the most recent canton to slash its corporate tax rate, Appenzell Outer Rhodes, could be a different story. It’s close to both the German and Austrian borders and St. Gallen is just around the corner. Ernst & Young tax specialist Stefan Kuhn predicts, “More Pfaeffikons will spring up.”

– Gerd Zitzelsberger is the Swiss correspondent for Süddeutsche Zeitung. This article was first published on Sept. 15.

 

 

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