Across the globe, tax administrations are applying economic substance requirements with a level of rigour that has increased significantly over the past decade. The question they are asking is deceptively simple: does this entity actually do what it claims to do? And increasingly, the answer they arrive at is shaped not by legal form or contractual arrangements, but by where people sit, where decisions are made, and where value is genuinely created.
For multinational groups operating across Switzerland and international markets, this shift has real and practical consequences, and we think it’s worth taking a closer look at where things stand.
What has changed?
The direction of travel is not new. The OECD’s BEPS project laid the intellectual groundwork years ago, and the introduction of Pillar Two’s global minimum tax rules has only accelerated the trend. But what we find particularly notable is the consistency and coordination of enforcement.
Tax authorities in Europe, the Middle East, Asia-Pacific, and Latin America are now applying remarkably similar tests when they examine international structures. They want to see that an entity claiming income — whether from intellectual property, financing, or management services — has the qualified personnel, the decision-making authority, and the operational capacity to justify that claim. Paper-based arrangements, where key functions are outsourced or where board meetings are the only local activity, tend to draw challenge after challenge.
Switzerland, with its long-standing emphasis on substance in tax rulings and its alignment with OECD standards, is in many ways well positioned. But Swiss-headquartered groups are not immune. Outbound structures — where Swiss entities route income through subsidiaries in lower-tax jurisdictions — are under particular scrutiny, as are arrangements where Swiss principal companies rely heavily on offshore service entities without demonstrable functional depth.
Where the pressure points lie
We’d highlight a few areas that are attracting heightened attention.
Intellectual property holding structures remain a primary focus. Tax authorities are looking closely at whether the entity that owns or licenses IP has the technical and commercial staff to develop, enhance, maintain, protect, and exploit it — the so-called DEMPE functions. Structures where IP ownership sits in one jurisdiction but all meaningful R&D and commercial exploitation occurs elsewhere are increasingly difficult to defend.
Intra-group financing is another area of sustained scrutiny. Entities that provide intercompany loans or guarantees need to demonstrate genuine decision-making capacity around credit risk assessment, funding strategy, and treasury management. A thinly staffed entity with no independent access to capital markets will likely struggle to justify the margins it earns.
Management and advisory fees are also under the microscope, particularly where regional holding companies charge subsidiaries for strategic oversight or shared services. Authorities are asking pointed questions about what specific services are being provided, by whom, and whether the fees bear any reasonable relationship to the cost or value of those services.
The practical challenge
In our view, the difficulty more often than not is not a lack of substance — it is a lack of documentation and alignment. The business may well have the right people doing the right work in the right places, but if the legal and transfer pricing documentation tells a different story, or if functional profiles have not been updated to reflect how the business actually operates today, the risk of challenge tends to grow.
This is especially common after restructurings, acquisitions, or organic changes in operating models. A structure that was fully substantiated five years ago may no longer reflect current reality. Supply chains shift, key personnel relocate, decision-making migrates — and the documentation often lags behind.
A proactive approach
Rather than waiting for a tax authority to raise questions, groups can take some practical steps to strengthen their position.
A substance audit — reviewing each material entity’s functional profile, headcount, decision-making processes, and local activities against the income it reports — is what we’d consider a sensible starting point. This need not be an enormous exercise. A focused review of the five or six entities that account for the bulk of intercompany flows will usually surface the most significant gaps.
From there, the work tends to fall into two categories. First, operational adjustments: ensuring that key personnel are genuinely located where they need to be, that board and management decisions are taken locally, and that entities have the resources to perform the functions attributed to them. Second, documentation: updating transfer pricing reports, intercompany agreements, and functional analyses to reflect how the business actually works — not how it was designed to work several years ago.
We’d also note that substance is not solely a tax issue. Regulatory authorities, particularly in financial services, are applying their own substance expectations, and the reputational risk of being seen to maintain hollow structures is something boards are taking more seriously.
Looking ahead
We don’t see the trend towards substance-based enforcement reversing any time soon. If anything, the combination of Pillar Two implementation, enhanced exchange of information between tax authorities, and the growing use of data analytics in tax audits will only make it easier for authorities to identify and challenge structures that lack genuine operational depth.
The message for multinational groups is straightforward: take the time to ensure that your structures reflect your business as it operates today, not as it was designed to operate in the past. We find that the cost of a proactive review is modest compared to the cost of defending an assessment — or, worse, discovering that a structure you relied on no longer holds up under scrutiny.
