This year will mark a watershed in the Swiss real estate market, when the Government submits to Parliament the approval of the removal of restrictions that have prevented non-Swiss nationals from owning business or residential properties without having to go through complex authorisation processes.

The Government will continue to restrict the number of secondary residences in areas where they are already highly concentrated, but the overall impact of opening up the market to foreign investors is expected to be immense. In a country that is short of residential properties, the liberalisation of the market is expected to bring an influx of investors and strong growth in housing projects.

Regulations have determined who can own what kind of property and for what purpose since the early 1960s. The Federal Law on the Acquisition of Real Estate by Persons Abroad, known as the Lex Friedrich, of 16 December, 1983, meant that foreign companies and individuals were not allowed to acquire Swiss property without specific authorisation from the relevant canton. Individuals could only buy property in which they would live, while foreign companies could only buy property that they would use as their place of business.

Property could not be bought for investment purposes. Although foreigners were allowed to acquire holiday homes, the number of authorisations given for such transactions was limited by quotas and, over the years, the restrictions became even more extensive.

The current legislation

The most important revised regulations – known as the Lex Kohler – date from 1997 and removed the requirement for authorisation for non-Swiss nationals to purchase real estate for business purposes. Properties used for commercial, industrial or trading activities are therefore considered to be business properties, whether the owner uses them or they are rented out to a third party to pursue an economic activity. As a result, a foreign investor can purchase such properties solely as investments.

However, accommodation and administration are not considered business activities, with the exception of accommodation acquired as part of a permanent business establishment when it is necessary for the business or it is impossible in practical terms to separate the accommodation from the business site.

One consequence of this is that as Government activities are classed as administrative, public-private partnerships cannot acquire real estate in Switzerland.

Real estate investment by EU and EFTA-resident nationals

Place of residence affects the authorisation required to purchase residential property in Switzerland. Non-Swiss nationals residing abroad or in Switzerland, but who are not nationals of a country that is a European Union (EU) or European Free Trade Association (EFTA) member and who do not hold a valid residence permit are regarded as 'foreign people'. They may only purchase a single family house or apartment as their place of main residence without having to obtain authorisation. The same applies to building plots provided construction work starts within one year.

Foreign purchasers must occupy the dwelling themselves and are not entitled to rent it out even in part. They also need authorisation to buy a secondary residence or holiday home. As the number of authorisations is limited, and properties in some tourist areas are very sought-after, cantonal quotas can be rapidly exhausted, delaying or blocking real estate transactions.

There is a regulation under the Lex Kohler which does authorise foreigners to acquire residential real estate, but only for the construction of subsidised housing – accommodation with a rent which is low and reasonable compared with similar premises in the same locality, or newly-built housing of the same type when there is a local shortage. But these types of investment generally have very low returns and are unattractive to investors.

The position is easier for the nationals of an EU member state (currently the pre-2004 EU member states) and of the EFTA, whose legal domicile is Switzerland. The Lex Kohler regulations do not apply and they have exactly the same rights as Swiss nationals regarding any acquisition of real estate in Switzerland. This has been the case since 1 June, 2002, the date of the entry into force of the agreement between the EU, its member states and the Swiss Confederation on the free movement of persons.

Future trends in the Swiss property market

Without the current legislation, non-Swiss will be able to acquire business and residential properties in Switzerland without the attendant complex authorisation procedures. Foreign investors will also be able to invest capital in single-family houses, blocks of flats, apartments and building land intended for construction.

When the business property market opened up in 1997, prices in the industrial, hotelier and commercial sectors increased under the pressure of foreign investors. In theory, opening the residential property market to more potential purchasers should also see stronger competition and an increase in prices due to the limited property market.

As a result, foreign capital will be invested not only in tourist areas but also in the construction of housing, particularly as there is such a shortage of residential real estate in Switzerland. This direct foreign investment in residential construction should give a major boost to the Swiss economy. After an initial increase in rents, due to the combination of the new demand and the limited real estate available, rents should balance out as new residential properties become available.

Removing the current restraints will allow foreign banks to play a more significant role as discrimination between them and banks located in Switzerland will disappear, especially in relation to mortgages for residential acquisitions. In addition, foreign banks will also be entitled to participate in the auction sales of residential real estate following debt enforcement procedures, something which is currently prohibited.

Acquiring property through real estate funds will also be much easier. The new regime will abolish the restrictions imposed on acquisitions made by real estate investment funds or real estate companies and the acquisition of shares of such entities by non-residents. In contrast with the current situation, non-residents will be entitled to freely acquire shares of real estate companies or of investment funds even if such shares are not traded regularly on the market.

The end of the current regulations will also allow non-residents to invest in real estate used for administrative activities and will allow the development of public-private partnerships as foreigners will be free to invest, without any limitation, in real estate in Switzerland.

Another advantage of the new position will be that there will be opportunities for tax and succession optimisation for real estate owned by foreign nationals.

Impact on trusts

Together with the recent ratification by the Swiss authorities of the Hague Convention on the Law Applicable to Trusts and on their Recognition, the abolishment of the Lex Kohler will also favour the development and the importance of the trusts in Switzerland.

With the legal recognition of trusts, it will be possible for a trustee to freely appear before a public notary and to be entered as such in the Land Register. It will also be possible to avoid mentioning in the public registers the names of the trust beneficiaries or of the heirs in aid of whom the trust settled.

Holiday homes

Without the current restrictions, non-Swiss nationals will be entitled to purchase any real estate in Switzerland, no matter whether they hold a residence permit or not. There will be no differences between EU and EFTA nationals and other foreign nationals. The acquisition by natural persons will be possible in the whole country, in particular in tourist areas that are currently restricted as well as in towns.

The number of secondary residences – primarily holiday homes – is already very high in some tourist areas. The Swiss authorities wish to avoid an uncontrolled increase of the number of secondary residences and will develop measures to control holiday home development. These measures will be applicable to all purchasers of secondary residences in Switzerland, whether Swiss or not. Defining these measures and ways in which they can be enforced is a complex task and is expected to delay the removal of existing legislation until 2010.

The major achievement of the process of removing the old regulations will be to liberalise the real estate market in Switzerland and open it up to foreign investors. Abolishing these legal restraints will lead to a significant development of the whole real estate market in Switzerland, providing opportunities for real estate trusts, residential and business developments, and even providing for public-private partnerships.

Daniel Peregrina is a partner and Olivier Ducrey an associate at Baker & McKenzie in Geneva.