C'tee chases holding companies, hi-tech employees

Offshore companies and stock options came under the microscope of the Committee for Reviewing Cash Box Companies and Holding Companies when it met representatives of the Israeli CPA Institute, Law Society and Tax Advisors Society on October 10.

According to an announcement of the Israeli Tax Authority (ITA) on that date, the aim was to receive feedback before the committee makes its final decision about what to propose.

The committee is reportedly intent on taxing the annual undistributed profits of cash box companies and holding companies, and is therefore considering two alternative possible proposals.

The first alternative proposal calls for individual shareholders to be taxed on half the undistributed profits of cash box companies and half the passive undistributed profits of private holding companies. None of these terms are defined in the ITA announcement.

That would presumably result in a 15 percent tax charge on such profits.

The second alternative proposal calls for all highly profitable companies (not defined) to possibly be subject to interest at a rate of 4%- 8% on undistributed profits.

Stock options The committee is also reviewing the tax treatment of options for employees – no details are included in the announcement.

When? According to the announcement, the committee is expected to finish its work shortly and will then report to the finance minister.

It remains to be seen what may eventually be legislated.

Comments These are important topics, as substantial amounts may be at stake for many people – from successful businessmen and investors to employees in many Israeli companies.

Therefore the committee really should publish its proposals in draft form and consult the public.

Israel already has rules for taxing undistributed profits of controlled foreign corporations, foreign professional corporations and companies controlled and managed from Israel. It is not clear why more rules are proposed.

Moreover, the committee seems to be going the wrong way down a one-way street.

Taxing annually the retained profits of foreign subsidiaries doesn’t usually work well – those profits are often needed to pay for worthy acts like export marketing or financing customer credit. So exceptions will be needed for various foreign subsidiaries of Israeli firms.

The UK has already chosen to relax its rules in this area. And the United States may as well after its presidential election by considering a move to a territorial system of tax – i.e.

exempting income derived outside the US.

Many other countries already have a territorial system – Hong Kong, Singapore and Canada (partly), to name a few. Israel had a territorial system before 2003.

If Israeli holding companies are also caught, this will encourage reorganization of a group’s activities into fewer larger companies – this is like re-shuffling the same cards, not dealing new ones. It remains to be see if additional tax revenues ensue.

As for employee stock options, Israel has well established rules in Section 102 of the Income Tax Ordinance. If certain conditions are met, employees enjoy a 25% tax rate on their gain, which only falls due when they realize their options (or shares) for cash. The quid pro quo is that the employer entity cannot deduct the employee benefit as an expense for Israeli tax purposes.

Usually the applicable conditions are met as approved trustees hold the option title documents until the tax is paid. So if the option system ain’t broke, why fix it? Employee options are popular in Israel, especially in the successful hi-tech sector. So this issue is potentially dynamite.

Final comment Perhaps reason will prevail – a general election is approaching in Israel and the committee’s proposals may affect a lot of voters.

Let’s hope the proposals aren’t buried until after the election. As always, consult experienced tax advisers in each country at an early stage in specific cases.

leon@hcat.co

The writer is a certified public accountant and tax specialist at Harris Consulting & Tax Ltd.