On July 29, the Knesset passed the Law for the Change Of National Priorities
(Legislative Amendments For Achieving Budgetary Goals For The Years 2013 and
2014). Generally it takes effect from August 1, 2013, but most of the tax-rate
and trust changes apply from January 1, 2014. Below is a non-exhaustive overview
of the new trust rules.
Unlike before, the overall aim is to tax any
trust anywhere in the world with Israeli beneficiaries.
In the case of a foreign-residents trust (FRT), no Israeli tax
is imposed on income and gains from foreign sources. The new law rules out
Israeli-resident beneficiaries and changes the name of a trust (previously it
was called a foreign-resident settlor trust).Definition:
An FRT is now
defined as one of the following: (1) EITHER a trust in which all the settlors
(grantors) and all the beneficiaries are foreign residents in the tax year, OR
all the settlors are foreign residents and all the beneficiaries are
public-purpose beneficiaries or foreign residents, AND there were no
Israeli-resident beneficiaries since its formation; (2) ALTERNATIVELY, an FRT is
a trust in which all its settlors are deceased and all the beneficiaries in the
tax year are foreign residents, OR all the settlors are deceased and all the
beneficiaries are public-purpose beneficiaries or foreign residents, AND there
were no Israeli-resident beneficiaries since its
Unfortunately, the above definition is far from clear, and
doubts already exist.
For example, if a trust has Israeli-resident
beneficiaries 20 years ago, is it always precluded from being an FRT? Charity
trusts: A public-purpose beneficiary does not count as an Israeli-resident
beneficiary and won’t taint an FRT.
A public-purpose trustee is defined
as the State of Israel, a municipality, Keren Kayemeth LeIsrael-Jewish National
Fund, Joint Israel Appeal, charitable public institutions per Section 9(2) of
the Income Tax Ordinance, or similar bodies exempt from tax in Israel, or a
public body so prescribed by the director of the Israel Tax Authority (ITA) with
the approval of the Knesset Finance Committee.Tax treatment:
tax is imposed on income and gains of an FRT from foreign sources. Since the FRT
is classified as a foreign resident, it will be taxable on Israeli-source income
and gains, subject to certain exemptions, such as interest on PATACH
foreign-currency deposits and capital gains on Israeli securities that are
unrelated to Israeli real estate or natural resources.
may be revocable or irrevocable, discretionary or specific.
conditions will continue to apply to an FRT. In particular, no beneficiary may
exert “control or influence” over the trust or its assets, and trust assets
cannot originate from transfers from an Israeli-resident beneficiary or their
Under the new law, all trust distributions received
by an Israeli beneficiary from August 1, 2013, onward must now be reported on
his or her annual Israeli tax return. Previously, FRT beneficiaries only had to
report noncash distributions received.
Israeli-resident beneficiary trust
An Israeli-resident beneficiary trust (IRBT) is defined as a trust
in which: (1) All the settlors are foreign residents, from formation up to the
tax year, and; (2) There is at least one Israeli-resident beneficiary in the tax
A public-purpose beneficiary (charity, see above) does not count as
The type of IRBT that qualifies for better tax breaks is a
“relatives trust.” A relatives trust is defined as an IRBT in which all the
settlors and all the Israeli-resident beneficiaries are related in one of the
following ways: (a) The settlor is a first-degree relative of the beneficiary;
namely, a parent, grandparent, spouse, child or grandchild; OR (b) the settlor
is a second-degree relative of the beneficiary (sibling, spouse’s children,
spouse of each of the aforementioned, child of sibling, parent’s sibling); AND
the assessing officer is satisfied that the formation of the trust and
contributions to it were in good faith; AND the beneficiary did not give
consideration for his or her “right” to trust assets.
In addition, the
trustee must report the relatives trust within 60 days of its formation or
transformation into one, or within 180 days after August 1, 2013 (i.e., by
January 27, 2014, apparently) in the case of pre-2014 trusts.Israeli tax
treatment and timing – relatives trust:
Generally, distributions by a trustee to
an Israeli-resident beneficiary of foreign-source income will be taxed in Israel
at 30 percent.
Distributions of capital are exempt from Israeli tax. For
these purposes, capital means an asset contributed to the trust that would have
been exempt from Israeli tax had the asset been transferred (i.e., gifted) by
the settlor directly to the beneficiary. In a mixed distribution, income is
deemed to be distributed before capital. If a distribution is made to several
beneficiaries, an Israeli-resident beneficiary is deemed to receive capital pro
rata to his share of the distribution.
Alternatively, the trustee may
elect within 60 days of its formation or transformation into one (unclear what –
a trust?), whichever is later, to allocate foreign-source trust income to an
Israeli-resident beneficiary and be taxed thereon at 25%. Such an election
cannot be revoked so long as the trust is a relatives trust. Income taxed at 25%
will not be taxed later when distributed.
Assets contributed to a
relatives trust are treated like a direct transfer from the settlor to the
beneficiary; i.e., no Israeli tax if a bona fide gift.Israeli tax
treatment and timing
– IRBT but not a relatives trust: The trust will subject to
Israeli tax on worldwide income and gains like a regular Israeli-residents trust
(IRT). Trust income will be taxed like income of an Israeli-resident
If a relatives trust stops being one, this must be reported
within 60 days to the ITA. It seems a 30% deemed distribution tax charge was
intended but may not apply in practice, the way the final law was
Olim beneficiaries portion taxed?
A 10-year Israeli tax holiday
will apply to overseas income and gains of the trust if: (1) If a trust becomes
a relatives trust following the migration to Israel of a new or senior returning
resident (after living abroad five to 10 years) on or after August 1, 2013, on
that person’s share of such income; or (2) if a foreign-resident settlor sets up
a relatives trust, for the benefit of new or returning residents, for the
remainder of their 10-year period of benefits. If the settlor dies, the tax-year
holiday is dependent on all the beneficiaries being new or returning
residents.Effect of death of settlor or his spouse:
Note that after the
death of a settlor, a relatives trust becomes instead an Israeli-residents
trust. That means the worldwide income and gains of the trust income will all be
fully taxable in Israel.
The taxpayer is the trustee. It seems this
provision will affect FRT trusts overnight from January 1, 2014, if any settlor
died in the past. Exceptions are: (1) If the settlor’s spouse is still alive and
was married to the settlor when any assets were contributed to the trust, the
trust remains a relatives trust in the spouse’s lifetime; (2) The 10-year tax
holiday will apply to new or senior returning residents’ share of overseas
income and gains.Foreign beneficiaries’ portion taxed?
Apparently not in
the case of a relatives trust, but Israeli tax will generally apply to all trust
income after the death of a settlor. It is unclear if existing regulations will
apply regarding the refund of Israeli tax paid on foreign income distributed to
foreign-resident beneficiaries, or even exempting foreign income allocated to
foreign-resident beneficiaries and distributed to them within a prescribed
period (zero to four years) subject to strict conditions.Are past gains
Apparently yes, if they crystallize on or after January 1,
: See above regarding notice to the ITA within 60 days after
a trust starts or stops being a relatives trust.Reporting
and/or beneficiaries must report taxable income on annual tax returns.
Clarification will need to be published in this regard.Commencement
new trust tax regime applies to all trusts from January 1, 2014.Comments
Affected families and trustees should consider urgently what action to take
before the end of 2013. Is it time to crystallize income? Hive off foreign
beneficiaries? In many cases, detailed calculations and up-to-date trust
accounts will be helpful.
As always, consult experienced tax advisers in
each country at an early stage in specific firstname.lastname@example.org
Harris is a certified public accountant and tax specialist at Harris Consulting
& Tax Ltd.