An accountant calculator taxes 370.
(photo credit: Ivan Alvarado / Reuters)
On December 23,
the Knesset made changes to the Israel’s tax regime for offshore companies by
passing Amendment 198 to the Income Tax Ordinance, effective January 1, 2014.
These changes affect controlled foreign corporations (CFCs) and foreign
professional corporations (FPCs).
Controlled foreign corporations
case of CFCs, the changes are fairly minor. A CFC is basically a lowly taxed
investment corporation. Israeli residents are taxed on deemed dividends received
from a CFC if they hold 10 percent or more of the CFC. A foreign corporation (or
any other body of persons) is considered to be a CFC if all of the following
conditions exist: First, the CFC primarily derives passive income or profits
that are taxed at a rate of 15% or less abroad. Previously the threshold was 20%
Second, the CFC’s shares are not publicly traded, or less than 30%
of its shares or other rights have been issued to the public or listed for
trading. Previously it was enough if the 30% was offered to the
Third (unchanged), Israeli residents own either directly or
indirectly more than 50% of the CFC, or an Israeli resident owns over 40% of the
CFC and together with a relative owns more than 50% of the company, or an
Israeli resident has veto rights with respect to material management decisions,
including decisions regarding the distribution of dividends or
Foreign professional corporations
In the case of FPCs, the
changes in Amendment 198 are broader. An FPC is basically a high- or low-taxed
foreign service corporation. As services are invisible, the Israel Tax Authority
(ITA ) thinks the services don’t always exist.
Until now, Israel deemed
FPCs to be controlled and managed from Israel even if they aren’t, making them
resident and taxable in Israel.
However, it was generally accepted that
Israel’s tax treaties don’t allow Israel to deem FPCs to be resident if they
aren’t. So now the amendment makes Israeli residents liable to Israeli
corporation tax on deemed dividends from FPCs if they are major shareholders
with a 10% interest or more.
A corporation is considered to be an FPC if
it meets all of the following conditions: it has five or fewer individual
shareholders; it is owned 75% or more by Israeli residents; most of its
10%-or-more shareholders conduct a “special profession” for the FPC; most of its
income or profits are derived from a special profession. The special professions
include engineering, management, technical advice, financial advice, agency, law
and medicine, among others.
Israeli tax is calculated at three stages:
(1) deemed dividend from the FPC to a major shareholder; (2) actual dividend
from an FPC to a major shareholder; (3) from a major shareholder if it is an
Israeli company to its shareholders.
There are many things wrong with the
new FPC rules.
First, low tax is NOT a criterion; Israel taxes FPCs in
high-tax countries too.
Second, Israel’s tax treaties only allow Israel
to tax the profits of foreign corporations that have a “permanent establishment”
(fixed place of business) in Israel; most don’t.
Third, it seems that
Israeli resident shareholders will pay corporation tax on FPC profits even if
they are individuals and not corporations.
Fourth, the Israeli tax
calculations are incredibly complex.
But apparently they may be
advantageous to the taxpayer in certain cases.Control and management in
If any foreign corporation is controlled and managed from Israel, it may
be deemed resident and taxable in Israel.
This principle is unaffected by
By coincidence, an important verdict in this area was
handed down by Judge Altuviah Magen in the Tel Aviv District Court on December
26. In the Yanko Weiss case, an Israeli company migrated to Belgium shortly
before realizing a large capital gain. The taxpayer claimed to be exempt from
Israeli tax under the Belgium-Israel tax treaty.
The ITA contended the
company remained controlled and managed in Israel and was therefore taxable on
the capital gain.
The court sided with the ITA because the whole
situation was strange. In particular, the local Belgian directors each earned a
mere 250 euros per month, which the court felt, on the face of it, was
insufficient to support the claim that those directors really exercised control
and management over the company’s business.As always, consult
experienced tax advisers in each country at an early stage in specific
Leon Harris is a certified public accountant and tax specialist at Harris
Consulting & Tax Ltd.