Demonstrators protest against the US government's tax reforms next to the New York Stock Exchange.
(photo credit: REUTERS/EDUARDO MUNOZ)
With the US Senate approving a major tax overhaul – cutting the corporate tax rate from 35% to 20% – the move may cajole Israeli companies and start-ups to relocate operations abroad.
Prime Minister Benjamin Netanyahu sought to stymie the possible capital flight by hinting that Israel needs to follow the US.
“The US decided last night to cut taxes,” Netanyahu said at a Sunday cabinet meeting. “They’re fighting bureaucracy, too. We are in a global world; we cannot fall behind in the benefits we grant our business sector, not when it comes to taxes and not when it comes to reduced regulation and bureaucracy.”
In Israel, the corporate tax rate is at 24%, with plans to go down to 23% next month. The new American rate closes the gap and supersedes Israel in offering a competitive rate, granting more incentives to reincorporate and expand operations in the United States.
“There was [previously] an incentive to bring profits to Israel since Israel has a lower rate,” said Philip Stein, an Israeli-American tax accountant, who commented on the attitude before the US legislation. “I think now there’ll be less of an incentive to bring profits into Israel. Companies were trying to avoid leaving profits in the US because there’s a higher tax rate.”
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The Israeli government may not feel compelled to react to Trump’s tax cut
, partially because so many local companies are already eligible for preferential rates.
Israel-based exporters pay 16% in corporate tax if they’re based in the center of the country, and 7.5% if they’re located in the periphery. And multinational corporations – like Intel – that are classified as strategic firms can get tax breaks that reduce their bill to 5%.
Other hi-tech firms are eligible for additional tax deductions if they register intellectual property in Israel. And with Israel’s “Innovation Box” proposal, the corporate tax rate is 6% for companies with revenue over $2.5 billion, and the withholding tax rate on dividends has gone down to 4% – from five times that, previously.
For Israeli companies which pay a highly subsidized corporate tax rate, the legislation imposes a new 10% “minimum tax” on profits if they’re foreign subsidiaries of US companies. That could bite into local firms which are incorporated in the States.
Yet many companies are neither eligible nor interested in acquiring Israeli tax deductions, making the US 20% flat tax rate more attractive.
While most Israeli companies cannot relocate their operations – such as small and medium-sized firms, food processors, Dead Sea mining – hi-tech companies and start-ups
are less geographically wedded to one locale.
Regarding foreign investment, an American financier may have once looked at an Israeli start-up – with a much lower corporate tax rate – as an attractive vehicle in which to park his funds, today’s parity could reduce American interest in investing in pure Israeli companies.
“The biggest likely change is that US corporates will spend much more domestically (in the US),” said attorney Jeremy Lustman, head of DLA Piper’s Israel practice. “Either more Israeli tech companies will come onshore in the US (as is increasingly the case) and be considered a domestic acquisition candidate for US corporates. Or, non-US corporates (Europe, China, Australia, etc.) will continue to increase their pace of Israeli M&A, which would likely more than makeup for any limited drop-off from US corporates.''
And for Israelis investing in United States real estate, the bill encourages investing as a corporation, with the lower tax rate.
And some Israeli-Americans may face a rude awakening in their tax bill, as many itemized deductions and personal exemptions are being eliminated. Families with young children will see more money in child tax credits. This all presupposes that you earn more than $100,000 (NIS 350,000) as a single taxpayer, compelling you to pay US and Israeli taxes.
A quarter of Israel’s exports in the first half of 2016 were destined for the US market, according to the Israel Export Institute. Being closer to customers is yet another reason to set up shop across the Atlantic.
Israel’s efforts to further cut corporate taxes could help forestall the country’s declining competitiveness. According to the World Bank, the Jewish state has slipped in the business rankings, falling to 54th place in 2017, a far cry from its perch at 29th place in 2009.
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