By LEON HARRISShekel money bills(photo credit: REUTERS)
At the end of last year, we discussed a highly controversial new tax ruling from the Israeli Tax Authority (ITA) dealing with stock-option gains of immigrants and Israelis who relocate abroad and later return to live in Israel. The ruling claims that the option gain is now taxed in full on a cash basis if the options or underlying shares are sold once living in Israel, even if the gain vested while the individual was still living abroad (Ruling 0989/18 of November 7, 2018).This followed a 2016 ruling in which the ITA again ruled that a cash basis applied to salary earned by someone while resident in the USA but received after he became Israeli resident.All this caused a storm and the Israeli Bar Association and Israeli CPA Institute took the unusual step of drafting a strong joint protest letter to the ITA.The basicsEmployees holding under 10% of a company receive stock or stock options in a company may enjoy a 25% tax rate, instead of up to 50%, if the stock or option instruments are held on their behalf by an approved trustee for at least 24 months.The emigration rulingThe ITA published a no-name ruling (0989/18 of November 7, 2018), without the taxpayer’s agreement, which dealt with a Israeli software person who left Israel to reside and work for the same group in the US in September 2011 and returned to reside in Israel in August 2016. While he resided in the US, he was granted US stock options (not approved under ITO Section 102 apparently), which vested partly before and partly after his return to Israel. What happens when he sells the underlying stock?The ruling overturns previous ITA rulings and claims that the gain is salary, which is taxable in Israel upon receipt, i.e., on a cash basis. Therefore, if the individual sells the US options after returning to live in Israel, the full gain is taxed as salary at rates of up to 50%, but a credit for US taxes may be given for the portion of the vesting period when he was a US resident on a pro rata basis.The protest letterThe protest letter refers to such a substantial change, whereby the ITA changes its position of many years’ standing and fixes wide-ranging rules relevant to a broad population of employees. This should have been done in consultation with the professional bodies and perhaps also requires legislation, and definitely not by way of a ruling not by agreement, which was issued without public debate.The cash basis is intended to determine the time of reporting income, but this basis cannot be used to tax income that was not derived at all in Israel by a non-resident, and accordingly, this does not meet the conditions of Section 2 of the Income Tax Ordinance (for taxing income).As for options, the position of the OECD (which is binding on Israel as an OECD member) is that they should be taxed according to the country where the work was done. It is clear here that Israel is not the country where the income was derived and not the country of residence.Any new policy should apply from the date of publication of the change. It is not right that a person who relies on a published position of the ITA should, after a number of years, find that the ITA has decided retroactively to change its position. Worse still, reportable tax position 54/2018 says that employment income of an individual for work done in Israel is taxable in Israel, even if the individual was a foreign resident when he received the payment. No cash basis here! The protest letter comments that it is undesirable for an administrative body to behave inconsistently to collect tax which is not the right tax.CommentsAside from the above criticism, we note that the Ruling encourages yeridah, leaving Israel to live abroad and receive new options after the move.Moreover, there is no mention in the Ruling of Israel’s “exit tax”, capital gains tax on deemed sales of assets.All in all, the ITA has got itself into quite a pickle.
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