Your Taxes: Dividends - to be or not to be?

Tax Authority released statement December 25 clarifying what classifies as a dividend ahead of rising tax rates.

Your Taxes_311 (photo credit: Thinkstock/Imagebank)
Your Taxes_311
(photo credit: Thinkstock/Imagebank)
The Israel Tax Authority has just come dangerously close to throwing away a tax windfall – but, fortunately, it pulled back just in time.
Trajtenberg tax increases
Various Israeli tax rates are due to go up on January 1, 2012, pursuant to the Law for the Change in the Tax Burden. This is to pay for some of the reforms demanded by Israeli demonstrators who called from their tents for social justice. The Trajtenberg Committee duly made its recommendations, which are now being enacted. In various other countries, it seems they just evict or shoot the demonstrators.
In particular, the Israeli tax on dividends (and capital gains) will increase from 25 percent to 30% for major shareholders owning 10% or more of a company. For other shareholders, the tax on dividends (and capital gains) will increase from 20% to 25%. Foreign investors should note that all this is subject to the provisions of any tax treaty between Israel and their home country.
Other Israeli tax rates will also increase. The top rate of income tax for earned income will rise from 45% to 48%. But the upper-income limit for National Insurance Institute (social security) contributions will go down.
Transitional relief?
In the case of future asset sales, capital gains will be pro-rated. The higher tax rates generally will apply to the portion of capital gains that accrue from January 1, 2012, while the old rates will apply to the portion of capital gains that accrue until the end of 2011.
But in the case of dividends, it appears the new higher tax rates will apply to all profits distributed on or after January 1, 2012, regardless of when the profits were generated by the company concerned.
The result
Consequently, in the closing days of December, many people are rushing to receive dividends and pay taxes at the old lower rates (others prefer not to if the company has already reinvested the profits or is going to).
And it seems the Israeli government is in for a windfall tax intake on January 15, 2012, on all those dividends. Many companies retain profits in regular years, so the amounts involved could easily run into hundreds of millions of shekels, or perhaps more.
Timing is everything
At what point in time is a dividend recognized for tax purposes? This matters if you want to enjoy the lower 2011 tax rates.
At first, the Israel Tax Authority “clarified” on December 15 that a dividend that is distributed and received in practice by the recipient by the end of 2011 will be taxed at the old rates of 20% or 25%. Unfortunately, receiving a dividend isn’t so simple.
Section 302 of the Company Law requires the directors to check that there are sufficient distributable profits and that the company will be able to meet its current and anticipated future obligations.
That doesn’t leave much time to beat the tax hikes that were only enacted on December 5, 2011.
Israeli case law suggests that it is enough to credit a dividend to the account of a shareholder, without actually paying it.
Nevertheless, the lack of time is acute for public and private companies alike. So the government’s windfall tax intake nearly evaporated.
Fortunately, the Israel Tax Authority saw fit to issue another “clarification” on December 25 that is rather different. Now a dividend will be deemed to be distributed and received in practice in 2011 if the following conditions are met: (1) the dividend is declared and the date of entitlement (the “ex” date) is in 2011, and (2) a tax payment voucher is obtained in the usual way and the dividend tax is paid to the relevant tax office by the distributing company by January 15, 2012.
This gives a little more time and makes more sense. Let’s hope the government collects the tax and spends it wisely.
As always, consult experienced tax advisers in each country at an early stage in specific cases.

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