Tax implications of investing in Israeli property

After years of stagnation, the Israeli residential property market seems to be on the move upwards, thanks to economic growth in Israel and overseas investors.

building for sale 88 29  (photo credit: Ariel Jerozolimski)
building for sale 88 29
(photo credit: Ariel Jerozolimski)
After many years of stagnation, the Israeli residential property market seems to be on the move upwards, thanks to economic growth in Israel and overseas investors. Residential is really three separate markets: the luxury home market where prices exceed $1 million; other homes in the central region; and the peripheral regions. In this article, we briefly review Israeli taxes relating to Israeli homes for individual buyers. In a later article, we will address larger scale real estate investments in the country. Israeli taxes can kick in at any of the following stages: * Acquisition - acquisition tax at rates at rates of 0.5%-5% * Occupancy - municipal taxes on the floor-space ("Arnona") * Rental - income tax at rates of 0%/10%/48% * Sale - land appreciation tax at rates of 0%/20%/48% on the gain and a 2.5% sale tax in certain cases These are discussed further below. Note what is missing from that list: Israel does not impose an annual tax on capital, nor on gifts, estates and inheritances. In the case of non-Israeli resident investors, Israel has first right of taxation over Israeli real estate - and those investors should check what double-tax relief (foreign tax credit or exemption) is available in their home country. What Israeli taxes apply to the acquisition of an Israeli home? Stamp duty was repealed in Israel but Acquisition Tax is payable when acquiring any Israeli real estate interest. In the case of a home, the rates are updated quarterly and are currently as follows: General rates * 3.5%: on NIS 557,421-691,240 * 5%: over NIS 691,240 New immigrant rates: * 0.5% on the first NIS 1,043,310 * 5% over NIS 1,043,310 The current exchange rate approximates $1=NIS 4.20, GBP1=NIS 8.17 The special 0.5% rate of acquisition tax for new immigrants applies upon purchasing a residential home within 7 years after taking up Israeli residence or one year prior to arrival. Subject to this, the special 0.5% rate does not apply to non-Israeli residents. How is acquisition tax reported and paid? The purchaser of a residential home is required to report the acquisition thereof, within 30 days, to the regional property tax office where the home is located, on Form 7002. Thereafter, the purchaser will receive an acquisition tax assessment, payable within 14 days from the date of receipt. Alternatively, the purchaser may (and usually does) elect to self-assess the acquisition tax on Form 7002 and pay the self-assessed tax - within 50 days (instead of 30) from the acquisition date. The tax is payable in any bank through a payment voucher available in the property tax offices upon submission of the declaration. Note that the acquisition date is the date of the agreement between the parties, i.e. the date of signing any letter of intent or the date of the first payment, if these preceded the signing of the purchase agreement. Don't let the estate agent or seller sign you up on any letter of intent or other preliminary without first consulting your own lawyer as the 30/50 day clock will start to run from that point. Legal advice should in any case be obtained regarding all real estate purchases - for example, regarding the rights and obligations involved - most Israeli land is leased from the Israeli government (land administration or "minhal") and is not freehold. How about renting out a home in Israel? In the early 1990s, a residential rental exemption was introduced as an expedient to encourage Israelis to offer accommodation urgently needed by incoming waves of immigrants from the former Soviet Union. Currently, residential rental income of up to NIS 4,200 ($1,000 approx.) per month is exempt from income tax. The rental lease must stipulate that the home is for residential use only. If the rental income exceeds the above amount, two alternatives exist: * Reduce the exempt amount (NIS 3,800) by the excess on a shekel-for-shekel basis. The resulting taxable rent will be taxed at regular income tax rates of up to 48% (plus National Insurance where applicable) after deducting permissible expenses. * Elect to pay within 30 days a flat 10% tax rate of the gross rental income without any deductions, exemptions or credits. What about a sale of a home in Israel? In principle, Israel imposes Land Appreciation Tax on gains from the sale of Israeli real estate or an interest in a "real estate association" (a company or other entity whose principal assets are Israeli real estate). Nevertheless, the seller of a home in Israel may enjoy an exemption without monetary limit from land appreciation tax in the following cases: * If the seller did not make any other exempt sale in the previous four years of a home in Israel ("Entitling Residential Home") even if he owned more than one home in Israel, subject to certain conditions - see below. This exemption is commonly claimed. * If the seller possessed only one Entitling Residential Home in the last four years and did not make any other exempt sale in the previous 18 months. (If the seller acquired an additional home within 12 months prior to the sale of his first home, and as a replacement thereto, he is still deemed the owner of one home). This relief expires at the end of 2007 unless renewed. * Sale of two Entitling Residential Homes by an Israeli resident in order to purchase a third, subject to various limitations. * Sale of an Entitling Residential Home for purposes of acquiring a right to residence in a home for the elderly by a person aged 60 or a person who needs nursing care (or their spouse does), subject to certain conditions. * A sale forming part of a series of "clearance and reconstruction" transactions in designated areas to a developer by the end of 2006 (expected to be renewed), if the seller receives in exchange a replacement/alternative residential unit without additional monetary consideration, subject to various limitations * Sale of an Entitling Residential Home by the end of 2006 (expected to be renewed), for purposes of replacement of the sold residential home with a different residential home, subject to various limitations Unless stated otherwise, non-Israeli residents are also entitled to these exemptions in applicable cases, without regard to homes they may own abroad. But they should check whether they are taxable in their country of residency/citizenship and whether any credit is available for the Israeli tax. US citizens resident in Israel should do the same. Where no exemption applies, sellers are subject to land appreciation tax on capital gains from Israeli real estate interests at personal tax rates of up to 48%, gains accruing before November 7, 2001. A rate of 20% (was 25% for sales before 2007) applies to gains accruing after that date. The split is calculated on a pro rata basis. With regard to a "Entitling Residential Home," detailed rules and exceptions apply including the following: * Construction of the home must be complete as of the date of the sale. * The home is owned or leased by an individual and not by a company. * The home does not constitute business inventory for the seller. * The home is utilized, in practice, for residential purposes or, alternatively, is intended for residential purposes and includes all installations required for such residential utilization (e.g. kitchen, bathroom, toilet, etc) - if the home is vacant. * The floor-space of the home was used mainly for residential purposes either during four years prior to the sale or during 80% of the period of the ownership. * A home utilized for educational purposes, including a nursery school or for religious purposes, is acceptable for these purposes. * The seller requesting such exemption must sell all his rights to the home. * For purposes of the exemption, the seller and his family, including his wife and unmarried children up to age 18 years, will be deemed one seller ("the family unit"). In the event that a member of the said family sold a home in the past, each member of the entire family unit will be deemed to have sold a residential home. * For a home gifted to a seller minimum holding periods vary as follows: 1) Donor was not parent, seller did not reside there: four years 2) Donor was not parent, seller resided there permanently: three years 3) Donor was parent, seller did not resided there permanently: three years 4) Donor was parent, seller resided there permanently and is married: one year 5) Donor was not parent, seller resided there permanently and is unmarried: two years If the seller received the gift as a minor (under age 18 years), the holding period will run from age of 18. If the seller received 50% of the price of a home as a gift, the whole home will be deemed received as a gift. * The seller of an inherited "entitling residential home" is entitled to the exemption that the deceased would have received if the seller is a descendant of the deceased or his spouse. The exemption in these circumstances is unrelated to other exemptions received previously by the seller. These rules are subject to changes and shift in policy, so consult an experienced real estate lawyer or adviser in each case. The writers are international tax specialists at Ernst & Young Israel