Year-end planning

With the end of the tax year fast approaching, here are a few tips that may be relevant:

• If you haven't already done so, make a claim for the Working Tax Grant (negative income tax) in respect of 2013 income. The deadline is Friday 26th December.

• If you are a business with inventory, take a count as close as possible near the year-end. The cost of each item should be listed alongside the quantities.

• Business owners should make top-up payments towards pension, Keren hishtalmut etc to take advantage of the tax breaks available. The same goes for salaried individuals who have private pension plans.

• If you pay Bituach Leumi without usng a standing order, pay by the end of the year in order to receive the deduction for tax purposes. (Those paying on standing order will have the January payment included in the 2014 certificate)

• Make donations to recognized charities (section 46), and ensure the receipt is dated 2014.

• Start collating information for "short" tax returns, if relevant:
• Israeli property income taxed on the 10% route must be reported and the tax paid by 30 January 2015.
• Foreign property income taxes on the 15% route and foreign interest, dividends and/or capital gains must be reported and the tax paid by 30 April 2015.

• For business owners, consider whether you need to increase the amount you need to pay on account for both income tax and bituach Leumi. If you don't, expect to pay interest on the extra payments once the tax return is eventually filed. For Bituach Leumi, this will mean letting them know that you wish to increase by the end of the year. For income tax, voluntary payments can be made anytime. Interest is fully waived on payments made in January. 50% is waived on February payments and 25% is waived on March payments.

Overseas companies, part 4 - the LLC

In the USA, one of the most common ways of running a business or investment is via an LLC (Limited Liability Corportation).

Such a vehicle has a number of advantages, but these are not our concern here. The tax treatment in the USA is that, although the LLC is a separate legal entity to the owner(s), the income generated is taxed directly in the hands of the shareholders. This is therefore similar in nature to the House Company and Family Company, but without the various restrictions imposed on Israel.

The issue to be dealt with is that legally the LLC is a separate body. As such, Israel should tax shareholders only on the dividends (i.e. distributions). But since such distributions are not taxed in the US, there is no foreign tax credit to be given, even though the shareholder has already paid US taxes on the underlying profits.

The Israeli tax authority (based on a circular from 2004) therefore permit a person to elect to treat the income of the LLC as earned by the shareholder, and US taxes paid on that income can be credited against the Israeli tax due. However, this applies solely for the purpose of preventing double tax. As such, any losses incurred stay at the LLC level until subsequent profits wipe out the loss. This, despite the fact that in the US the LLC loss can be offset against other income in the year in which the loss in incurred.

Two further conditions apply for this election to be effective:

1. The election must be made in the first year that the LLC income needs to be reported.

2. The election cannot be revoked.

As always, personal circumstances will determine the best course of action, and individual advice must be sought.

Are you due a tax refund?

Feel free to join the Tax in Israel Facebook group

In a previous post, we considered who was required to file a tax return.

However, it could be that even if you are not required to do so, it will be on your interests - if you are due a refund. Any refund due to you is given back with the addition of interest (4% per annum) and linkage - all tax free. You can't get anywhere near that in the banks these days, and even the most successful investments would be hard-pressed to give you such a favourable post-tax return!

You are able to apply for refunds - which necessitates filing a tax return - up to six years in arrears. As such, any claim for a refund in respect of 2008 must be filed by 31 December 2014.

So, in what situations might you be due a refund? Here are some common examples (by no means an exhaustive list, but it covers most situations).

• A change of jobs midway through the year, especially if there was a significant change (up or down) in salary.
• You had a period of unemployment during the year. If you received unemployment benefit from Bituach Leumi, that income needs to be taken into consideration (Bituach Leumi deduct tax at source).
• Similarly, a woman who took maternity leave during the year - the maternity pay is also taxable, and tax should have been deducted at source by Bituach Leumi. This is especially true if the maternity leave was extended beyond the period for which Bituach Leumi pay (14 weeks for a regular birth). A word of caution: the maternity pay is paid in one lump-sum for the entire period. So if the maternity period spans two years (e.g. birth between October and December), it could be that you were under-taxed.
• You made donations to Israeli institutions, which you have not claimed tax relief for. A more detailed look can be found here.
• You made private contributions (i.e. not via your salary) towards pension, life insurance and/or disability insurance. The classical example is life insurance premiums paid for your mortgage.
• You did a Teum Mas. Typically, the tax office issues these on the basis that you will have paid at least the correct amount of tax - i.e. you have probably overpaid. Alternatively, you asked your second (+) employers to deduct the maximum rate of tax. See here for more details.
• You did not claim your full tax credits. This might include for army serivce, higher education, new child (especially if born towards the end of the year), deferred credits for new olim etc. A more detailed post regarding credits can be seen here.
• You have investments in the bank. There are many situations whereby the bank will have over-taxed you (through no fault of their own). You need to get the bank to provide you with forms 867, 867א+ב and 867ג.

In order to claim your refund, you need to present the tax office with supporting documentation - forms 106 from each employment, forms 867 for each bank account and other documentation to prove your claims (e.g. Teudat Oleh, certificate of completion of studies, certificate of completion of army service etc.). You also need to fill out either form 135 (2013 version) - the refund request for salaried people, or form 1301 (2013 version) - the full tax return, and hand everything into your local tax office. I would also recommend that you attach a copy of a check from the account that you want the refund paid into - the authorities no longer issue checks.

It is important to note that there are situations whereby you may actually owe tax. So I would strongly suggest that you get an accountant to look at the paperwork prior to submitting - once you have filed, you will have to pay the taxes that you owe - in addition to interest and linakge charges!

The world is getting smaller

Two interest articles have appeared in The Marker (Hebrew) over the last 24 hours.

The first article discusses the fact that the Treasury has agreed to put into place measures necessary to ensure that Israel will be compliant with the OECD's multilateral exchange of information agreement regarding bank account holders by 2018. The agreement, which also includes a number of other countries, essentially means that Israel will be transferring information about bank account holders who live outside Israel to each of the 50 or so countries, and in turn, Israel will receive similar information from each of those countries regarding Israelis holding such accounts.

The second article relates the recent story of a European who wanted to withdraw a significant sum from his Israeli bank account. The bank requested him to sign a declaration that he has fully declared the account and accounted for the taxes in his country of residence. When the customer refused to do so, the bank refused to release the funds.

Between these two articles, we can see how the world is getting smaller and it is getting more difficult to evade taxes without the relevant authorities finding out. Furthermore, the banks and investment houses themselves are starting to act as the world's policemen as they are frightened of serious sanctions - primarily from the US government, but potentially from others as well.

As such, it is highly recommended that one who has hitherto undeclared assets and unreported income take the opportunity to come forward, clear out the past by paying the back taxes due and start reporting everything in full. In Israel, a Voluntary Disclosure scheme was announced just 6 weeks ago (see here for more), and it is highly recommended that anyone in this situation takes the opportunity to straighten their affairs NOW. It will be far better for everyone involved if you make the approach to the tax authority rather than the other way round.

The "House Company" - חברת בית

Feel free to join the Tax in Israel Facebook group

In the previous post, we saw an example of how a company can, under certain circumstances, have its income treated as taxable in the hands of the shareholders.

The one other example under Israeli law is the "house company". In order to qualify as such a company, there are two conditions that must be met:

1. The company is owned and controlled by no more than 5 people. For these purposes, first-degree family members and business partners count as a single petson.

2. The company deals primarily in the property business. The type of property and the type of income (i.e. rentals, capital gains etc) are not relevant.

At the request of the company, the company profits can be taxed in the hands of the shareholders (as property income - and taxed accordingly as passive income for both Income Tax and Bituach Leumi purposes), according to each shareholder's share of the profits. This is different to a "Family Company" wherby only one of the shareholders is taxed on the entire profit.

Furthermore, the application to be a "house company" need not be made in advance, and can be changed every year - as per the choice of the company and the shareholders. Again, this is different to a "Family Company" where the status must be requested soon after incorporation and once the status has been changed by the Company, it cannot reaquire such a status.

The "Family Company" can therefore, potentially, be a very attractive option for those who want to invest in property across the world, but without owing the property outright (e.g. for inheritance tax purposes).

The "Family Company" - חברה משפחתית

In regular circumstances, a company is treated as a seperate entity for tax purposes; in much the same way that it is treated separately for legal purposes.

 

However, there is the option - under certain circumstances - for the income to be taxed directly in the hands of the shareholder.

 

The first of these cases is the "Family Company," the חברה משפחתית.

 

There were fairly significant changes to these rules that came into effect as of 1st August 2013, and what follows are the new rules which apply to companies setting up after that date.

 

A company can only be considered a Family Company if:

(a) all of the shareholders are considered part of the same family for tax purposes. Essentially, this means (grand)parents, (grand)children, siblings and the spouses of the above.
(b) the election to be considered a Family Company has to be made within 3 months of the incorporation of the Company.

 

Under the tax regulations, the income of such a company is attributed to one (and only one) of the shareholders, and included on their tax return. By default, this is the largest shareholder, but any shareholder may be chosen for this purposes. This shareholder is known as the "representative".

 

The business income of the Company is treated as unearned income in the hands of the representative, and taxed accordingly (starting at 31%). Other, passive income, is treated in the same way as if the assets were held by the shareholder directly. For example, if the income of the Company is from interest, the income would be taxed at 25%. If there is a loss in the company, the representative can use them in the same way as if they'd been his/her own personal losses (see here for more)

For Bituach Leumi purposes, the income is divided between the shareholders in accordance with their percentage holdings, and taxed as unearned income accordingly.

The upshot of this is that when monies are distributed by the company, there is no tax on the "dividend" paid. The (potential) downside is that the company cannot defer taxes by not distributing profits, as a regular company may choose to do.

There are of course further nuances to this law, and expert advice should be sought if you are thinking of going down this route. It should be noted that it is fairly simple to cease the company being treated as a Family Company. However, be aware that once the company becomes a regular company, it cannot become a Family Company again.

Voluntary Disclosure procedure announced

Yesterday (7th September 2014), the Israeli tax authority finally published their long-awaited and anticipated Voluntary Disclosure scheme.

Anyone who has committed a tax felony, be it related to Income Tax, VAT, Mas Shevach (Land Appreciation Tax) or Customs, can now come forward, report the income, pay the tax (including all interest and fines), and - provided they meet the other criteria - get immunity from criminal prosecution.

The immunity from prosecution is dependent on the taxpayer meeting a number of criteria. In general, these require that a full and thorough disclosure be given. Furthermore, it is a requirement that the taxpayer cooperates fully with the Authorities during the entire procedure.

It is also required that an investigation has not been started on the taxpayer regarding non-reporting of income or assets - either by the tax authority or some other governmental agency (including the police). Although this has yet to be confirmed, it appears that receipt of the "fishing" letter recently (see more here) would not prevent someone from entering the procedure.

The head of tax authority has indicated that there are now multiple sources of information that the authorities can and are/will be using to discover tax evasion, and they will be hitting people hard. One has to assume that, as well as severe fines, there is the intention to prosecute offenders.

As such, it is highly recommended that anyone who has unreported income or transactions to enter the scheme as soon as possible. The only generous aspect is that the procedure is in place as of now, and until 31st December 2016. Of course, it would be wise to get your application in much sooner than that, so as to reduce the chances of the authorities having started an investigation.

At present, the exact mechanics of the scheme are not entirely clear. But, in general, the process will work as follows:

(1) Application is made to the Investigations Bureau of the Tax Authority (by email!!). They will either approve the application or reject it.
(2) Assuming the application is accepted, the file is passed to the local Tax Assessor, who will agree the taxes to be paid - including interest & linkage, as well as fines if the Assessor deems fit.
(3) Payment of the tax due by the taxpayer.
(4) No criminal prosecution is guaranteed.

Simultaneous to the disclosure procedures, the Tax Authority also published a Temporary Order. This gives two interesting options, available only for a year (i.e. until 6th September 2015):

(1) Anonymous Route - you can enter the procedure without intially disclosing your name or other identifying details. Of course, all income and assets need to be described and detailed. Within 90 days of the file being passed to the local Assessor, you have to disclose your name for further checks - although this can be extended by a further 90 days if the local Assessor deems this necessary and reasonable.
(2) Green Route - if the unreported assets are valued at less than NIS 2 million, and the unreported income totals less than NIS 500,000 (seemingly the total unported income), the local Assessor will not investigate the amounts of tax to be paid, but will rather simply issue a payslip for payment of taxes. One cannot be anonymous for this route.

One further clarification given is that capital losses reported by the disclosure can only be offset against income and gains reported in the disclosure. Furthermore, any pre-existing losses cannot be used for offset, nor will any resulting loss be available for future offset.

The Voluntary Disclosure procedure can be seen here (Hebrew)
The Temporary Order can be seen here (Hebrew)

In summary, anyone with any unreported income is strongly advised to take this opportunity offered by the authorities to come clean and report.

Overseas companies, part 3 - the Foreign Professional Company

Another type of company that the Israeli tax office doesn't like is one where a profession is carried out abroad, and the profits are not directly taxed in Israel. As such, the tax law sets out rules for a Foreign Professional Company (FPC). These rules were revised for 2014, and below are the new rules.

What is an FPC?

In order to be an FPC, the foreign company must meet the following criteria:

(1) Be owned by fewer than 5 people. For these purposes, members of the same family or business partners count as a single person.
(2) At least 75% of the ownership and control of the company are held by Israelis. For these purposes, those within their 10-year exemption period are not considered Israelis.
(3) The majority of the income of the Company is from a "Special Profession"
(4) Controlling shareholders, who together control at least 50% of the company, work for the company in the "Special Profession," either directly or via another company that they have control over.

What is a "Special Profession"

The Regulations give a closed list of professions that are considered "Special Professions" for these purposes. They are the following (translation of list in alphabetical order in the Regulations):

• Security
• Agronomist
• Architect
• Art, including creation of art
• Music & entertainment
• Audit (of various types)
• Modeling
• Teaching & seminars etc.
• Engineering
• Veterinarian
• Creating and operating computer hardware
• Computer software
• Investigations
• Aircrafts & boats
• Telecommunications
• Representation of any "Special Profession"
• Advice, including the fields of financial, personal, security, agriculture, technical, engineering, organisational, management, national, scientific, tax, business & economic
• Economics
• Writing & composition
• Scientific research & development
• Management - including assets & investments, companies, organisations, institutions, businesses - including those in the process of dismantling, bankrupcy or administration
• Statistics
• Sport
• Journalism & editing
• Advertising & public relations
• Lawyers, patent attorneys, representation before law
• Photogoraphy
• Accountancy
• Medical - including developmental treatment, psychology, physiotherapy & dentistry, and including para-medical and alternative medical services
• Religious services
• Surveying
• Realty
• Translation
• Communications & event organisers

How is the FPC taxed?

The taxation of the FPC essentially turns the company into an Israeli company. The twist is that it is the shareholder who is taxed on his/her portion of the income, rather than the company itself (this is the major change from the previous version). The rate of tax on this income is the corporate rate of tax (26.5% for 2014).

The profit of the company is calculated according to Israeli rules, unless the company is resident in a country with which Israel has a tax treaty - in this case the local rules apply.

Any tax paid in the country of the company's residence can be claimed against the tax due.

The rules for tax on dividends paid are similar to that of any other regular Israeli company, although there are some subtle differences. This is not the place to go into detail.

Some points

Since the Israeli tax rate is amongst the highest in the world, these rules can hit people hard financially, and not just in the increased burden of reporting.

There may be a thought to get round the tax issues by zeroing out profits abroad by way of management fees to an Israeli entity. This though leads to issues of transfer pricing whereby the foreign tax authority (and potentially the Israeli authority as well) may challenge the approach in order to increase their own tax take.

Due to the complicated nature if these companies, it is highly recommended that tax specialists and experts in both countries are consulted before going ahead with such schemes.

Overseas companies, part 2 - the Controlled Foreign Company

Feel free to join the Tax in Israel Facebook group

One of the suspected tax planning methods that the Israeli government doesn't like is for those investing overseas to form a company on a tax haven to hold the investments. The thinking would be to hold the investments within the company without withdrawing any funds, and thereby not pay any Israeli tax on the income until funds are needed.

As such, the tax law includes a section on Controlled Foreign Companies (CFC), whereby the Israeli shareholders are deemed to have received a dividend based on their share of the profits of the company, even if they didn't actually receive them.

A CFC is defined as follows:

1. A company resident outside Israel (see here for more), where the tax rate in the country if residence is no more than 15% (from 2014. It was 20% previously).

2. The majority of the income of the company is from passive income (interest, dividends, royalties, property, capital gains), or is based on such income - this prevents a holding company being used to get round the problem.

3. The company is a private company, or no more than 30% of the shares are available to the public.

4. More than 50% of the control of the companies are held by Israelis. This needs to hold true either on 31st December or on at least one day of the tax year and one day of the following tax year. For these purposes, people within their 10-year exemption period do not count as Israelis.

There are rules regarding ownership via a string of holding companies, which are too complicated for the purposes of this blog. Suffice to say that you should take advice if necessary.

If the country in which the company is resident taxes dividends, you can get a tax credit for taxes that will be paid (in the future) on the undistributed profits which are currently being taxed.

It should be noted that the profits under discussion are those profits made from passive income after deduction of any (corporate) taxes due on the income as well as after offsetting any losses that may have accrued in the past or in the relevant tax year.

Overseas companies, part 1 - General issues

It is fairly common for people to invest overseas, be it in businesses or other assets (eg property, shares etc.). One of the most common ways to invest is to set up a company in the country of investment, owned by the foreign investors.

The first issue that Israelis must consider when setting up a foreign company is the residency of the company. Any company incorporated in Israel is automatically considered Israeli-resident, but an overseas company can also be considered Israeli-resident if it is "controlled and managed" from Israel.

The concept of "control and management" refers to the activities of the company (at the comany level), NOT the actual underlying business or investment. Although the law does not define these terms clearly, the concepts developed in the court cases relate, primarily, to shareholder and board meetings discussing the overarching strategy of the company.

If the company were to be set-up in a country with which Israel has a Double Tax Treaty, the Treaty will set criteria for determining where the company would be considered resident. As such, it is likely to be the country in which the company is incorporated. The issue though is particularly acute when setting up companies in countries with which Israel does not have a Double Tax Treaty (Australia would be a classic example).

The implication of the company being considered Israeli-resident is that (a) the company would be required to file Israeli tax returns (taxes being levied at the Corporate Tax Rate, currently 26.5%), and (b) there is the potential for foreign taxes paid not to be recognised.

As such, it is important to consider the residency of any company that is intended to be set-up, so as not to fall into any traps.

In the coming posts, we will look at two specific types of foreign company - the Controlled Foreign Company and the Foreign Professional Service Company.

Spouses - taxation of joint income

Feel free to join the Tax in Israel Facebook group

As previously mentioned, tax files in Israel are joint between husband and wife. The question therefore arises as to how joint income is taxed.

In this respect, the law differentiates between earned (eg salary, self-employment, pension) and passive income.

Passive income

In general, passive income is treated as joint income and added to the earned income of the higher-earning spouse.

However, with the exception of using the exemption for Israeli residential properties, any income arising from an asset owned by one spouse for at least one year prior to marriage or from an asset received by inheritance after marriage can be treated as that spouses' income only.

Earned income

In general, spouses' earned income are completely seperate from each other. As such, each spouse's income is taxed separately.

However, there are situations whereby both spouses work in the same business. For this to be an issue, the business must be controlled by one of the spouses (e.g. we're not talking about husband and wife both working in the same hospital)

In this situation, the main spouse in the business cannot give income to the spouse who just helps out - and all of the income must be taken by the main owner of the business. However, the law (effective 1st January 2014) allows the other spouse to get some income of their own, provided that the following three conditions are all met:

1. Both spouses' work is required for the business.

2. Each spouses' income is commensurate with their contribution to the business.

3. If the business is run from the family home, the home is the primary place of business. For example, an electrician with the spouse acting as secretary from home would not meet this criteria.

As this is a new law, it is not entirely clear how the tax authority will approach these situations, and what sort of proof will be required. If this is relevant to your business, take advice!

Tax authority clamping down on non-reporters

Feel free to join the Tax in Israel Facebook group

Over the last fortnight or so, the tax authority has sent out a number of letters to Israeli residents whom it suspects have not reported of the income that they are thought to receive - and hence not paid the relevant taxes.

The head of the tax authority told a gathering at which a colleague was present that approximately 93,000 such letters were sent out. There seem to be two main possible lines of approach by the tax authority:

(1) Those owning 3 apartments or more - it is an assumption that there will be rental income over and above the exemption limit. This information would likely have been taken from the Tabu (Land Registry).

(2) Those with foreign sources of income. My guess is that various co-operation agreements have been reached with other tax authorities around the world, whereby names of Israelis with foreign tax files - or perhaps even just incomes that the tax authority know about (e.g. bank accounts, pensions etc.) - have been passed to the Israeli tax authorities.

I have already seen a number of such letters. The first page is a request to fill in the attached form within 30 days, and send it back to a special department that is dealing with these letters. Presumably they will then decide what to do with these (i.e. if to open a tax file, and if so, which years to request, capital statements etc.) and pass their decision onto the local tax assessing office.

The form is the standard form to open a tax file (see here). Whilst most of the details are not normally filled in, in this situation I would recommend giving as much infomation as you can, adding extra details on an appendix if necessary. You may want to consult with a professional before filing the form.

For anyone to whom this may be applicable (including those who haven't been "caught" yet), I suggest reading this post regarding some of the principles of Israeli taxation. Furtheremore, see if you are eligible for exemption from filing a 2013 tax return as per the rules set out in this post.

It has also been rumoured that the tax authority are planning - in the coming weeks - on encouraging people to come forward, sort out the past taxes owed without too much in the way of fines, interest, linkage etc, and getting them into the general tax system - this is known as a Voluntary Disclosure Procedure. However, until formal guidelines are published, it is impossible to say what the incentives will be.

Meanwhile, it is obviously better to come forward to the tax authority rather than waiting for them to come to you. So make sure you are fully compliant!

The new one-page tax form for low earners

With much fanfare, the tax authority announced last week a one-page tax return for the smallest of businesses. The form can be found here.

The form is designed to allow the smallest businesses - who wouldn't reach the tax threshold anyway - to just report their income, without the extra pages relating to deductions and credits.

However, it must be noted that the tax authority reserves the right to ask for a full tax return anyway, as well as any other paperwork deemed necessary; making this process somewhat meaningless is my opinion.

Who can use the report?

The explanation notes (which can be seen here) list five possible scenarios to be allowed to file such a return. These can be summarised as follows:

(1) If one or both spouses has small freelance businesses, the total business turnover of the business - added to that person's other earned income is less than NIS 60,000 in the tax year.

(2) If one of the spouses does not have a freelance business, their only income - if any - is from salary and/or pension. This income must have had tax deducted at source in full according to the law, AND they can have no other income.

It should be noted that someone with a disability allowance can also use this form and report the income exempted under the disability allowance.

Who cannot use the report

There is a long list of people who cannot use the short report:

(1) Someone who should have done a Teum Mas, and didn't.
(2) Someone who is required to file a tax return as a result of spreading pitzuyim (severance payments) over a number of tax years.
(3) Shareholder (10%+) in a corporation
(4) Non-Israeli resident
(5) Israelis with foreign income and/or significant foreign assets
(6) Settlor, trustee or beneficiary of a trust
(7) Partner in a business partnership
(8) Someone with losses (current-year or carried forward from prior years) - presumably this is assuming that you wish to claim the losses
(9) Someone wishing to claim a tax refund
(10) Someone who has unearned income (e.g. rental) - since these are taxed at higher rates, with the exclusion of investment income which was fully taxed at source by the bank/financial institution
(11) Some with investment income which was not fully taxed at source
(12) Someone who was declared bankrupt
(13) Someone with total income (from all sources) exceeding NIS 811,560 (for 2013) - they are liable to pay the 2% high-earners tax
(14) Anyone who has made payments on account to the tax office (e.g. mikdamot, rental tax payments, capital gains etc.)

As you can see, it is fairly difficult to meet the criteria. And even if you do, it's not such a big deal to put the same information into the full tax return and simply tick the box which says that you (and your spouse) are Israeli resident - which would give the same outcome!

Another potential down-side is that Bituach Leumi may over-tax you as there is no room to claim deductions that are allowable in that calculation e.g. disability allowance and Keren Hishtalmut payments.

Taxation of pension income

The taxation of pension income is one of the most complicated areas of law due to the various and numerous exemptions available.

Fully exempt pensions

Pensions which are not subject to tax whatsoever include the Bituach Leumi old-age and bereavement pensions and reparations received by Holocaust survivors. Also fully exempt are disability pensions, whether received from Israel or abroad.

A person receiving a survivors pension can receive the first NIS 8,470 per month (correct for 2014) tax free. Of any excess, 35% of the pension is also tax free, with the rest subject to tax.

Other pensions

In short, the exemptions start when the taxpayer reaches pensionable age; currently 67 for men and rising from 62 to 64 for women. Before that age, pensions are fully taxable (in general), and also subject to Bituach Leumi (although the Bituach Leumi paid does reduce the tax burden in such cases)

 

Foreign pensions (i.e. paid by non-Israeli providers)

Once you reach pensionable age, 35% of the pension is tax free, with the rest subject to tax according to your marginal rate of tax. However, in most cases the tax on the entire pension (i.e. before the 35% limit) is limited to the tax that would have been paid in the host country had the taxpayer been a resident in that country and only had the pension income. This can lead to many people not being taxed on such pensions. Of course, Double Tax Treaties should also be checked to see if any pension can be exempted in either Israel and/or the country of origin.

Israeli pensions

In short, everyone is eligible to a certain amount of their pensions to be exempt from tax. The exemption is a fixed amount for each person, and is not linked to the actual pension to be paid. The exemption is calculated as a percentage of NIS 8,470 per month (correct for 2014) - but obviously the exemption cannot exceed the total pension to be paid. The exact percentage depends on the amount of tax-exempt severance pay that the pensioner received during the last 32 years of their salaried work-life; the calculation is complicated and this is not the forum to explain it in detail. Suffice to say that (1) if you took the maximum tax-free severance pay, your percentage is set to 8.5% and (2) if you took no tax-free severance pay, your percentage is set to 43.5%. Anything in the middle will give you a percentage somewhere between 8.5% and 43.5%.

The above percentage range is relevant for the 2012-2015 years, and is set to rise in the future:

• In the years 2016-2019, the range is set to rise to 14% - 49%
• In the years 2020-2024 the range is set to rise to 17% - 52%
• From 2025 and onwards the range is set to rise to 32% - 67%.

That being said, it would not be unheard of for the rules to be changed in the interim, so be sure to be aware of any (proposed) changes.

It is also important to take proper advice when considering taking tax-free severance pay, based on the above - the reduction in percentage of exempt pension affects your taxable pension for life!

The tax assessment שומה

Once you have filed your tax return properly (see here for more), the tax authority will issue an assessment of the taxes that you owe based in what you have filed. This is normally on three blue-backed pages (first single-sided and the other double-sided) of A4 size. They also send some explanatory pages.

The first page is the summary of income and the tax calculation. The very bottom of the page is reserved for a payslip with which you can pay the taxes that you owe. Interest for a few weeks is normally built into the calculation; there will be a date by which you must pay before more interest kicks in.

The second and third pages show you a breakdown of the assessed income, tax due and deductions and credits given. You should check that these agree with what you filed, or understand why they are different.

The authorities will also normally issue a second assessment after having reviewed the return in a cursory matter. This is normally looking for small mistakes, such as mis-copied numbers or disallowed donations.

In the event that you are due a refund, the blurb at the bottom will tell you which bank account they have for you. You can ignore the notice which says that the refund will be processed within 45 days. By law, a refund must be paid within 90 days for those required to file (and practically it can take longer) and up to a year for those who file voluntarily.

The authorities can also request more information to be furnished before issuing a final assessment. For future reference, attach this information to subsequent returns.

The tax authority reserves the right to audit any tax return. By law, they have to start the process by the end of the third year after the tax return was filed. E.g. any return filed in 2013 can be selected for auditing until 31 December 2017. In certain circumstances, it is possible for earlier years to be audited as well, but this is very rare. The auditor will normally try, in the first instance, to reach an agreement with you - but be aware of any Bituach Leumi issues that might crop up when amending a return.

If you spot a mistake, or discover some extra paperwork after you've filed (this normally would be for extra tax credits or deductions), you are entitled to request an amendment to the assessment. This is done by way of letter. In general, you can amend up to 4 years after the tax return was filed.

Negative Income Tax Grant 2013 - מס הכנסה שלילי

A number of years ago, the government introduced a scheme designed to help workers earning very little. This grant, based on average monthly earnings in the previous tax year (hence the term "income tax"), was initially available only to those living in certain parts of the country.

Who is eligible?

You must meet the following criteria:

1. Be aged 55+ or aged between 23 and 54 and have at least one child.

2. You, together with your spouse, own no more than a 50% stake in any land or property (worldwide) that is not your residence.

3. Your average monthly earnings in 2013 (salary or freelancer, based on actual months worked) was between approx. NIS 2,050 and NIS 6,717.

It should be stressed that you are not eligible for months on which you received salary from a family member, or a company controlled by a family member.

Furthermore, maternity pay received from Bituach Leumi is treated as earnings for these purposes.

4. If you were required to file a tax return for 2013, you did so on time.

5. The claim must be made by 30th September 2014, so you need to move fast!

6. Any employer filed their employer-summary form on time (form 126). If they did not, you will be asked to provide the authorities with form 106 in order for them to fully process your claim.

How much is the grant?

The grant, per month of eligibility, is based on your average monthly earnings and can reach as high as NIS 705. The full table is as follows:

	Monthly grant (NIS)
Average monthly income (NIS)	- woman (1 or 2 children) - single father responsible for 1 or 2 children	- married father (1 or 2 children) - aged 55+ without children	- woman (3+ children) - single father responsible for 3+ children	- married father (3+ children)
0-2,050	0	0	0	0
2,051	120	80	180	120
2,500	228	152	339	226
3,000	350	233	515	343
3,570-4,760	495	330	720	480
5,000	413	275	636	424
5,500	240	160	459	306
6,108	30	20	N/A	N/A
6,109+	0	0	N/A	N/A
6,716	N/A	N/A	30	20
6,717+	N/A	N/A	0	0

The amounts here are based on the 1st June 2013 figures, and should have increased with inflation on 1st June 2014 - I have yet to see the revised figures.

In certain circumstances, the amount due to you will be reduced. This is the case if you are in receipt of one (or more) of the following:

1. Pension income, excluding disability or survivor pensions.

2. Bituach Leumi grant for work or other accident.

Similarly, your spouse's income could reduce your grant.

A simulator (Hebrew only) has been provided by the tax authorities here. It's worth having a look at if you think your claim is borderline.

How to make the claim

The claim is made at a post office branch (and only there), and must be made in person. Be careful though: not all post offices are officially branches - check the postal service website before setting off.

You need to take with you your ID card (Teudat Zehut) and a cheque (of formal notification of account details from the bank).

The clerk will hand you a form on which you state:

• Number of employers in 2013 for both you and your spouse.
• Whether you we're self employed in 2013
• Postal address
• Bank details

You will get to keep a portion of the form, which will have details regarding how to monitor your claim. You can monitor your claim online here (Hebrew only).


How you get paid

If you are an employee only, you will receive your grant in two or three equal payments directly into your bank account, depending on whether you get the form in by the end of June 2014 or later.

If you are (also) self-employed, the grant is offset against your 2013 tax liability. If you have excess grant, it will be offset against the next three year's tax liabilities (i.e. 2014, 2015 & 2016). If, after that, there is still some grant left over, 75% of the remainder will be paid directly into your bank account on 15th July 2018.

Losses

It is a fact of life that sometimes a business or investment doesn't work out. In this situation, you are going to end up with a loss; i.e. More money was spent than recouped.

In general, a loss can be used to offset other income or gains, as per the rules set out below.

But before that, there are three important rules about claiming losses that apply across the board:

A. If you make a loss in a situation where theby the profit would not have been taxable, the loss in such a situation cannot be claimed.

B. It is normally required that a loss be offset as soon as possible. If it is not, you will lose the right to use the losses in the future.

C. You can only carry forward losses into a new tax year if you file a tax return for the year you want to carry forward from. This is to allow the tax authority to check and agree the permissibility of the losses. This is of particular importance in the Voluntary Disclosure procedures.

Onto the details...
 

Israeli losses

1. Business losses can be offset again any other income earned during the same year that the loss is made. You are allowed to refrain from offsetting losses against capital gains, interest or dividend income, provided that the rate of tax on those incomes is no more than 25%.

2. Business losses that could not be used in the year in which they occurred can be offset against business profits (only) in subsequent years. You are required to use the losses at the earliest opportunity. If you stop doing business, you can offset such losses against salary income.

3. A loss from property can only be offset against future profits from the same property.

4. Capital losses can be offset against capital gains; first against the real gain. If you have inflationary gain, for each shekel of loss you can offset 3.5 shekel of inflationary gain. (see here for more on capital gains calculations).

5. Losses from share sales can also be offset against share income (i.e. dividends, bond interest etc.). For income from the same share, this is unlimited. For other shares, you can only offset provided that the tax rate is no higher than 25%. This rules out significant shareholders whose dividends are taxed at 30% (since 2012)

Overseas losses

6. In general, such losses are treated the same way as Israeli losses, but the offset is to be carried out against other overseas income only. The implication is that you may lose out on the foreign tax credit.

7. Passive losses can be offset against other passive income. Furthermore, rental losses can also be offset against the capital gain made on the sale of the property. Passive income includes interest, dividends, capital gains, property, commissions etc, provided that these are not earned as part of a business.

8. Business losses are to be offset first against business income or capital gains, and then against passive income.

9. Capital losses are first to be offset against overseas gains and only then against Israeli gains. The rules regarding offset against income are identical to those regarding Israeli capital losses.

How to file a tax return in Israel

So you're filing an Israeli tax return, either because you are required to do so (see here for more) or because you want due (and presumably are due a refund, see here for more).
The first step is to gather all of the relevant information regarding your income (for both spouses if relevant) during the year in question, as well as the relevant certificates and proofs that you may need in order to claim deductions and credits, as appropriate, as well as proofs of tax withheld at source.
All of this will be inputted into the main tax form (form 1301). Be careful though, there may only be three pages to the form, but there is a huge amount of information on there, and if necessary you will have to include other forms and appendices. Some of your year-end summary forms will tell you which box number to put the details into, but many other forms do not and you will need to work out where they properly go.
Particular attention needs to be paid to the capital gains appendices; the income from here does NOT carry through to the main tax return. Similarly, foreign taxes paid do not follow through from the foreign income appendix to the main return.
If you use an accountant, much of this should be fairly straightforward to them, but don't expect them to know everything! Be prepared to answer queries that they may have.
Once everything is ready, you are ready to file. The first step is to file the numbers electronically. This is done either online (here, requires registration) or by the accountant directly into the tax computer. At this stage, a calculation of taxes due and paid will show (NOT Bituach Leumi), although internet filing does NOT show payments made on account via mikdamot (see here for more).
If you have filed on the internet, you will get a copy of the tax return to print out and sign. It is important to file this version as it confirms the electronic filing via the barcode that is generated.
There is a second stage to filing though, and that is physically handing in the return, together with all supporting pages and proof of electronic filing, to the tax office. You can hand in the paperwork at any of the offices around the country and they will pass it onto the right office if need be.
 
I cannot stress the importance of making a copy of your return before filing, and having the copy stamped as "received".
 
Once the tax return has been filed, the authorities will issue an initial assessment, normally within 2-3 weeks. This should be based on your filed return, and will show any tax due or refundable. If you owe monies, there will be a payslip that can be used at the post office.
 
If you are due a refund, this will be processed as follows:
 
1. If you are not required to file a return, the authorities will want to check the return before approving the refund. Typically this takes 2-3 months, although the law allows a full year for the refund to be paid from the date of filing.
 
2. If you are required to file a return, small refunds will normally be refunded fairly swiftly (within a week or two of the assessment). For larger refunds (from approx. NIS 20,000 and above), the authorities will pass your file on to be checked by a supervisor. The law requires the refund to be paid within 90 days of filing the return, but this is often ignored by the tax authority, and you may have to wait (significantly) longer.

The authorities didn't hold back a refund to be checked, you can expect a second assessment to be issued a number of months later, once some clerk has had a chance to look a little closer at your return. It is possible that something may come up (most likely source being disallowable donations) and there may be a balance of taxes to be paid. Normally, that would be the last correspondence from the authorities, although there is of course the possibility that your affairs may be audited at a later date.

Are you required to file a 2013 tax return?

This post is a similar post from last year, with the required amendments etc. pertinent to the 2013 tax year. The deadline for filing your 2013 tax return is Monday 30th June 2014.

The Tax Law states that every Israeli resident is required to file a tax return every year, and doing so late results in hefty penalties (in excess of NIS 1,000 for each month between the official deadline and the actual filing).

That being said, a supplementary ruling to the law grants exemptions from filing if you (and your spouse - assume this the whole way through this post) meet certain criteria.

The exemptions are in place in order to relieve the burden on the already-overstrechted tax authorities having to process tax returns for people who won't have any supplementary tax to pay anyway.

There are though certain people whose circumstances dictate that they must file, regardless of their earnings. If you fall into at least one of the following categories, you must file a return:

(1) You are a controlling shareholder (10%+ ownership including holdings of close family) of a company or similar corporation. This applies to all Israeli corporations, and many overseas corporations.
(2) Income of husband and wife is assessed together, rather than seperate calculations.
(3) You received severance pay that was spread over a number of years - one of those years being 2013 (known as פריסת פיצויים).
(4) You were required to file a tax return for 2012, but not for one of these reasons.
(5) You own shares in a non-publically traded non-Israeli corporation.
(6) The value of your overseas assets at any point in 2013 exceeded NIS 1,874,000. This requirement is not relevant for those who fall into the "10-year exemption" for new olim.

So, assuming you do not meet any of the criteria above, you are exempt from filing a 2013tax return if your income in 2013 was exclusively from the following list. If you had income from any other source, you are required to file:

(1) Salary (including pension and פיצויים) - if the gross amounts received were less than NIS 650,000 (per spouse) and tax was deducted at source.
(2) Rental income (above the exemption limit), provided that (a) the total gross rents were less than NIS 337,000 and (b) the 10% tax was paid by 30th January 2014.
(3) Foreign interest, dividends, capital gains etc, provided that (a) the total gross income was less than NIS 337,000 and (b) the tax (the rates depend on the exact nature of the income) was paid using the "short form" at the post office or online by 30th April 2014.
(4) Foreign pension, provided that (a) the total gross income was less than NIS 337,000 and (b) no tax is due in Israel under the provisions of section 9c of the tax law (beyond the scope of this post - perhaps I'll address it some other time).
(5) Israeli-sourced interest and/or linkage income, provided that either (a) it is exempt from Israeli tax or (b) tax was deduced at source and the gross income was less than NIS 644,000.
(6) Capital gains made on the sale of publically listed shares provided that either (a) it is exempt from Israeli tax or (b) tax was deduced at source and the gross sales were less than NIS 1,874,000.
(7) Other types of income which are subject to tax and tax has been deducted at the maximum rate.
(8) Other income exempt from Israeli taxes.

If the total gross income of (7) and (8) combined is at least NIS 337,000, no exemption is granted.
Furthermore, anyone whose overall income (from all sources) exceeded NIS 811,560, there is a requirement to file and pay the extra 2% tax for high earners - this tax is due on income above the quoted limit.

Whilst this looks a little daunting, in many situations the requirement or exemption from filing is reasonably clear - but if in doubt, take professional advice.

Capital Gains Tax - costs & proceeds

As discussed previously, capital gains tax arises when an asset is sold; the gain being the difference between the proceeds and the cost. It is important to define both of these terms.

Proceeds

The law sees the proceeds as the "fair-value" of the asset. This is defined as the going market-rate between two unrelated parties, with the asset not subject to any restrictions or liens. In most cases, this is the same as the actual cost. The definition is designed to exclude situations whereby an artificially low price is set; the low price does not count for tax purposes.

Cost

The law delineates six different ways that you might have received an asset in your position, and sets rules for the cost basis in each case.

1. Purchase - the cost is the amount laid out for the purchase.

2. Barter - the value of what you gave away. For this, the proceed rules above apply.

3. Gift - there are special rules that apply if a gift was received before 1st April 1968. For gifts received after that date:

- received from family member (who took an exemption from CGT on their disposal - see here for more), the cost is the cost-basis of the last person in the chain who didn't receive the asset as such a type of gift. It is important to note that the original purchase date is also the deemed purchase date for CGT calculations.

- received from anyone else, the cost is deemed to be the proceeds value for the giver of the gift (i.e. the value when gifted). This, seemingly, applies to gifts received from non-Israeli family members (who didn't need - and are not included in - the aforementioned exemption)

4. Inheritance - until 31 March 1981, Israel levied Inheritance Tax on the estate of a deceased person, based on the value of the assets at the date of death. As such:

- if you received the inheritance before 31 March 1981, your cost is the value of the asset on which Inheritance Tax was paid.

- if you received the inheritance after that date, the cost (and deemed purchase date) is the original cost to the deceased.

5. Manufacture - the amount expended to manufacture the asset. As stated in an earlier post, business inventory is not included in the CGT rules.

6. All other cases - the amount you paid for the asset.

A few general comments:

- any depreciation claimed for income tax purposes is deducted from the cost. This also includes depreciation claimed by previous owners where relevant (gift or inheritance situations).

- any costs incurred in improving the asset can be claimed.

- any costs incurred in the purchase of the asset (eg lawyers, purchase tax) can be claimed.

- assets inherited from abroad are treated under the inheritance rules above. This may lead to double taxation when estate/inheritance taxes were paid; and advice should be taken in each case. The tax office have a system (over and above what the law says) that may be a solution - but it doesn't work in all cases.

Capital Gains Tax - exemptions

As discussed in the previous post, CGT applies when an asset is sold.

There are a number of situations where the sale of an asset is exempt from CGT. The corollary is that if a loss is made in such a situation, it cannot be offset against other gains.

There are two main situations in which an exemption is given.

1. Gifts to the state or family

As a general rule, the proceeds for the purposes of capital gains tax is the value of the asset, even if it is gifted. However...

Gifting an asset to the State of Isrsel or one of the bodies associated with the State (e.g. KKL or UJA), or to a public organisation (i.e. charities) are exempt from CGT.

Also, gifts given to family members are exempt from tax. It should be noted here that family is defined as ISRAELI spouse/(grand)parent/(grand)child/sibling and their respective spouses. Non-Israeli family members do not fit into this category.

That being said, the tax authority can also grant an exemption for a gift given to someone else if they can be persuaded that the gift was given legitimately (and not as a tax ruse).

2. Oleh Chadash

Anyone who made Aliyah, or is a veteran returning resident, after 1st January 2007 has a 10-year exemption on capital gains tax when selling assets that are not located in Israel. It is irrelevant when the asset was purchased. After the expiry of the 10 years, the total profit is divided by the total number of days that the asset was owned for and only the number of days-worth of gain after the expiration of the 10 years are subject to tax.

For anyone who made Aliyah in 2006 or earlier, or is a non-veteran returning resident (even now), there is a 10-year exemption when non-Israeli assets are sold. However, the caveat here is that the exemption applies only to assets owned before moving to Israel. The tax on gains made after the expiration of the 10-year exemption is the same as above.

Capital Gains Tax - the basics

Within the income tax law there is a large section that deals with the taxation of capital gains. A gain (or loss) is made when an asset is sold; the proceeds are compared to the cost and the difference taxed accordingly.

This post will set out some of the basic rules. In later posts I will discuss some of the nuances and exemptions available.

What assets are subject to Capital Gains Tax (CGT)?

Essentially, almost every asset is included in the law. There are two major exemptions:

1. Business inventory (profits made will be taxed as regular business income)

2. Movable assets used solely for private use (e.g. sale of private car/furniture)

It should also be noted that there is a whole law relating to the profits made on the sale of land and property in Israel (known as מס שבח - Mas Shevach). There are special rules relating to this, but once there is a liability, the taxes are based on the CGT laws. As such, these transactions are reportable in your tax return.

The calculation

The calculation of the gain and taxes are split into a number of stages:

1. The cost of the asset is deducted from the proceeds. For these purposes, sale and purchase costs (e.g. lawyers, agents, bank fees etc.) are taken into account. Furthermore, any costs involved in improving the asset (e.g. house improvements and renovations) are also taken into account. However, if a portion of the cost has been claimed against your income (via depreciation), the total amounts claimed must be deducted from the cost.

If there is a loss, the calculation ends here.

2. Inflation plays a part in the increase of value of the asset, and the increase due to inflation is subject to a lower rate of tax.

The inflationary element is calculated by multiplying each element of cost (after deduction of depreciation) by the percentage increase in the retail price index between the dates of purchase and sale.

It should be noted that inflation cannot generate a loss. In this case, there is no gain or loss.

Inflation gains since 1 January 1994 are exempt from tax. Inflation gains before then are taxed at 10%.

3. The remaining gain is known as the real gain. This is split into (up to) three sections in order to ascertain the taxes due. The real gain is divided by the number of days that the asset was owned and then multiplied by the number of days in each period. It is not necessary to obtain a valuation of the asset at each change of tax rate.

a. Gains made from 1st January 2012 are taxed at 25% (30% if shares held by controlling shareholder).

b. Gains made between 1st January 2003 and 31st December 2011 are taxed at 20% (25% for controlling shareholders)

c. Gains made before 31st December 2002 are taxed at the marginal rate of tax in the year in which the sale is made. In other words, this income is added to your other earned income (e.g. salary and self-employment income).

For sales of assets (except shares), it is possible to split this gain over the years during which the asset was owned, up to a maximum of 4 years. This could, potentially, allow you to make use of lower rates of tax from previous years.

Payment of tax

If you buy and sell shares via an Israeli institution, tax will be deducted at source by the bank/institution on any gains that you make.

For Israeli land and property sales, a report must be made - and taxes paid - within 50 days of the sale.

For other sales, it is necessary to make a prepayment of tax soon after the sale. The final tax bill is calculated via the annual tax return.

(a) Reporting of other share gains should be made on a six-monthly basis. Gains made in the months January-June should be reported by 31st July, and gains made during the months of July-December by 31st January. In practice, many people leave the reporting until the tax return is filed.

(b) For sales of other assets, individual reports must be made for each sale within 30 days of the sale.

Failure to pay the taxes by the times listed will result in interest and linkage being charged from the date that payment should have been made, rather than from 1st January (following the tax year) or later, as is the case for other taxes due.