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30 March 2014

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.

21 March 2014

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.

11 March 2014

Claiming expenses - an overview

One of the frequently asked questions is what expenses a business can claim so as to reduce the tax bills. This is for both income tax (and by extension Bituach Leumi) and ma'am purposes (for osek morshe only).

The basic rule is that you claim any expense that is wholly and exclusively for the purposes of generating income. This applies both for Ma'am and Mas Hachnasa purposes.

There are some situations in which this will be obvious. Examples include professional licences/memberships and insurances, office rental, salaries / freelance outsourcers etc. But of course, there can be other situations whereby the situation is not so clear cut. This post will set out some of the more common situations.

Ma'am (VAT)

As a general comment, you can only claim Ma'am on expenses if you have a tax invoice (חשבונית מס) from your supplier. Without such a document, you cannot claim the expense.

Furthermore, on your VAT return, the expenses are split between "fixed assets" and "other expenses". Fixed assets are expenses that will be used in the business for a prolonged period, and an unlikely to recur on a regular basis. Examples would be computers, equipment etc. The VAT on fixed assets can be claimed in full in the period in which the invoice was issued.

The main complication comes with expenses that have both private and business uses. The VAT rules state that in such a situation, you can claim 25% of the VAT for an expense which is primarily private and 2/3 (66.67%) of the VAT for expenses which are primarily for business.

Cars - VAT cannot be claimed whatsoever on either the purchase or the rental of a car. For ongoing expenses (gas/petrol, repairs etc.), you can claim 25% of the VAT. For those using cars a lot for business (usual test is if the car is being driven at least 36,000 km in a year), 2/3 of the VAT can be claimed.

Telephone/Cellphone - It is generally assumed that these are used primarily for business and so 2/3 of the VAT can be claimed.

Home expenses - If you are working from home, you can claim VAT on your ongoing house expenses (e.g. electricity, water, gas etc.), but only 25% (as these are primarily private expenses).

Mas Hachnasa (Income Tax)

For income tax (and be extension, Bituach Leumi) purposes, any VAT claimed is not included in your expenses.

Fixed assets - the total cost cannot be claimed in the year in which the monies are paid out. Rather, the tax office has issued guidelines as to how many years the expense is spread over. This spreading is known as depreciation (פחת). For example, computers are depreciated at 33% per annum, cars at 15%, electronic equipment at 7% etc.

Cars - the rule of thumb is that only 45% of the expenses (including depreciation of the cost as well as the licence and insurances) can be claimed. There are exceptional circumstances where the rules are different, but these are rare.

Telephone - the first NIS 2,300 of expenses are considered private expenses. Any excess above that amount can be claimed. In practice, most home lines do not get to this level.

Cellphone - 50% of your monthly bill - up to NIS 105 per month - is considered private use. The rest can be claimed.

Home expenses - In general a percentage of the home expenses is claimed based on the proportion of the home being used for business. This is often 20% or 25%, but could be lower, depending on the situation.

Entertainment - The general rule of thumb is that entertaining of clients is not an allowable expense. The exemption is entertainment of foreign clients - but this can be difficult to prove (can you get copies of passports of your guests? And a photograph to prove that they were at the table when the bill was issued?!)

Office refreshments - e.g. tea & coffee for employees. 80% only of the cost can be claimed.

All of the above applies where the business is the only source of income. In other circumstances, it is often required to claim fewer expenses. As always, it is best to get professional advice for each individual situation.