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.