International Tax Reform: The Issues That Did Not “Grab” the Headlines
The Committee for International Tax Reform recently submitted its recommendations to the Director of the Israel Tax Authority, and it caused a great storm. Study of its conclusions raises two significant issues which have been addressed very minimally in the various publications, and due to their importance, we have chosen to bring them to your attention.
The first issue relates to exit tax imposed on whoever ceases to be an Israel Resident. The tax’s objective is to tax profits on the taxpayer’s assets before they leave the country. According to the current law, taxpayers can elect to pay the tax applicable to imputed sale of the assets on the date of departure or defer the tax payment until the actual sale of the assets. Within the reform, the Committee recommends stipulating reporting and declaration obligations on the set of assets subject to exit tax, and on the profit that would have accrued if they had been sold at the time of departure, where these obligations will continue to apply during every tax year beginning on the date of departure and until the date of payment of exit tax in full for the assets.
Taxpayers that owned Foreign Resident companies and elected to defer the exit tax until the date of exercise of the shares they own, could have distributed a dividend right before the sale of shares, thereby significantly reducing the exit tax imposed on the shares (since the share value drops after distribution of the surpluses). In order to neutralize the above tax incentive, the Committee recommends stipulating a mechanism to enable taxation of dividends distributed by Foreign Resident companies starting from the date of severing residency and until the share exercise date. According to the mechanism, an additional declaration obligation should be imposed on controlling shareholders in Foreign Resident companies, on dividend distribution during that period, where for the purpose of calculating exit tax, any dividend distribution as above would be seen as partial exercise of the shares.
Since the legislative changes, if they pass, are expected to apply from 2022 onwards, we recommend starting to prepare for the above change this month.
The second issue concerns imposing a new reporting obligation on Foreign Resident companies that could be considered Israel Residents under “control and management”. In order to increase transparency with respect to these companies, the Committee recommends imposing a reporting obligation on Foreign Resident companies that meet all of the following conditions: 1. 50% of the means of control are held, directly or indirectly, by Israel Residents; 2. The amount of its tax liability abroad does not exceed 15% of all its profits, and one of the following applies – a. it is a resident of a state that is not a reciprocating state, b. it is not subject to tax on income produced abroad in its state of residency (territorial taxation); 3. One of the following ties is present: 50% of the company’s directors or senior officials are Israel Residents, the company’s primary activity is in Israel, the number of days its senior officials stayed in Israel test.
Foreign Resident companies that meet all these conditions would be required to open a file with the Tax Authority, to file an annual corporate tax return (Form 1214) and would be required to justify why control and management of the company are not operated from Israel. Additionally, the company’s audited financial statements (if any) must be enclosed. Based on our experience, this provision could apply to numerous companies owned by Israel Residents, and we recommend examining the impact of the Committee’s recommendations on the existing holdings structure.
For additional information, contact Adv. (CPA) Doron Elmekiesse or Adv. Shiran Polishuk from our firm.
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