Exemption From Participation

Eli Doron, adv. - Yaron Tikotzky, adv. (c.p.a)  eli-doron@taxlawyers.co.il

On June 25th 2005, amendment 147 of the revenue tax ordinance was passed, whose purpose was to improve the competitive ability of the Israeli tax system vis-à-vis tax systems world-wide, and as a probable consequence to increase the Israeli market job supply. With that aim, another chapter was added to the ordinance, which deals with exemption from participation for Israeli holding companies, which promotes the establishment of administrative centers of multi-national companies (foreign companies) in Israel, and which is intended to draw foreign investors to Israel; a fact which, at the end of the day, causes an increase in employment in Israel, by increasing the demand for services on the part of foreign entities, by granting an exemption from company tax for profits the holding companies gain from their sub-companies.

Generally speaking, a corporation whose main occupation is possessing means of control over other corporations, and which does directly deal with other financial activities, constitutes a holding company.

An Israeli holding company is a company in which the following terms, among others, exist: It was incorporated in Israel and the control and management of its businesses are operated solely in Israel: it is not a public company; for 300 days or more of every tax year, beginning with the tax year after the one in which it was incorporated, its original investment in the held companies' shares, in addition to the remainder of loans which were granted to the held companies, was not below 50 million NIS. In addition, its original investment in the shares of the held companies, in addition to the remainder of loans which were granted to the held companies, is at least 75% of the original price of all its assets; it had no revenue according to clause 2(1) (revenues from a business), except for revenues from services given to the held companies;

A people group constitutes a held company if the following terms exist in it: It is a foreign resident, whose residence is in a country which shares a tax treaty with Israel, and it files a tax report for its revenues in that same country, or it is a foreign resident, whose residence is in a country in which the tax rate which applies to the revenues of a people group from business activities is 15% or higher; 75% or more of its revenues in a tax year, which was produced or grown outside Israel, is revenues from a business [clause 2(1)]; the cost of its assets in Israel is not higher than 20% of the cost of all its assets in every tax year; its revenue during a tax year, including from sale of real-estate or real-estate corporation rights, which have been produced or grown in Israel, is not higher than 20% of all its revenues in a tax year.

In order to promote the establishment of Israeli holding companies, a fact which will draw foreign investors to Israel, and as a probable consequence will increase the demand in Israel for workers in the field of providing services, the legislature has created a mechanism of exemptions, which benefit holding companies, on account of the following revenues:

Capital gains created for a holding company on account of sale of an accredited share. An accredited share is a share which constitutes part of the shares of a held company, which awards a right to profits at a rate of 10% at least, and which has been held by the Israeli holdings company for the duration of 12 consecutive months at least;

A dividend which the holdings company received on account of ownership of an accredited share, if it had been distributed for a period which was no less than 12 consecutive months, in which the Israeli holding company was an essential share holder (whomever holds at least 10% of one type or more of means of control in the company) in the held company;

I should like to point out that both of the above-mentioned exemptions promote the circulation of money into the state of Israel.

Interest, dividend and capital gain from shares traded in the Israeli stock market;

            Interest and linkage attained from a monetary institute (for example, a bank).

Furthermore, a dividend which a foreign resident stock-holder received from an Israeli holding company shall be taxed at a rate of 5% only. This benefit is also given to an Israeli resident, if he/she had held the Israeli holding company shares before having first become an Israeli resident (a new immigrant), or before having become a returning resident.

On the other hand, a dividend which an Israeli resident share-holder has received from an Israeli holding company shall be taxed at a rate which ranges between 20% and 29%, contingent on whether the receiver of the dividend is an individual or a company, as well as on the type of revenue from which the dividend was derived. Furthermore, an Israeli resident who is a stock-holder in an Israeli holding company, directly or indirectly, shall be held as a recipient of a dividend, and shall be taxed for his / her relative share in the profits which were not distributed. In other words, the legislature permits the taxing of dividend distribution, even if it has not been executed.

To sum up, the state of Israel, although belatedly, has grasped the potential latent in granting benefits and exemptions to Israeli holding companies in the area of drawing foreign investors to Israel, establishing international management centers of foreign residents, and improving the job supply in the Israeli market –  a fact which should be congratulated.