Court Ruling Could See Multinationals Pay More Taxes in Israel

A ruling by Israel’s Supreme Court announced last Sunday could see Israeli subsidiaries of multinational companies, and Israeli companies incorporated overseas for tax benefits, pay more income tax in the country.

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Ruling in favor of the Israeli tax authority, the court rejected a tax assessment appeal by Kontera Technologies Ltd. and Finisar Israel Ltd., two local subsidiaries of technology companies registered in the U.S. The court confirmed a previous ruling that states options provided to Israeli employees as call options must be taken into account when calculating taxable profit. Until now, such options were tallied separately, but the court ruled they constitute a wage-equivalent and thus fall under labor costs.

Local tax experts say the decision may apply to other companies as well.

Over 300 multinational companies operate local research and development outposts in Israel. Intel, one of the biggest employers in the Israeli technology industry, has both research and development and manufacturing facilities in the country. IBM employs thousands of engineers in Israel, and Apple executives have recently said the company’s local team grew from a single employee in 2011 to around 900 in 2017.

Multinationals account for 50% of the overall investment in research and development in Israel, according to a 2017 report by the Israeli government’s innovation investment arm. The report also mentioned that between 2007 and 2017, 20 new research and development centers were being set up in Israel each year. A January report by the Israel Central Bureau of Statistics stated that over half of the service exports from Israel are in the tech sector.

Last week’s court ruling does not align with Israel’s intention to bolster the country’s technology industry, said in an interview with Calcalist Racheli Guz-Lavi, a partner at Israel-based law firm APM & Co. The ruling erodes the competitiveness of the local market, Ms. Guz-Lavi said.

Equity awarded to employees can make up a significant part of a company’s overall value, Ms. Guz-Lavi said. Following a $15.3 billion acquisition of Jerusalem-based chip designer Mobileye by Intel, employees of the company received around $1.2 billion due to their vested options, she said.

According to Eldar Ben-Ruby, a partner at Israel-based law firm Meitar Liquornik Geva Leshem Tal, the recent ruling specifically refers to a taxation model that is used by fewer companies in recent years, due to regulatory changes made in the European Union.

The ruling might work in favor of homegrown companies, according to Oren Kaniel, CEO, and co-founder of Israel-based marketing analytics company AppsFlyer Ltd. In 2017, Israeli CEOs repeatedly referred to a local talent crunch and to their need to fight over employees with local research centers by the likes of Amazon and Apple.

Following a 2016 reform intended to make Israel more attractive to multinationals, Israel offers extensive tax benefits to tech companies with operating revenues of over $2.8 billion.

“I’m not saying we don’t need multinationals—I started my career in Intel, but we crossed the red line, and the balance was dramatically disturbed,” Mr. Kaniel said in an interview with Calcalist.