Shortfall in Israeli Tax Revenue Due to Rise in Corporate Refunds

The question is how did companies find themselves paying excess tax, or, more to the point, how did they so badly overestimate their profits for 2011?

The yawning deficit in the 2012 budget - one that is showing no sign of closing this year, either - has widened as tax receipts continue to surprise the treasury for the worse month after month.

In the first quarter, the deficit grew to 4.5% of gross domestic product, bigger than the figure for all of 2012.

Despite the government's decision to raise income tax rates, revenue from direct taxes were NIS 2 billion lower in the first quarter than they were for the same time in 2012. In fact, after discounting for changes to the tax code, the government's tax revenue was 6% lower after inflation than a year ago.

Now, it emerges that the reason for the revenue shortfalls is sharp rise in tax refunds to companies. Since the start of the year, the refunds have grown to NIS 4.8 billion, an increase of about 55% from the same time in 2012. These refunds are based on payments made during 2011 based on forecast profits. It turns out, however, that these forecasts were too high, meaning the companies overpaid on their taxes during 2011. But that only became apparent as the companies filed their 2011 reports, which they did over 2012 and even as late as the start of this year.

The question is how did companies find themselves paying excess tax, or, more to the point, how did they so badly overestimate their profits for 2011?

The answer is that businesses don't simply predict what their future profits will be, but base it on their last reported rate of profit. At the start of 2011, their last reported profit was for 2009. Companiesheir 2011 liabilities on the basis that profitability would be at 2009 levels. In the end, this proved incorrect.

That seems counter-intuitive since 2009 was the worst year of the global financial crisis. So it raises another question as to how profits in 2011 could be lower than they were two years earlier. At the Tax Authority, for the moment, officials have no answer.

But they are concerned that the lower profitability may signal a wider problem for the entire Israeli economy, namely a decline in profitability across the corporate sector, not just for 2011 but for the year ahead. For now, officials have noted only that the decline seems to encompass all sectors of the economy rather than a problem for a specific sector, sectors or individual companies.

Following the great drop-off of 2011, advanced tax payments due to be paid for 2013 in the second half of the year are also likely to be low. In other words, the problem of insufficient tax revenues is likely to be a problem for all of 2013.

Merkaz Katif