Israel Tax Authority Falling Short of Target on Taxing 'Trapped' Corporate Profits

Despite having raised only NIS 640 million in tax revenues from so-called "trapped" corporate profits, Israel Tax Authority says it expects more companies to use the special tax break expiring in November.

The Israel Tax Authority is currently far short of its goal for collecting tax revenues from so-called trapped corporate profits, with just NIS 640 million of the NIS 3 billion projected in the 2013 budget, although officials remain optimistic.

Authority officials said they will raise the target amount by the November 11 deadline, from either collecting the reduced tax on trapped profits, or by charging a regular tax rate on the trapped profits in the remaining weeks of the year.

Most companies are waiting until the last minute before deciding whether to distribute their trapped profits as dividends and pay the tax, Tax Authority sources said.

They hinted that the authority would step up enforcement activity by threatening the companies not issuing dividends on trapped profits that the authority would likely declare them as de facto dividends and still require them to pay tax, but at the regular tax rate.

The category of trapped profits was created by a clause in the Law for Encouraging Capital Investments that allowed companies to pay a reduced corporate tax rate on profits - as long as they were not distributed as dividends. This led many companies to sit on their profits, which have grown to NIS 120 billion.

In 2011, then Finance Minister Yuval Steinitz annulled the rule, awarding tax benefits to companies regardless of whether they distributed profits as dividends. He also gave companies until November 11, 2013, to distribute dividends on profits earned before the 2011 law change at a reduced tax rate.

One company that has used this option is Teva Pharmaceuticals, which announced in May that it would pay NIS 336 million in taxes to free up $1.5 billion of trapped profits.

The reduced tax rate on dividends paid from trapped profits has been a sensitive public issue, because Israel's major export companies - the ones that benefit from the break - are viewed as already benefiting from a host of excessive tax benefits.

The Finance Ministry, however, defended the tax reduction measure, saying that most of the NIS 120 billion in trapped profits have already left the country, so the argument on tax rates over them is largely theoretical.

Israel Tax Authority offices in Jerusalem.
Lior Mizrahi
Flash 90