Recently, the Supreme Court of Israel ruled that income received by 3 academic professors – who are regularly employed by Israeli academic institutions - from research institutions abroad, and referred to as “stipend”, is taxable income in Israel.
The ruling, which includes three detailed opinions - one of them a minority – expounds the basic principles and major prevalent terms of taxation on income (“taxable basis”, “theory of sources of income” and “the theory of enrichment").
The court ruled that the “stipend” received by the 3 academicians should be treated as “income” from the source of “occupation”, which is one of the sources specified in the Israeli Income Tax Ordinance as a source of “taxable income”, since all the material conditions necessary for classifying it as “income” exist. Among said conditions the court referred to its having been derived from a source that has a potential of recurrent productivity, as distinct from a source lacking such potential such as income deriving from a private or personal relationship (such as a present or prize). In this connection, the court rejected the academicians' arguments that the stipend should not be taxed because the research in respect of which the stipend had been paid was not related to their areas of specialty, or because no commitment had been made that the research will yield a product, or because there was no relation between the sum of the stipend and the “service” the academicians had allegedly provided in return.
Additional criteria which the court used for classification are the criteria of “remuneration” and the criteria of “temporality”. The Supreme Court ruled, in a quite revolutionary majority opinion, that the criteria of remuneration on part of the academicians had been met in view of the participation of the academicians in the intellectual activity of the research institutions and the expectation that the research will yield a product which the institutions will also benefit from – notwithstanding the fact that this expectation had not taken the form of a formal legal obligation. This novel test of “remuneration” was based on components such as exclusivity, produce and involvement. The court also referred to the fact that the stipend had been paid in respect of future activity (the academicians’ stay in the institutions and their performance of research) and not as a prize for their past achievements.
The Supreme Court pointed out that the tendency in the Israeli tax law is to expand the basis for taxation with a resulting narrowing of the gap between the “theory of source” and the “theory of enrichment”, without however abandoning the principle that the source of the income must be economic as distinct from private-personal activity.
The Supreme Court referred to the exclusion in section 9(29) of the Income Tax Ordinance which generally exempts stipends that were received by students and researchers during the period of their education or research in local academic institutions under certain conditions. Said exemption was enacted in 2010 as a certain compromise, after years of disputes between the tax authorities and the academic institutions in Israel concerning the taxation of stipends. The disputes revolved mainly on the issue of taxation of stipends in respect of living expenses, as distinct from stipends awarded for excellence or in cases of social-economic justification (regarding which there was a consensus that the exemption should apply) and as distinct also from stipends for teaching services (regarding which there was generally a consensus that they were taxable.(
In the case of our academicians, prima facia the exemption - which applies only to stipends received from local academic institutions - did not apply since the stipends were not received from local academic institutions. Therefore, the court needed to address the issue of which criteria will apply if the conditions of section 29(9) are not met and which principles can be derived from section 29(9) itself. Without exhausting all aspects of the legal analysis, the Supreme Court made some interesting observations. Not surprisingly, the Court pointed out that the title of the income does not determine whether or not it is taxable income and also that section 29(9) is an exemption provision and not a source of taxation. Additionally, the Court stated that the specific exemption in section 29(9) does not reflect a general principle of exemption for stipends that do not meet its conditions, but rather the opposite .
The result of the ruling is that any income referred to as “stipend” must be examined on its merits according to the general principles of taxation.
Various sources, such as the legislative committee protocols or the guidelines of the Tax Authority, indicate that the purpose of the legislature was not to tax payments designated to cover education costs and living expenses. However, following the Supreme Court’s ruling, the demarcation line between such education costs and taxable income has become blurred. As we have seen, the criteria of remuneration applied by the Supreme Court was broader than that applied by the legislature in section 29(9): the Supreme Court regarded the exclusivity of the academicians activity in the academic institutions abroad as an indication of remuneration while section 29(9) – which also stipulates the exemption on the recipient not giving remuneration to the payer of the stipend – provides that an undertaking of a student/researcher to devote all their time to studies/research will not be regarded as remuneration.
The Supreme Court also regarded as remuneration the benefits to be derived by the academic institutions as a result of the involvement of the academicians in the various activities of the institutions and their contribution to the reputation of these newly founded institutions.
The Supreme Court therefore ruled that the stipends constitute taxable income.
The fact that the stipends were paid to veteran academicians as distinct from PhD or other advanced studies was probably a factor in the Court’s decision as to the source of the stipend.
From a general viewpoint, the broadening of the term “remuneration” in the Supreme Court’s ruling, may lead to the taxation of most stipends paid to those who can be considered as having an occupation, such as licensed professionals, in respect of advanced studies abroad. Former decisions of the Supreme Court have also dealt with the taxation of income receive by academicians for various activities abroad such as lectures and arbitrations.
The broadening of the term “income” in the tax law context does not in itself reflect on the position of the academicians in the employment law context. In the case discussed, the fact that the academicians were employees of local academic institutions was not in dispute and there was no contention that they were employees of the foreign institutions, and indeed, they were taxed under the source of “occupation” income as distinct from “employment” income. As a general comment, the criteria used in employment law are different from those used in tax law and also the policy considerations are different. For example, the criteria of “remuneration” as discussed and applied in the ruling is not a main criteria for determining whether an employment relationship exists. In employment law there are several rulings according to which research and training activities engaged in during advanced studies or certain specialization programs (PhD or dentistry specializations), do not in themselves create an employment relationship and it is not to be expected that the result will be different also in such cases which meet the criteria of said ruling.