Dear Clients, Colleagues and Friends,
The Israeli Tax Authority (“ITA”) has published a Circular, allowing for
transitional settlement arrangements (“tax settlements”) for trusts that
have become subject to tax in Israel pursuant to Amendment 197 of
Israel’s Income Tax Ordinance (the "New Law"). The New Law, which
was described in our client circular dated 31th
July 2013, dramatically
changed the taxation of trusts in Israel.
One of the most significant changes included in the New Law is the
cancelation of the Foreign Settlor Trust regime. Under this regime, which
was applicable before January 1, 2014, a trust settled by a foreign
resident for the benefit of Israeli residents was exempt from tax and
reporting in Israel on its non-Israeli source income. The status of a
foreign settlor trust was subject to certain conditions. The main condition
was that the Israeli beneficiaries could not influence or control the trust or
the assets of the trust (such as distributions from the trust, management
of the companies that are held by the trust, appointment of trustees and
As a result of the cancelation of the Foreign Settlor Trust regime, the New
Law provides that a trust will be subject to the Israeli tax regime even if
there is only one single Israeli resident beneficiary. If the foreign settlor is
still alive and he or she is a relative of any Israeli resident beneficiary,
then only distributions to an Israeli beneficiary from such a trust will
generally be subject to tax in Israel at the rate of 30% of the income
component in the distribution. If the settlor has died, or he or she is not a
Meir Linzen, Managing
Partner and Head of Tax
Tel: 972 3 692 2035
Guy Katz, Partner
Tel: 972 3 692 2035
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relative of the beneficiary, the trust will be subject to tax in Israel on its
The new rules relating to the taxation of trusts, which largely became
effective on January 1, 2014, do not include any transitional provisions.
As a result, many previously exempt trusts became subject to tax on
January 1, 2014 without receiving any step-up in the current value of the
assets of the trust. In addition, senior officers at the ITA have argued
that most of the Foreign Settlor Trusts were subject to tax in Israel even
before January 1, 2014, due to the influence which Israeli beneficiaries
exercised over the trust.
In the absence of transitional provisions, and following numerous
negotiations, the ITA has decided to offer tax settlements for trusts that
have become subject to tax in Israel as a result of the New Law. Herzog
Fox and Neeman were intensively involved throughout the process of
developing these tax settlements.
The purpose of the tax settlements is to compromise claims with respect
to any past tax exposure for trusts, and to provide a step-up in the value
of the assets of the trust, as of the point at which they became subject to
It should be clarified that applying for the tax settlement is voluntary. A
trustee who chooses not to apply for the tax settlement will be subject to
tax rules specified in the New Law as written, without any transitional
Description of the Settlement Arrangement
The tax settlements allow the trustees to choose between two routes for
taxation of the trust:
Alternative 1 - Taxable Income Route:
A trust may elect to pay a portion (usually 33%-66%) of the regular tax
liability on the taxable income of the trust which was derived during the
period January 1, 2006 to January 1, 2014 ("the Determining Period").
The "Settlement Percentage" depends on a number of factors which are
described in the table below. This route, generally, does not provide for a
step-up in the value of the assets of the trust.
Alternative 2 – "Tax on Capital" Route:
Alternatively, where the yield on the trust's assets is not extraordinarily
high, a trust may elect to have the tax calculated as a percentage of the
value of the capital (assets) of the trust as of December 31, 2013.
The applicable rates are detailed in the below table -
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Trust Group Proposed Settlement
under the Taxable
the “Tax on Capital”
Family Trusts in the case
the settlor is alive
1/3 of the applicable tax for
3% of the trust capital In order to be entitled to this rate the settlor must be alive and must be a relative of the beneficiary.
The beneficiary will not be subject to tax on distributions from the assets that were subject to tax under the
settlement. However, there is an ordering rule which determines that distributions will first be made from
profits accumulated after January 1, 2014.
Family Trust in the case the
settlor has died
1/2 of the applicable tax for
4% of the trust capital This route is relevant for trusts where the settlor has died and he was a relative of the beneficiaries.
If the settlor has died in 2013 the trust will be taxed as a Family Trust in which the settlor is alive.
Cases in which it is clear
that Israeli beneficiaries
could have influenced the
2/3 of the applicable tax for
6% of the trust capital The factors of influence include: (i) The power to appoint the beneficiaries, the trustees or manage the trust
assets; (ii) the beneficiary is a member of the trust's investment committee or in any other managing body of
the trust; (iii) Providing management or consulting services to the trust; (iv) Transferring assets to the trust
for less than full consideration; (v) The beneficiary holds a managing position at one of the
companies/projects owned by the trust; (vi) The assets of the trust are pledged as security for a loan to the
beneficiary/a loan that the beneficiary has taken not at market value and not according to the trust deed.
A trust in which it is evident
that the beneficiaries had
no influence over the trust
0% of the tax on taxable
0% of the trust capital This rate will apply only in rare circumstances in which the tax assessing officer is convinced beyond any
doubt that the beneficiary had no influence of any kind over the trust, and where there was no connection of
any kind in relation to the trust, between the beneficiary and the settlor.
An example of such cases will include trusts in which the settlor is a foreign resident and was alive during the
whole Determining Period, and all the Israeli beneficiaries are either (i) minors or (ii) comprise less than 10%
of the beneficial interest in the trust
An Israeli Beneficiary Trust
with no family relationship
of first or second degree
Subject to the Discretion of the Tax Assessing Officer
The settlor is considered a relative of the beneficiary if the beneficiary is his spouse, parent, grandparent,
child or grandchild (first degree).
If the settlor and the beneficiaries are "second degree" relatives (a broader definition which includes inter
alia, siblings, siblings' children and the parents' siblings), then they will be considered as relatives for the
purpose of this definition only to the extent that the tax assessing officer is convinced that the trust was
settled in good faith, and the beneficiary has not paid any consideration for his right in the trust assets.
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Clarifications Regarding the Proposed
1. Procedural aspects regarding the submission of the application
(i) Trustees who choose to apply for a tax settlement must submit an
application with the relevant forms by December 31, 2014.
(ii) The Israeli beneficiary must submit an affidavit which indicates that he
did not transfer any asset, directly or indirectly, to the trust.
2. Trusts which will not be entitled to the tax settlement
The ITA sets out 3 scenarios in which a trust will not be entitled to the
settlement arrangement -
(i) The trust could have been classified as an Israeli Resident Trust before
January 1, 2014, because the assets that were vested with the trustee
originated from an asset which was transferred from an Israeli resident –
when he or his Israeli resident relative are beneficiaries of the trust.
(ii) The settlor is the beneficiary directly or indirectly.
(iii) Any part of the trust fund is derived from taxable income in Israel, for
which no taxes have been paid.
The Israeli beneficiary and the trustee will be required to declare that the
above conditions are not applicable to the relevant trust.
3. Calculation of the Taxable Income under the "Taxable Income
The ITA has provided a number of clarifications regarding the way the taxable
income should be calculated under the "Taxable Income Route" -
(i) Losses incurred from January 1, 2006 to January 1, 2014 will be deducted
from the income which was derived during the Determining Period only.
Carry-forward of losses for the year 2014 is not allowed.
(ii) A foreign tax credit will be granted only in respect of foreign taxes that
have actually been paid and only in proportion to the settlement ratio
(e.g., if only half of the income was subject to tax than only half of the
foreign taxes will be credited).
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(iii) The taxes will be paid with interest and linkage from the end of each
year, but penalties will not be imposed.
(iv) Under this route, there will be no step up in the value of the assets of the
trust, unless the trustee chooses to realize a "deemed sale" of the
relevant asset. Such a deemed sale, will be subject to tax as if the
relevant asset was sold for its fair market value on December 31, 2013,
subject to the settlement ratio.
4. Calculation of the Capital of a Trust
The ITA has also provided some clarifications in respect of Alternative 2 – the
route that taxes the capital of a trust.
(i) The capital of a trust includes the value of the assets of the trust as at
December 31, 2013, plus distributions to Israeli resident beneficiaries
from January 1, 2006 to January 1, 2014.
(ii) The capital includes all the trust assets, including cash and cash
(iii) The liabilities of the trust will not be deducted; if this mechanism causes
double taxation, the local tax offices are permitted to seek a solution on a
(iv) The value of non-traded assets will be determined based on a valuation.
Absent a valuation, the local office can rely, for example, on the value
which has been determined for estate tax purposes in a foreign country.
5. Other Supporting Factors
The following factors will be considered in the context of the tax settlements,
at the discretion of the tax assessing officer, and they may reduce the
applicable tax liability of the trust -
(i) The existence of foreign resident beneficiaries of the trust.
(ii) Any foreign tax liability/ foreign tax payment by the trust or by the settlor
or by any beneficiary on behalf of the trust.
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(iii) Whether the trust is a resident for tax purposes, in a State which is party
to a Double Taxation Treaty with Israel, and is subject to tax in that
(iv) Whether the trust has settled its Israel tax liability in the past.
(v) Whether the beneficiary of the trust is a new immigrant or returning
resident during the Determining Period.
(vi) The date of creation of the trust (new trusts may be entitled to relief
more readily than older trusts).
(vii) The date of the settlor's death.
(viii) Other circumstances, subject to the discretion of the tax assessing
6. Conversion Rules
The conversion of a foreign currency into Israeli currency will be made –
(i) Under the Taxable Income Route - the lower between - (a) the
exchange rate on the last day of the tax year in which the income was
realized; or (b) the exchange rate at December 31, 2013; and
(ii) Under the “Tax on Capital” Route - based on the exchange rate at
December 31, 2013 and the tax liability will bear interest as of this
* * * * *
Should you require any further information or clarification regarding the issues
discussed in this Circular, please do not hesitate to contact either:
E-mail Phone Number
Meir Linzen firstname.lastname@example.org 972 – 3 – 6922035
Guy Katz email@example.com 972 – 3 – 6922035
This publication is intended as a general guide only. It should not be
regarded as legal advice and cannot be relied upon. The readers
should seek specific professional advice in applying the applicable law
to any specific situation.
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