On February 12, 2017, the Israeli government approved a new bill ("the Bill"), proposing amendments to Chapter E2 of the Income Tax Ordinance (New Version), 1961 ("Chapter E2"), which deal with tax reliefs for restructuring and merger transactions.
Many restructuring transactions, such as corporate mergers, split-offs or asset transfers to a certain company in exchange to shares of the same company ("Restructuring Transactions"), are made for business, commercial or administrative purposes, without an actual exercise of assets or holdings to justify the imposition of taxation. For that reason, the legislator set out, in Chapter E2, a list of conditions under which Restructuring Transactions are exempt from taxation.
For quite a few years, the current wording of Chapter E2 has been proven to be complicated and not up-to-date with the modern economic landscape and, in many cases, has thwarted the execution of restructuring and merger transactions and, as a result, has influenced the development and the functionality of Israeli businesses. This influence is more severe in the Israeli hi-tech industry, where Restructuring Transactions are very common and require a simple execution and a certainty of the resulting tax implications.
The Bill seeks to amend Chapter E2, by adding moderate and unified conditions that will enable easier execution of Restructuring Transactions, and encourage investors and corporations to develop their Israeli businesses and activities. The said amendments of Chapter E2 include:
- Canceling the obligation to obtain a tax ruling from the Israeli tax authority ("the ITA"), concerning to the entitlement to the exemption granted for certain types of the Restructuring Transactions (including mergers and split-offs).
- Moderating the two-year limitations of selling or issuing shares of the companies involved in Restructuring Transactions.
- Canceling the general prohibition of granting an exemption to Restructuring Transaction that involves the transfer of cash as a consideration for the merger or the restructure.
- Accelerating the claim and offset of the accumulated losses in the merged of restructured companies prior to the Restructuring Transaction, and moderating the current limitations with regard to the deductibility of such losses.
- Moderating the restrictions on the tax exempt transfer of asset from a shareholder to an existing company in exchange to shares of the existing company.
In addition, the Bill proposes a number of amendments to Chapter E2 that will prevent the exploitation of the current ambiguities in Chapter E2 to avoid or reduce taxes on Restructuring Transaction that are actually exercise of assets.
We highly recommend taking into consideration the provisions of the Bill, and make the required arrangements with relation to any planned Restructuring Transaction. In certain cases, the proposed amendments might not only make significant difference in terms of costs and efficiency, but also enable the execution of Restructuring Transaction that wouldn't be feasible under the current wording of Chapter E2.
The final wording and amendments to be enacted within the Bill, will be reviewed in a different article upon its approval by the Israeli parliament.
In our previous article, published on this site on April 22, 2016 ("the Article"), discussing tax ruling No. 4253/16 ("the Ruling"), published by the ITA, approving the imposition of taxes on holdback payments as a capital gain and not as employment income, we referred to the decision of Tel-Aviv District Court, in the case of Haim Helman vs. Tel-Aviv 4 Tax Officer ("Helman Case").
As described in the Article, the District Court ruled, in the Helman Case, that the holdback payments paid by IBM to the sellers of an Israeli company, who were required to work in IBM, are to be deemed as employment income and not as part of the sold shares' price ("the District Court's Decision"). The main underlying principle behind the decision in the Helman Case was that the holdback payments are conditioned upon the continuous nature of the employee-employer relations, even though it was proven that the holdback payments are in addition to the regular salary paid to them as employees of IBM.
Lately, the Israeli Supreme Court declined the appeal submitted by the sellers in the Helman Case. Obviously, this decision confirms the District Court's Decision; however, it contradicts the decision of the ITA in the Ruling, in which the ITA agreed to impose capital gain taxes on holdback payments which are conditioned upon the continuance of the employee-employer relations between the sellers and the buying company.
In light of the aforementioned, and the different decisions in two different but similar cases, we highly recommend careful examination and accurate tax planning of any future merger or acquisition transactions, and in certain cases, even recommend approaching the ITA with a pre-ruling application, in order to minimize the tax ramifications of any holdback payments in such transactions.