As Israel is an international hub for technology and innovation, many international companies have invested in Israeli companies during the last few years. In addition, non-technological Israeli companies, with a global presence, have been targeted by foreign investors.
The Israeli government goes to great lengths in order to promote and embrace foreign investments in the Israeli economy by creating a competitive tax regime, especially towards local manufactures, R&D and software companies.
For example, in relevant cases, taxation on an activity can be reduced from 25% to 16% or 9% - according to the geographical location of the company.
One of the conditions is that if the company already has active income, at least 25% of the target’s income should originate from abroad.
Foreign investors must take into consideration that according to the Israeli regulations, any payment from an Israeli entity is subject to 25% withholding tax.
Israel has a network of treaties with over 150 countries aimed at avoiding double taxation. Accordingly, when the provisions of a tax treaty apply, Israeli companies paying overseas will find the rate of the withholding tax in Israel is reduced in most cases.
A few major considerations a foreign investor should take into account when structuring the investment:
So what is better for foreign investors – investing by debt or shares?
While investing in equity may contribute to postponing tax to the time of dividend distribution, at a 25% tax rate, a debt payment may receive full exemption from taxation.
According to the Israeli tax regulations, investing via debt can also be executed by "capital notes" or loans, which are not liable for interest if the capital note or the loan is not repaid for at least five years.
Therefore, a loan or capital note investment might be a preferable choice for a long-term investor.
In most circumstances, foreign residents are not required to pay tax on capital gains in Israel. Therefore investing via equity might be the relevant choice for short-term investors, where there is a potential capital gain on the investment.
Example of a structure commonly used to invest in Israeli companies:
In the example above, the dividend from the target to the Israeli SPV holding company has no tax liability and the loan repayments will not incur withholding tax payments.
Another example of a common structure is where a foreign company invests via a loan or equity in an Israeli SPV company and the Israeli company buys the target’s assets. In that case, the Israeli company may deduct the asset from its new cost base.
It should be clarified that this summary is for general information purposes only and one should not see this review as a substitute for professional advice
Arik Cohen, CPA