Considering a change in your business structure? Consult with your CFO regarding the tax implications
The Israeli Tax Authority has recently published a circular (“The Circular”) outlining a new policy regarding changes to the business structure of multinational groups. The bottom line is that the Israeli Tax Authority now regards a change to the business model as a capital gains tax which should be taxed accordingly. In addition to presenting the relevant income tax positions, the circular defines indications to identify and define a change to the business structure and offers a number of accepted methodologies to assess the value of the functions, assets and liabilities that are transferred or avoided in the framework of the change to the business structure.
Issues discussed in the circular include:
- Interpretations to the essential components of the structure change, such as intangible assets, reputation, business value, group synergies and skilled manpower.
- Instructions regarding upholding the “arm’s length” principle through analysis of the functions, examining the legal contracts and the real alternatives faced by the sides.
- Income Tax interpretations regarding certain aspects of the structural changes, such as legal ownership versus economic ownership and provision of temporary usage rights versus sale.
- Tax implications that might arise from the structural change, including minor adaptations and the effect on tax incentives in Israel.
- Tax implications deriving from FAR transfer between companies under joint control (in Israel and abroad) which will be classified as division of dividends.
What are the tax authority’s indications for a change in the business structure?
Clause 4.7 of The Circular defines a transfer of functions, liabilities and assets as a capital gain event. That is why it must be identified, assessed and reported upon accordingly. As a rule the circular defines, based on chapter 9 of the OECD guidelines, that the identification and quantification of the effects of the changes to the business structure will be based on a “before and after” comparison of the functions, assets and liability, payroll included, in the company. The thing to remember is that by this yardstick the tax authorities will identify a change in the business structure or model even when the company in question does not perceive or report it as such. So, unless you enjoy the tax authority knocking on your door and demanding their pound of flesh for a tax event you never saw coming, consulting with your CFO about the ramifications of changes to the operations of your company is an absolute must.
In fact, given the ground change in policy represented by the circular you need to update yourself regarding its contents and pick up the phone to your financial controller/CFO right now, whether or not you are planning any big changes.