Permanent residency of a partnership held by an Israeli resident and a foreign resident – April 2012

The following is a decision made by the tax authorities in Israel in regards to a      joint venture between an Israel corporation and a foreign corporation.
The foreign corporation resides in a country sharing a double taxation agreement with Israel.

Facts:

1. An Israeli resident company (hereinafter “the company“) is involved in import, marketing and distribution of telecommunication products and employs employees in Israel.
2. The company is examining the possibility to engage in a joint venture with a company incorporated in a double taxation agreement country (hereinafter: “the foreign company“), which is owned by individuals residing in that country (hereinafter the “foreign company shareholders“).
3. The project will be operated using a non registered partnership (hereinafter: “the partnership“), and main activity shall be the development and global selling of telecommunication products.
4. The project main goal is to develop the products using advanced technology, while using the developing methods in the foreign company country, so that most of the development will be conducted in the treaty country by residents of that country.
5. The activity of the project shall be worldwide, and in fact the activities of planning, marketing and consulting to the clients shall be done from Israel and the development activity shall be done in the treaty country.
6. The holding structure of the partnership shall be 50% by the company using a new daughter company fully owned which will be registered in Israel (hereinafter: “the Israeli company“) and 50% by the foreign company.
7. The share of both the Israeli company and the foreign company in the income and expanses of the project shall be divided equally.
8. The foreign company is fully owned by the shareholders residing in the treaty country and they have never resided in Israel nor do they have any activity in Israel apart this project.
9. It is expected that the partnership shall pay labor fee to all of its employees including the ones residing outside of Israel.
10. It is expected that the products marketing which will be developed can and might be done using the partnership directly or using agents and local distributors.
11. It should be noted that no assets shall be transferred to the partnership by the Israeli company and\or its shareholders directly or indirectly after its incorporation.

The request:

1. The joint venture which is expected to operate partly from Israel and partly from the treaty country, and that the sides have divided the activity between Israel and the treaty country equally, shall not have a permanent residency of the foreign company in Israel. 50% out of the taxable income of the joint venture (50% of the Israeli company income) shall be taxed in Israel. The rest of the income 50% of the foreign company shall be taxed in the treaty country.
2. Since the entire development of the products shall be made outside of Israel by non Israeli residents, the request is to make sure that payments which will be made to the foreign company and\or employees which are not Israel residents will not be taxed in Israel and will not be considered as royalties.
3. Selling the holdings in the joint venture when if such will occur or when selling the rights of the joint venture in new companies including in Israel which if and when will be incorporated in Israel – the capital gain tax from selling 50% of the rights in the venture owned by the new company in Israel will be taxed in Israel. However, the capital gain from selling the rights in the venture owned by the foreign company will not be taxed in Israel including when the sell is of a company being held by the joint venture even if it is an Israeli resident since it is a foreign resident investment.

The tax decision and conditions:

1. The partnership shall be partly a permanent residency of the foreign company in Israel, according to the double tax treaty between Israel and the foreign country.
2. Thus, the foreign company shall open a file at the assessing office, of which she will report income related to the permanent residency.
3. The Israeli company shall be used as “assessed” and as “taxable” for the foreign company according to article 108 to the tax ordinance, and shall be empowered for the foreign company to report to the tax assessing officer and to pay for the foreign company the tax for any taxable income.
4. The income of individuals providing personal services – residents of the foreign country and individuals providing services of employees residents of the foreign country will be taxed according to the treaty.
5. It is clear that part of the capital gain made by the foreign company which is made in Israel will be taxed according to the treaty and to the tax ordinance.