Tax Break

John Fisher, international tax consultant

Archive for the month “December, 2018”

Comfort and joy (for some)

New Zealand

This Prime Minister doesn’t need a babysitter

Several years ago I wrote a newspaper article about a fresh addition to the Israeli Income Tax Ordinance that included four subparagraphs. Or, at least, there should have been four subparagraphs. The fact that there were only three made the whole thing toothless. My tongue-in-cheek piece suggested a scenario where the Knesset Finance Committee was working late into the night, and the person with the most tax knowledge received a phone call that they had to relieve the babysitter – so they all went home. Joke – right? The following day I received a call from a senior tax official asking me how I knew. You couldn’t make it up.

Monkey-typing

If you pay peanuts….

The drafting of tax legislation in this country is often notoriously slapdash. But, that doesn’t explain all the problems with tax statute. For a start, there is the pain of keeping up with changing business environments – just look at the mess the international tax system is in over taxation of the digital economy. And then there is accounting. Corporate taxation is based on accounting profits.  Once upon a time, thanks to the ancient simple art of double entry bookkeeping, the profit and loss account was a fairly close reflection of the dollars and cents performance of a company give or take capital expenditure, debts, liabilities, inventory, and the odd accrual . A few additions and deductions and the taxman could take his toll. An explosion of accounting standards plus that thing they call IFRS led, in recent years, to more adjustments to the accounting profit than fairy lights on a Christmas tree – but as long as tax departments kept their heads, it could be handled. Almost.

For reasons best known to the British Mandatory Authorities that planted the seeds of our tax law, dividends – while mentioned freely throughout the Ordinance – are not defined for tax purposes. The upshot is that they go according to company law and are ultimately calculated in line with the latest whim of the accounting wonks in their ivory towers. That means that a company can distribute either more or less than its taxed profits. It’s the ‘more’ that bothers us here – or more precisely the parties to a court appeal that was heard this month.

Israel adheres broadly to the classical system of taxation – corporate profits are taxed twice, first at the company level, and then in the hands of  the individual on dividend. In order to avoid taxation mushrooming to three, four or heaven knows how many times, if there are several layers of companies passing dividends up the chain, Israel generally exempts intercompany dividends on which Israeli corporation tax has been paid. The second level of tax waits for distribution to the individuals right at the top.

General view of Buckingham Palace in central London.

Rumour has it, her great-great-great-great grandfather bought this place for a fiver.

That last paragraph probably sounds logical to anyone reading this – but it demanded a 39 page, beautifully reasoned ruling by the judge to put it to bed. The appellant company had received accounting profits from a subsidiary manufactured from the revaluation of certain real estate on which tax had, correctly, not been paid as the real estate had not been sold. The tax authorities and a judge had already told the appellant that the intercompany exemption didn’t apply. The company decided to try its luck on an appeal using a combination of sophistry (the wording  – but not the intention – of the law was, indeed, pitiful), a real concern for future double taxation (the subsidiary would be liable to tax on sale of the real estate even though tax was being paid now by its parent), and a childlike plea that, if all else failed, could the nice judge please treat the whole thing as a nightmare and pretend the dividend didn’t happen.

The judge wasn’t having any of it. He countered their sophistry with his own, and treated the request to reverse the transaction like a parent  explaining to a 6 year old that Santa doesn’t really exist. That was all reasonable and fine – but, it was the double tax issue that restored my faith in a system that so often seems broken.

The judge analyzed the concept of avoiding double taxation in Israeli law. He noted that, while the double taxation issue is an important principle underpinning the law, there are situations where double tax applies – predominantly where there is a change of ownership in-between certain transactions. Had the appellant sold the shares to a third party, its representatives would not have been in court arguing that – because the subsidiary company would have to pay tax again in the future on sale of the real estate (the value of the shares sold now would already have taken into account the increased value once), it should be relieved from the resulting double tax.

The Ten Commandments. Image shot 1956. Exact date unknown.

Thou Shalt Not Steal

So, armed with that logic, the judge rejected the appeal and insisted that tax was payable on receipt of the dividend. However, he literally ‘commanded’ the tax authorities to relieve any subsequent sale of the property from double tax, as long as there was no change of ownership in the meantime. That produced a result in parallel with normative Israeli law, as opposed to a narrow, literal interpretation that could have caused unnecessary hardship.

All too often, tax rulings rely on logic as much as  a fish relies on a bicycle. Not this time.

A Merry Christmas and Happy New Year to all those celebrating.

Tales from the Crypto

G20-ARGENTINAFAMILY-PHOTO (1)

There were always a few kids in the class who refused to look at the camera

Kurt Vonnegut famously said: ‘True terror is to wake up one morning and discover that your high school class is running the country’. The G20 summit in Buenos Aires earlier this month spawned a myriad online articles about the international taxation of cryptocurrencies (Bitcoin etc). Intrigued by the efforts of my ‘classmates’ (most of them belong to my generation) to get their heads around a difficult subject, I delved in only to find an even truer terror: ‘To wake up one morning and discover that your children’s high school class is running the online economic press’.

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You could forgive the journalist for missing the nuance of the paragraph break

My suspicions were aroused when I noted that each and every article relied on the same statement of a Japanese news agency ‘drawn’ from the final declaration of the summit. To anyone with a modicum of tax knowledge,  it was clear that the Japanese rumour-monger had got their taxes in a twist. With immense determination unknown to the younger generation, I spared no effort in googling: ‘G20 Buenos Aires final declaration’, the text of which, lo and behold, appeared before my very eyes. A further 5 minutes spent actually reading the entire thing (f-i-v-e whole minutes!) produced the answer. A bland paragraph  including reference to the need to regulate crypto-assets against money laundering and terrorism, followed by another bland paragraph about BEPS that even my classmates could understand. Somebody clearly forgot to tell the Japanese reporter that there is a reason for paragraph splits in the English language, and somebody forgot to tell the on-line reporters – who it appears don’t know what it is to get off their backsides for a story – that they should not blindly rely on every piece of fake news they read online. Bottom line – the G20 summit was silent on the taxation of cryptocurrencies.

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At least the Germans have always understood what money is

In the meantime, cryptocurrencies have been in free fall, and the world’s tax authorities may be about to regret their approach. Although cryptocurrencies have been around for a while, tax authorities were slow to sink their teeth into them. By now, possibly encouraged by price increases in 2016 and 2017, most jurisdictions have come to the conclusion that they are legally assets rather than currencies. As such, the exemptions that often exist  for individuals on exchange rate differences do not apply. In general, capital gains tax will be charged on realized gains (most authorities have at least managed to convince themselves that VAT should generally be avoided).But there is still confusion – as late as October 2018 an IRS Advisory Committee asked for certain clarifications from the IRS, while possible British taxation runs right across the spectrum depending on circumstances. Germany has a slightly different approach, having recognized them as money. At the same time, Israel took a literal view of the definition of currencies in its tax ordinance (cryptocurrencies do not qualify), and is there in the conservative pack.

הורד

And what’s wrong with gambling?

The catch for tax authorities is that, by insisting gains are taxable, they have to recognize losses as allowable – and the losses in 2018 have been horrendous. If that G20 paragraph on regulation is properly acted upon, the days of wild fluctuations may be numbered in 2019 – and the pain of what was a bad gamble by individuals on something totally speculative, will be irrevocably shared by national treasuries. Maybe it is time to pass the baton to my grandchildren’s generation.

Wakey-wakey!

clock

Two minutes to midnight

It is the morning of the Maths exam that will decide which, if any, university awaits the candidate. He/she suddenly realizes that he/she hasn’t even started learning the syllabus.

How many of us have periodically woken in a cold sweat from that nightmare in the course of our adult lives?

I sometimes feel that, especially around the December full moon, tax advisers do their darnedest to  induce such feelings in the populace with ‘Achtung!’ articles of what must be done  (but clearly can’t be achieved)  before drawbridges go up for the Christmas/New Year break.

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Don’t panic!

I only ever tried to panic a prospective client once. (I warned a foreign company that  they needed to get their VAT house in order to avoid risk of  criminal prosecution, they ignored me and went to an alternative firm that proffered soothing advice, and they were criminally prosecuted two years later).

So, allow me to preface my remarks on Israel’s  10 year tax exemption period for first-time and certain returning residents by stressing that they are not aimed at those whose benefits end in the next few weeks, but rather in 2019 and thereafter. People who arrived on their equivalent of the  Mayflower  in 2008 (or earlier) are either sorted out, or the best of luck.

Everybody – that is the entire Jewish world, the OECD and the IMF – by now knows that Israel has operated a territorial tax system for first-time and certain returning residents since 2008 (with retroactive force to 2007). The law states that a first-time resident or veteran returning resident is exempt for ten years from income produced or derived outside Israel or whose source is in assets outside of Israel, as well as capital gains from the sale of such assets. The problem is that (from my experience) many mistakenly believe that, as long as they don’t go to work on a kibbutz milking cows, they can forget about tax for ten years. In reality, even those who do not incur any Israeli taxation during the exemption period need to be prepared for the day at the end of the decade when they fall off the tax cliff.

OLIM-HADASHIM

New olim, yes. New residents, perhaps

First of all the good news. Despite the drafting of the law being as hopeless as much other tax legislation in the country, more than ten years down the road the  tax authorities seem to have made their peace with much of the excruciatingly inconsistent language, as well as the fundamentals of residence. Grammatical glitches appear to have been passed over unnoticed, and nobody seems to be bothered about the repeated careless use of the word ‘Oleh’ in pronouncements, aliyah not being a prerequisite for tax residence. 2018 saw the first annual filings of residents coming out of the ten years (for the 2017 tax year), and most of the reporting snafus will presumably be ironed out over the coming months. Similarly, some of the more heroic assumptions required as the assessee slowly glides out of the exemption period (there are special provisions for capital gains) can be expected to be blessed, or otherwise, by the authorities.

As people start to report, the authorities could take an interest in the exemption period, looking for amounts that should have been reported despite the exemption.

In any event, among the issues assessees need to be considering as the watershed approaches are:

  1. When did they actually become resident? Although, in terms of the wording of the law, residence under domestic law as opposed to treaty is an annual thing, the authorities have repeatedly made clear in writing that they interpret it as something that can change mid-year. So far, so good. The problem is that their pronouncements on when the ten years actually starts have made clear it is not necessarily the night they give you a funny hat and a flag at Ben Gurion airport if, for example, there was already a home in Israel and/or significant time has been spent in Israel.
  2. Are they sure none of their income was ‘produced or derived’ in Israel, and thus liable to tax? There have been rulings over the last decade concerning new residents working  with foreign companies from Israel ‘by remote control’ through internet, e-mail etc, or trading foreign securities from Israel. The tax authorities are operating an amnesty procedure until the end of next year – although if an anonymous request is desired, it has to be made by the end of this month (ouch!).
  3. Corporate structures abroad, while being convenient as long as Israeli taxation does not apply, may need reorganizing. That is something that generally needs to be done while the exemption is still in place.
  4. Decisions need to be made regarding whether to realize assets – significantly  parts of securities portfolios  – before the end of the exemption period, or to benefit from the only gradual linear increase in capital gains in the post-exemption period.
  5. Thanks to developing legislation since 2006, trusts are supposed to be largely tax neutral – but there are still some horrible jagged edges that can create nasty tax accidents . There are certain benefits to new-resident settlors or beneficiaries that soothe the pain as long as the exemption period lasts. The long-term future of such trusts needs to be considered.
nuclear

Public Service Announcement

I sincerely hope this hasn’t scared anybody. I prefer to think of it as a Public Service Announcement. Really.

Bad Cumpany

scaramander

‘Come, come Mr Bond’

If, like me, you have been wondering for decades what the European Parliament is there for, wonder no more. Following a recent vote, the august institution is considering  setting up an investigations unit to tackle two humongous European fraud schemes  named improbably  ‘cum-cum’ and ‘cum-ex’. The first warning that something was afoot came in 1992, and the fan turned brown in 2017, but the wheels of power turn slowly in Strasbourg. (Or was it Brussels? Or Luxembourg?)

For those without a Latin education, the schemes translate as ‘with-with’ and ‘with-without’. It would be nice to leave it at that, but I had better explain.

Both schemes revolve around dividends on stocks. A stock is cum-dividend when a securities buyer is destined to receive a dividend that a company has declared but not paid. That is the status quo (more Latin) until the date at which the stock trades ex-dividend – when the dividend will go to the seller. Thanks to lacunae (Latin noun – first declension nominative plural, like mensa/mensae) especially in German law, but evidently in about ten other European jurisdictions, bankers and the other usual suspects were (possibly still are) able to bleed national treasuries of scarcely imaginable sums.

The cum-cum smacks more of an old-style tax avoidance scheme than hardcore evasion. Stocks of German companies held by foreigners who were not eligible to  dividend witholding tax exemption were ‘lent’ (effectively sold with an agreement to repurchase , – but it isn’t written that way) to bona fide German banks shortly before a payment date. The stock went back at a lower price without the dividend. Naughty, but with loud protests that it only made hay while the legislators slept. There was one exemption, and the bank had a technical right to it.

Godfather

He knew how to make sure a secret was kept

Cum-ex was a far dodgier form of exploitation, which did not rely on foreigners. It did, however, require collusion and, on the grounds that ‘two people can keep a secret as long as one of them is dead’, it was bound to be found out eventually (having said which, the German and other authorities seem to have made gargantuan efforts to miss what was going on beneath their noses). Basically, a bank would ‘borrow’ stocks cum-dividend within two days of the dividend payment date and would sell them (short) to a third party. Delivery was required in two days, by which time the stock had gone ex-dividend. The procedure in force until 2011 in Germany (and heaven knows what is still happening elsewhere) was that the bank had to make a compensatory transfer between the seller and the buyer for the net after-tax amount of the dividend, and then issue a certificate of withholding to the buyer even though he did not actually receive the dividend. The theory went that the seller would no longer be entitled to that withholding as he had transferred the dividend amount to the buyer, and therefore would not receive a withholding certificate. Aye, and there’s the rub. The short seller of the stock was not the ultimate owner and had not suffered the withholding tax. The ultimate owner also received a witholding tax certificate (if handled correctly, the number of withholding tax certificates could be multiplied) enabling two or more ‘owners’ to cash in on the same tax benefit. This is not clever tax avoidance. It is clearly tax evasion. And it has cost European state coffers an estimated €60 billion.

mob

The words ‘company’ and ‘companion’ derived from the Latin ‘cum panis’ – with bread

But, at least we know we can now sleep safe at night in the knowledge that the European Parliament is on to it. It has only taken them 26 years. Rumour has it that MEPs are soon to issue a communique announcing the end of the Second World War. The suspense is killing.

 

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