The “trapped profits” tax amendment is causing ripples of uncertainty for shareholders in non-Israeli companies, especially olim, new immigrants.
Trapped profits refer to undistributed profits on which “only” 23% company tax was paid. In many cases, the profits were plowed back into the business of the company concerned. The Finance Ministry claims such profits are often “hoarded” in unproductive passive investments, such as securities and real estate.
Overview: Commencing January 1, 2026, the amendment makes the following main changes:
• A surtax of 2% generally on undistributed prior-year profits of many companies;
• Up to 50% tax for shareholders on current-year profits made by most nonindustrial, non-tech
professional companies to the extent those profits exceed 25% of revenues.
Olim get new tax breaks
The shareholders pay tax on those profits as if they were their freelance business profits.
Only closely held companies held by five or fewer shareholders (including related parties) are
affected. Other detailed rules apply.
The intention is to raise NIS 10 billion in tax revenues at a stroke. A side effect of trapped-profits taxation may well be double taxation at the international level. Olim and returnees are likely to be affected. Part of the measures are retroactive, and the first year for this ends shortly. What is the year-end plan at the international level?
Reason: As mentioned, the Finance Ministry thinks it is wrong for private companies to hoard profits. That way they collect “only” 23% company tax even if the company uses the after-tax profits to build up the business.
At the international level: The tax charge of up to 50% on current-year profits only applies to Israeli-resident individual shareholders, not foreign-resident individuals.
But what about the profits of foreign closely held companies? This is what we have pieced together:
First, a closely held company can be a foreign-resident company.
Second, the 2% tax charge on prior-year profits will apply only to Israeli-resident companies, even if some or all the shareholders are foreign residents.
Third, to add to the confusion, you must apply to the Israel Tax Authority for an Israeli advance tax ruling if you want to claim transitional tax relief for a company partly or wholly liquidated in 2025 if it involves any of the following: (1) a foreign closely held company; (2) a company that used to be foreign resident; (3) a company where profits are attributed to shareholders; or (4) an Israeli company with a shareholder who is a foreign resident or a returning resident or a new immigrant.
In short, it would be helpful to receive a coherent clarification of how the trapped profits legislation applies in the international arena.
Comments: A Finance Ministry public webinar this past January 1 conceded that the trapped-profits amendment apparently overlooks international issues.
First, Israeli-resident shareholders may now have to pay Israeli tax of up to 50% on the profits of foreign companies, while the foreign companies will pay foreign tax on those same profits. And the shareholders may not get a foreign tax credit in Israel for tax paid at the corporate level abroad. The result: double tax.
Second, olim and new or senior returning residents – i.e., lived abroad 10 years – may be in for a big surprise. Olim are generally exempt on foreign-source income for 10 years. But if they are present in Israel when foreign company profits are attributed to them as freelance income, those profits become taxable Israeli source income – i.e., no 10-year exemption apparently. Olim with foreign companies should take advice.
Third, for foreign-resident shareholders in Israeli companies, the 2% tax on past undistributed profits may also not always qualify for foreign tax credits abroad. Actual dividends are usually needed.
I questioned Finance Ministry officials about these issues at the January 1 webinar and got muffled answers. The officials suggested invoking “competent authority” discussions between the Israeli and foreign tax authorities concerned. But this can take years.
At this stage, we still await a tax circular on the income-tax charge of up to 50% on current-year trapped profits.
In our experience, solutions may exist in many cases. Legitimate tax planning is needed, preferably before the end of 2025. That means before mid-December, given the holidays abroad. Olim should take advice in each country concerned, and so should others with international business interests.
As always, consult experienced advisers in each country at an early stage in specific cases.
leon@hcat.co
The writer is a certified public accountant and tax specialist at Harris Consulting & Tax Ltd.