On March 21st, the Israeli Tax Authority (the “ITA”) published a new clarification regarding the availability of tax credit and tax exemptions applicable to donations of assets to Israeli not-for profit organizations. Such clarification may provide a unique opportunity for founders and shareholders. Surprisingly enough, such clarification can dramatically help U.S. persons with Israeli source income as well.
Generally, under the Israeli Tax Ordinance (the “Ordinance”), the disposition of an asset (including shares) by the holder of such asset, is subject to a capital gain tax. Similarly, the same is provided under the Internal Revenue Code of 1986, as amended (the “Code”). Under both the Ordinance and the Code, in a disposition of an appreciated asset, the income that is subject to tax is the consideration received (or the fair market value that should have been received if the transaction would have occurred between a willing buyer and a willing seller) reduced by the cost basis of such disposed of asset; however, under both the Ordinance and the Code (with some variations, limitations and requirements) if such assets are donated to a “Public Institution” (i.e., a non-profit organization), then the perceived capital gain is exempt from tax.
Section 46 of the Ordinance allows for a tax credit (or deduction) when a person donates to an authorized “Public Institution”. The tax credit allowed equals 35% (for individuals) or corporate tax (for corporations, currently at 23%) of the value of such donation (subject limitations stipulated in the Israeli Tax Ordinance). Section 170 of the Code allows a deduction of a portion of the donation, the rate of which varies.
Under the Code, there are rules with respect to the amount that will be considered as donation that applies to long-term capital gain property, where the donor can generally claim a federal income tax charitable deduction for the fair market value of the property, and for short-term capital gain property, the value of the federal income tax charitable deduction is limited to the cost basis. The Code also provides capital gain tax exemption in certain appreciated property donations.
For many years, it has been unclear whether donations given in assets, rather than cash, that are exempt from capital tax in accordance with Section 97(a)(4) of the Israeli Tax Ordinance, will qualify the donor for the said tax credit, and what would be the amount of such credit. On March 21st, the ITA published a new clarification, according to which (and subject to terms and conditions set in law), a donation of assets to a public institution will qualify the donner for the said tax credit even if the donation was exempt from capital gain tax in accordance with section 97(a)(4) of the Israeli Tax Ordinance. In other words, the Israeli Tax Authority has clarified that for purposes of calculating the tax credit, the value of the asset donated will be considered the amount of the donation, and the tax credit will be calculated by multiplying the amount of the donation by the relevant percentage.
Moreover, Section 15A of the Convention Between the Government of The United States of America and the Government of The State of Israel With Respect to Taxes on Income (the “Treaty”), provides, that for United States tax purposes, a United States citizen or resident may claim a charitable contribution deduction if the donation is made to qualifying Israeli charities, if and to the extent such contributions would have been treated as charitable contributions had such organization been created or organized under the laws of the United States. The treaty also provides for reciprocity, stating that an Israeli resident may similarly claim as a charitable contribution donation to qualifying United States charities.
The new clarification presents a unique opportunity for shareholders and especially founders to benefit from the donation tax regime and reduce their tax liability in Israel or the United States. Namely, founders that have received shares at the founding of companies may donate the shares to a “Public Institution” without paying capital gain tax and in addition to receive 35% (25% deduction in the United States) of the value of shares as a tax credit against their tax liability – which essentially amount to “cash back” from the Israeli or U.S. Tax Authority. Another advantage of this tax incentive is that the founder does not need to find a buyer or negotiate the “price” of the shares, only providing the Tax Authority with a reasonable valuation from a credible source. Lastly, and most importantly, this is an opportunity to give back to the community and promote a cause that is near and dear to the founders’ heart in these difficult times all whilst saving some money for itself.
1The rules under Section 170 of the Code are complex and provide for different limitations with respect to the amount of charitable deduction, type of asset contributed, and type of organization to which such asset was contributed. This memorandum is general and does not provide a full comprehensive analysis of the tax consequences associated with charitable contributions under the Code.
