Israeli Start-Ups Are Not Going Anywhere Yet, Despite US Tax Reform

(Canva.com)

Judging by the headlines of Hebrew newspapers the day following the US Senate’s approval of the Trump administration’s tax reform, one could assume that Israeli entrepreneurs would now leave the holy land and move their start-ups’ corporate headquarters to the US.

The ambitious tax plan calls for the reduction of corporate taxes from the current rate of 35 percent to as low as 20%. If the proposed tax bill receives final approval, American corporate taxes will be, for the first time, lower than the Israeli ones, which will drop to 23% on January 1.

It seems that Israeli journalists are not the only ones worried about the potential exodus of local companies as Finance Minister Moshe Kahlon rushed to declare that Israel would need to adjust its tax policy in response.

In reality, however, things are more complicated and the prospect of an exodus from Israel seems exaggerated for the following reasons:

• State taxes should be added – The proposed 20% tax rate is just the federal tax rate and most states impose their own corporate income tax, which can increase rates by another 10%. The US tax bill may even remove the existing deduction for state income taxes paid.
• Start-ups do not pay taxes – Unfortunately, most start-ups are not profitable and therefore do not pay material amounts of US income tax, so they are somewhat indifferent to this issue.
• Israel is still home – Local entrepreneurs do not necessarily want to move to the US, or alternatively they still want to hire Israeli employees.
• Approved enterprises pay less – The Israeli tax rate for an approved enterprise (which can be as low as 5%) is still lower than the new US corporate rate. Furthermore, the regular Israeli corporate income tax rate of 23% is not significantly higher than the new US rate and may, as Kahlon has suggested, further decrease.
• Capital gains tax on exits – The main tax rate relevant to entrepreneurs who plan to sell their company in the future is the capital gains tax rate that shareholders will be subject to and not the corporate income tax rate. The maximum capital gains tax rate in the US of 23.8% does not appear to be changing as part of the new tax reform bill. Furthermore, Israeli shareholders would still be subject to Israeli capital gains tax of up to 32%.

https://www.pstein.com/

This post was written together with Judah Fish, a Senior Tax Advisor at Philip Stein & Associates