New proposals on foreign tax credit


With the new year approaching, the government wants to take a different bite out of your apples (and income) abroad – but not for new immigrants.

The government published on September 6 two draft bills to reform international tax rules in Israel – one concerning foreign tax credits, the other concerning controlled foreign companies (CFCs), and foreign professional companies (FPCs). A third bill was published back on July 24, which proposes to clarify who is an Israeli resident.


Since 2003, residents have paid tax in Israel on worldwide income and gains. They can credit foreign national/federal and state taxes on such, but not city taxes. The bill would refine existing foreign tax credit rules and would apply to individuals and companies.

The proposals are not expected to affect olim – new residents and senior returning residents who lived abroad for 10 years. They should continue to enjoy a 10-year exemption from Israel tax on foreign source income and gains.

Biggest changes

It is proposed there would be three main baskets: active income, passive income, and capital gains. Foreign taxes at high and low tax rates would be pooled in each basket, making it easier to credit foreign taxes against Israeli tax thereon. 

THE ISRAEL Tax Authority is apparently interpreting ‘mail’ to include email and downloads from the Internet. (credit: OLIVIER FITOUSSI/FLASH90)

Currently, there are over a dozen baskets, making it harder to credit foreign taxes. For example, foreign tax on dividends may soon be credited against Israeli tax on interest under the new proposals, unlike now.

On the downside, excess foreign taxes not credited any year would no longer be carried forward for credit in future years under the proposals. Currently, excess foreign taxes can be carried forward up to five years. 

As an exception, it is proposed to allow an indefinite carryforward for foreign taxes reflecting losses allowed in Israel but not abroad.

It is proposed to have separate baskets tracking the deemed and actual income of controlled foreign companies (CFCs) and foreign professional companies (FPCs).


Can deemed dividends from a CFC/FPC be pooled with regular dividends? No, apparently, according to the draft law; yes, according to the accompanying explanation. Israeli multinationals need to know.

Non-creditable taxes

Aside from city taxes, is proposed to deny a credit for certain foreign taxes, including: taxes of an enemy country; countries with a harmful tax regime; taxes credited in another country; and taxes of a country that lacks an information exchange agreement with Israel unless upfront permission is obtained from the ITA.

Even if an information exchange agreement does exist, a taxpayer would need to provide proof the tax was paid. (Comment: Not so easy. Does a foreign tax return count if the foreign tax authority doesn’t issue receipts?)

Also, it is proposed to only allow a credit for the minimum tax due under the other country’s law or an applicable tax treaty. (Comment: Taxpayers will apparently need to prove they were never fooled into paying excessive foreign tax.)

Intercompany dividends

The “underlying foreign tax credit” for Israeli parent companies with foreign subsidiary clusters would be improved under the proposals. Currently, if the parent receives a dividend from a subsidiary, it can claim an “underlying foreign tax credit” for not only dividend withholding tax but also corporate income tax paid by 25% subsidiaries and their 50% sub-subsidiaries. 

It is proposed to expand the credit to cover daughter, grand-daughter and great-grand-daughter companies. Each company would be at least 50% held by the company above, and the effective control percentage would be at least 12.5% (e.g. 50% X 50% X 50% = 12.5%). Also, the holding must be held at least 365 days before receipt of the dividend unless the company concerned was incorporated within that period.


If the proposals are adopted, they will take effect from January 1. But, unused foreign tax credits under the old rules should remain usable over the remainder of the five-year carryforward period.


These proposals need to be approved by the cabinet, then the Knesset. It remains to be seen what will finally be enacted and when.

Israel has tax treaties with around 60 countries, but they usually do not change domestic foreign tax credit rules.

Israeli residents should continue to check out foreign as well as Israeli taxes on their worldwide income.

Missing from these proposals is that there is no e-commerce basket. Online traders cannot credit foreign income VAT, sales tax, and digital service tax against Israeli income tax. 

Shana Tova to all our readers!

As always, consult experienced professional advisers in each country at an early stage in specific cases.

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