The Israeli tax authority (ITA) has just issued instructions for raising 2025 tax installments for most private companies in Israel backed up by a wave of tax payment demands in the post (ITO Section 62A Instructions 23.12.25). Foreign companies owned by Israeli residents, including new immigrants, may be caught.
The ITA wants up to 50% income tax instead of only 23% company tax on “trapped” (undistributed) profits of most private closely held companies with 5 or fewer shareholders. This is because the new law allocates affected company profits to shareholders and taxes them as if they are freelancers in business personally.
Exceptions exist under complicated rules for industrial and certain tech companies and for up to 25% of revenues.
All this presents many problems. First, finding money to pay extra tax due retroactively from January 2025 onwards. Second, income tax of up to 50% is payable by shareholders but 23% company tax installments may have already been paid by the company – the new ITA instructions aim to sort out this mess. Third – foreign company profits may also be targeted – see below.
What The ITA instructions Say:
The ITA says there are two ways affected companies may handle the profits allocable to shareholders: (1) Dividend approach, (2) Expense approach.
Under the dividend approach, company tax should creditable by the shareholders against their tax liability. This is significant, but conditions apply. A dividend must be distributed to all the shareholders. The dividend withholding tax of 25%-30% must be paid by January 16, 2026, otherwise interest and inflation indexation begin to accrue. The company must file forms 856 and 857 which have been expanded to cover trapped profits tax. The taxpayer must report this dividend in Part 11 (Yud Alef) of his/her annual personal tax return. The 23% company tax credit is claimed in new Boxes 100, 84 and 92.
Under the expense approach, the company records an expense and the shareholder records freelance business income. But to avoid both having to pay tax, the Circular recommends filing company and shareholder tax returns simultaneously, If this isn’t possible, a 3 month delay of tax collection procedures and relief from late payment fines may be requested. This is a bit bureaucratic.
Foreign Companies:
The position of the ITA is apparently that Israeli shareholders should pay up to 50% tax not only on “trapped” profits of Israeli companies, but also trapped profits of foreign companies.
That is unless the foreign companies’ profits get taxed anyway at similar rates under separate rules for: (1) Controlled Foreign Companies (CFCs – usually 50+% Israeli owned passive companies that pay 15% or less tax) or (2) Foreign Professional Companies (usually 75+% Israeli owned foreign service companies).
In all these cases where foreign company profits are taxed in Israel, a major headache is double taxation.
A second headache for Olim (immigrants) is whether their 10 year Israeli tax holiday disappears. The tax holiday applies to foreign source income but does it still apply to deemed freelance business income attributed to them if they are in Israel?
Unfortunately, the ITA currently expects anyone invested in a foreign company to figure out what to do by themselves.
What do they need to figure out? Possible scenarios include: (1) challenging the ITA’s jurisdiction – this is possible, (2) Claiming an expense in the foreign country? Difficult if the Israeli shareholder(s) didn’t really do anything (3) Claiming a foreign tax credit? How? When? (4) Claiming as Israeli tax credit? How? When?
In our experience, these scenarios are capable of evaluation and comparison, based on the specific facts of each case.
2% Surtax:
The above relates to the tax of up to 50% on current year profits of Israeli and foreign companies, commencing with 2025. There is also a 2% tax surtax on prior year undistributed profits unless at least 5%-6% of those profits are distributed each year. Strangely, an ITA Circular 7/2025 states that the 2% surtax does not apply to profits of foreign companies, but doesn’t give a reason for this.
Comments:
Unfortunately, the trapped profit rules hardly encourage potential immigrants (Olim) who own companies abroad to migrate to Israel.
In fact, the trapped profits tax rules seem to encourage Israeli residents to leave Israel. But in that case, there is an exit tax to contend with – capital gains tax on the market value of the émigré’s assets one day before departure from Israel.
Israeli resident shareholders in private companies should prepare for higher tax installments,
Next Steps Include:
If you are Israeli resident and a shareholder in any private company in Israel and abroad, check out the tax and cash flow effect as soon as possible.
In the case of a foreign private company, double taxation is quite possible. Comprehensive action should be considered. The sooner the better.
As always, consult experienced tax advisors in each country at an early stage in specific cases.
leon@hcat.co/
© Leon Harris 30.12.25