ISRAEL - Transfer of real estate to Israeli resident trust
On 24 July 2019, an Israeli court issued a ruling in the case of Galiss (49026-07-17), which dealt with a trust settled by a Canadian resident couple who settled four real estate assets in Israel to the trustee of the trust. The only beneficiary of the trust was the granddaughter of the Settlor, an Israeli resident. The establishment of the trust was reported to the Israeli Tax Authorities (ITA) as an "Israeli Resident Beneficiary Trust". In addition, the Settlors reported the transfer of the rights to the trustee as exempt from betterment tax as well as purchase tax.
However, the Tax Officer considered that the transfer to the trustee was subject to betterment tax and purchase tax as if a sale took place. The reasoning was that the Israeli Land Taxation Law (the Law) takes precedence over the tax provisions concerning trusts stipulated in the Income Tax Ordinance (the Trust Section of the ITO) which exempts the settling of assets into an Israeli Resident Beneficiary Trust. The Settlors filed an objection to the ITA, which was rejected and appealed to the District Court.
The main dispute between the parties revolved around the question of whether the provisions of the Trust Section of the ITO also apply to real estate in Israel, and thus the specific arrangement mentioned within, whereby the settling of an asset to a trustee in an Israeli Resident Trust (or "Israeli Resident Beneficiary Trust") by an individual, executed without any remuneration, is not deemed a "sale". As such, the tax is deferred until the date of sale by the trustee or until the date of distribution to the beneficiary, which was the position taken by the Settlors. The ITA argued that the stipulations of the Law which deem the gain on any disposal of a real estate asset as taxable in Israel take precedence, and that this tax is in addition to that on any gain when the real estate is realised by the trustee or transferred to the beneficiary.
Outcome and implications
The court accepted the appeal and determined that the settling of the apartments should not be deemed a "sale". The appeal court members reviewed in detail the relevant sections of the Law and stated that the Law only discusses two types of trust, neither of which explicitly refers to the settling of real estate from the Settlor to the trustee for certain beneficiaries, as described in the Trust Section of the ITO. According to the court, the legislator's silence with respect to the provision in the ITO applicable to the settlement of assets to the trustee is a "lacuna" which the court must determine in accordance with the legislative purpose, principles of harmonisation of the various tax laws and the general law, tax neutrality, common sense, etc.
Furthermore, the court determined that ITA Circular 5/2016 regarding trusts - which states that the settlement of real estate by a Settlor to a trustee of a trust constitutes a tax event in accordance with the Law (insofar as the Settlor is not a beneficiary in the trust), and requires the reporting of such a settlement to the Real Estate Tax Director and payment of applicable taxes, in all types of trusts – is not binding on the court, and it seems that the ITA took the authority of the legislator into its own hands.
This court ruling has many implications, mainly in planning for the transfer of assets between generations and the transfer of rights in assets as part of estate tax planning. In addition, the ruling raises a number of questions about the holding of a residential apartment by a trust, which the sale thereof occasionally benefits from a tax exemption, to the extent that certain conditions are met, which may be difficult to examine given the fact that the apartment is held by a trust.