World Wide Tax News Issue 54 - March 2020

Change in business model - Broadcom Corporation case

On 9 December 2019, the District court in Israel ruled in the appeal of Broadcom Semiconductor Ltd. ("The Company"), an Israeli resident company, active in the development and sale of broadband communications products, regarding the change in their business model and the tax implications arising from it. The court accepted the company's appeal and determined the case in the company's favour, as detailed below. It must be noted that the Israeli Tax Authorities (ITA) are very aggressive with respect to a change in a company’s business model and the "exit" of intellectual property (IP) out of Israel.

Factual background

In 2002, the company entered into a license agreement with its US resident parent company, Dune Networks Inc. (the "parent company"), whereby the parent company granted the company the right to use its IP in exchange for royalties (to be determined by a transfer pricing method). It was agreed that IP developed up to the date of the signing of the agreement was owned by the parent company, with the company owning future IP it will develop.

In 2009, the parent company was sold to a US company ("Broadcom US") for USD 200 million. Following the purchase, in the year 2010, Broadcom US, the Company and other entities in the Broadcom group entered into several agreements, which included marketing, development and license for the use of IP. The marketing and development agreements were based on the cost plus model, while the licensing agreement was based on a different transfer pricing model.

On 16 August 2012, as part of the global restructuring of the Broadcom Group, the parent company was merged into the company and as a result of the merger, the parent company ceased to exist and the company became a wholly owned subsidiary of Broadcom US.


The Israeli tax assessor claimed that following the agreements which the company entered into in 2010, the company which used to be active in R&D, production, marketing, distribution and sales, became a company whose entire purpose was to provide development services to Broadcom US. As a result, and in accordance with Chapter VI of the OECD Guidelines, this should be deemed a "business model change" or "business structure change" which should be classified as a taxable sale of the functions, assets and risks ("Functions, Assets, Risks or FAR") associated with its operations.

The company argued that full validity must be given to the agreements between the parties in which it did not sell anything, and that it is an acceptable and legitimate business practice in which it may "trade" its IP by granting the license, while the company provides R&D services related to future knowledge, based on the existing IP that it owns.

Court ruling

The court accepted the appeal for the following reasons:

  • The court noted that this case was not similar at all to the Gitko case (a previous case which discussed similar issues), and that the ruling based on the factual situation discussed there that the company should be regarded as having performed a much broader transaction, led to a different conclusion than in this case.
  • In the case of Gitko, the change of the business model resulted in the company becoming a “corporate shell", with its parent company seeking to liquidate it shortly after its acquisition, and during which it “withdrew " most of its economic values, including all its personnel, to the extent that Gitko's business collapsed shortly after the acquisition.
  • In the present case, the company proved that, as a result of all the agreements between it and Broadcom Group, its activities expanded, its income and profits increased, and even its staff increased. Furthermore, a few years later, it sold the remaining IP which it owned for a considerable amount.
  • Under these circumstances, a claim cannot be made that the change in the business model did in fact result in a change in its activity, indicating that at the time of the transaction, it sold an "asset" to the Broadcom Group located outside of Israel.

The court emphasised that the Tax Authorities are not barred in principle from relying on the OECD guidelines and examining agreements based on these guidelines, since Israeli tax law does not exclude the possibility of relying on the FAR test for classifying a transaction or for valuation purposes. However, using this tool to classify a transaction following a functional analysis of a change in a business model should be done in a measured and certainly not "automatic" manner, taking into account the provisions of section 85A of the Income Tax Ordinance (TP guidelines).

In conclusion, the court ruled that it did not deem that the change in the business model in this case led to the assumption that the true economic nature of the transaction was different from the way in which it was presented by the company. This ruling can be of significant importance to the many companies which own Israeli IP which, for various commercial reasons, decide to change their business model, and upon which the ITA claims that the asset was sold abroad. In addition, multinational companies involved in the acquisition of Israeli companies with IP should examine in depth the various implications resulting from this court ruling.

Eli Alice
[email protected]