Israel prepares significant changes to individual tax residency rules

Individual residence is currently determined by the Income Tax Ordinance 5721-1961 (the Ordinance). It is based on an individual’s 'centre of life' being in Israel, similar to the 'place of vital interests test' found in bilateral tax treaties. This test is backed by a rebuttable presumption that a person is an Israeli resident if they have stayed in Israel either for at least 183 days during the relevant tax year or for at least 30 days during the relevant tax year and a total of 425 days during a three-year period that includes that year and the two preceding tax years.

The Ordinance also includes a definition of 'foreign resident' as either someone who is not an Israeli resident or has stayed outside of Israel for at least 183 days during the tax year and the subsequent tax year, while their ‘centre of life’ was outside of Israel during the subsequent two years after the aforementioned two years.

According to Israeli law firm Herzog, the vagueness and wide scope of the 'centre of life' test has been a source of uncertainty, leading to challenges in its implementation and friction between taxpayers and tax officers. It has also created a risk that taxpayers may adopt aggressive tax reporting positions based on perceived tax advantages, the firm says.

The new Bill proposes to downgrade the role of the 'centre of life' test to a secondary role. The primary test will instead be based on a set of irrebuttable presumptions of tax residency based primarily on the number of days spent in Israel. The 'centre of life' test will remain as an ancillary test that will apply if none of the presumptions' specific criteria are met.

These irrebuttable presumptions of residence are: 183 days spent in Israel during any two-year period; 100 days spent in Israel during the tax year and 450 days over three tax years, with an exception for residence in a 'reciprocal country'; or 100 days spent in Israel during the year and with one's spouse having Israeli residency.

The proposed Bill also introduces conditions that mean that certain individuals will be considered foreign residents irrespective of any 'centre of life' factors. Moreover, it explicitly states that one can be tax-resident for part of the year and non-resident for another part of the same year.

The proposals are based on recommendations from the Committee to Reform International Taxation, set up in September 2021. The Committee includes representatives from the Israel Tax Authority, the Institute of Certified Public Accountants and the Israeli Bar.

Public comments on the proposals can be submitted until 8 August 2023.

Sources

• Herzog
• EY (September 2021)