The Jerusalem District Court has just ruled on a range of VAT (value added tax) issues that will be relevant to many companies in Israel, including employee transportation, welfare and pension expenses, and due-diligence expenses (Mobileye vs Jerusalem VAT Director).
Background
Mobileye is an Israeli company that now engages in the development and marketing of systems that help avoid road accidents. It was acquired by Intel for $15 billion in 2017.
Unlike some other acquired companies, Mobileye’s workforce was not laid off; instead, it grew from about 540 in 2015 to nearly 1,450 in June 2020 and 3,000 today. As a result, the company had to move to new premises at Har Hotzvim in Jerusalem.
This triggered a host of issues concerning the recovery of input VAT on expenses arising. These expenses included: (1) transporting employees from their homes across Israel to Har Hotzvim; (2) acquiring land and constructing a fitness gym, music room, and spa for the welfare of the employees; (3) expenses for arranging employee pensions; and (4) expenses relating to due diligence (DD) allegedly carried out by accountants (PwC Israel) when Intel acquired the shares of Mobileye.
Why these issues matter
The first three issues relate to employee fringe benefits. Employees matter.
Section 15A of the Israel VAT Regulations Section says input VAT on expenses for employees is not recoverable by the employer unless the relevant input is recharged to the employee and VAT (now 18%) is handed over to the Israel Tax Authority (ITA).
Inputs for employees are defined as assets or services, such as meals, housing, gifts, or entertainment intended for the enjoyment, use, welfare, or benefit of employees or their family.
The fourth issue, VAT on DD expenses matters, because there is always DD in any M&A (mergers and acquisitions) deal.
Approach needed
The court said VAT Regulation 15A means we must consider the economic substance of each expense to see who is the direct and dominant beneficiary of a benefit, i.e., is it really the employee or his or her family?
Here is a brief summary of the court’s judgement:
Employee transportation
The taxpayer (Mobileye) claimed that transporting employees shortens the time to reach the workplace compared with public transportation. The court said this actually reinforced the ITA’s conclusion that transportation was a benefit for the convenience of employees rather than necessary for the business. The taxpayer failed to prove otherwise, so the court disallowed input VAT on staff transportation expenses.
Various rules indicate the need to show transportation is necessary for the work conditions and location; whether more than two bus rides are needed, or if one bus, whether the distance is more than 15 km.; whether there are abnormal work start or finish times; and whether mass transportation of all employees is needed.
Comment: It seems the taxpayer didn’t show that quicker travel to and from work leaves more time to produce things, i.e., time is money.
Employee welfare expenses
The taxpayer did not claim input VAT on equipment for use in the staff gym, but rather, only on the purchase of land and construction of a building. All agreed that the gym, music rooms, and spa were built for the welfare of employees.
But the land purchase and construction costs were of no benefit to employees, so the court allowed the recovery of input VAT on these big items.
Arranging employee pensions
The expenses related to providing pension advice to employees and not managing contributions to pension funds. Therefore, the court ruled these expenses benefited employees and disallowed the recovery of VAT on them.
Due diligence: Yes or no?
The ITA had disallowed recovery of VAT on invoices totaling NIS 467,839 from accountants Keselman & Keselman (PwC Israel), claiming they were for DD when Intel acquired Mobileye’s share capital. Since a share acquisition isn’t a taxable transaction for VAT purposes, the ITA said no VAT recovery was possible.
The court said the ITA got it all wrong. The entity conducting DD was Intel, the buyer. PwC was helping the seller (Mobileye) and cannot possibly do DD on its own work, which would be an illegal conflict of interests. So, the court ruled Mobileye could recover the VAT on PwC’s invoices.
Summary
VAT on employee fringe benefits is recoverable by a company only if the employee foots the VAT bill. Acquirers need due diligence; the acquirees don’t.
As always, consult experienced tax advisers in each country at an early stage in specific cases.
leon@hcat.co
The writer is a certified public accountant and tax specialist at Harris Consulting & Tax Ltd.