Introduction – What is Aliyah?
Aliyah is the emigration of the Jewish people and their descendants from diaspora to Israel, for the purpose of making Israel their homeland. The notion of Aliyah emerged in the late nineteenth century as part of the development of the Zionist movement which was a nationalist movement that supported the "reestablishment of and support for a Jewish State". In 1948, the State of Israel was established and its "Law of Return" was passed. The "Law of Return" provided Jewish persons across the world the opportunity to make Aliyah and legal rights to residency and Israeli citizenship. In particular, the "Law of Return" allowed Jews to emigrate back to Israel, build supportive Jewish communities and immerse themselves in Israeli culture. During the 1970s, Aliyah expanded to include the descendants of Jewish persons and persons married to a Jewish spouse.
Tax Timing and The Making of Aliyah
The making of Aliyah can be a strenuous process and it can take months for an Aliyah application to get approved. Here are some factors that should be considered by Canadian residents when making an Aliyah:
- the length of the time period wherein the applicant lived abroad or whether he or she is emigrating to Israel for the first time;
- assets and the disposition of assets prior to (and after) emigrating to Israel;
- capital gains arising from the disposition of assets may have to be reported;
- income and or benefits received from Canadian source investments during and after the year in which Aliyah is made;
- ceasing residence status in Canada and obtaining residence status in Israel; and
- the Canadian tax treatments of emigration to Israel during the year in which Aliyah is made as well as its preceding and following years.
This list is not exhaustive. Its purpose is to shed light on the matters that should be addressed and explored prior to, during and after the making of Aliyah. For tax purpose, the most significant date is the date on which a person ceases to be a Canadian resident and becomes an Israeli resident.
Prior to 2003, the State of Israel taxed residents "only on income earned in Israel". Income earned outside Israel was not subject to income tax. The limits in Israel's tax system made it an appealing tax heaven place for many Israeli residents who continued to 'receive income from pensions and investment income" sources located outside Israel.
In 2003, the State of Israel introduced a new tax system wherein Israeli residents' tax liability included their worldwide income from all sources in a similar way to Canada. This meant that, all income earned by Israeli residents, regardless of where the source of income was located, became subject to income tax liability. The new Israeli tax system parallels Canada's current tax system. Pursuant to Canada's Income Tax Act, Canadian residents are taxed on their worldwide income from all sources, but a non-resident will only be subject to income tax on his or her income from sources inside Canada.
The State of Israel's new taxation system made a major impact on individuals and their families including those who made Aliyah from Canada to Israel. To help give relief and alleviate some of the detrimental tax treatment and consequences associated with Aliyah, Israel signed tax treaties with certain countries including Canada. On September 21, 2016, Canada and Israel signed a new tax treaty, titled the Canada-Israel Income Tax Convention, which came into effect on January 1, 2017. We will refer to the Canada-Israel Income Tax Convention as the "Treaty"
The Canada-Israel Income Tax Convention
The purpose of the Treaty is "the avoidance of double taxation and the prevention of fiscal evasion with respect to tax on income" (Schedule 1). The Treaty applies to "taxes on income" and "gains from the alienation of movable or immovable property" imposed on behalf of either of the Contracting States. Article 2 of the Treaty explains the taxes covered. Pursuant to Article 2, the Treaty is applicable to the following existing taxes:
- In Canadian context, the income tax imposed by the Government of Canada, pursuant to the Canada's Federal Income Tax Act.
- In Israeli context, the income tax and company tax, as well as the tax on capital gains from the alienation of property pursuant to Israel's Real Estate Taxation Act.
Article 2 also imposes an obligation on competent authorities in both Canada and Israel to notify each other of "significant changes" to their current taxation laws which impact the application of the Treaty.
The Scope of the Convention & Definitions
The Canada-Israel Income Tax Convention applies to a person who is resident in one or both of the Contracting States (Article 1). Person in defined as "an individual, a company, a trust, a partnership and any other body of persons". Contracting States are defined as Israel or Canada (Article 3). Article 4 explains that a "resident of a Contracting State" means any person who, under the law of either or both Contracting States, is liable to tax by "reason of the person's domicile, residence, place of management, place of incorporation or any other criterion of a similar nature".
According to the CRA's "Income Tax Folio S5-F1-C1, Determining an Individual's Residence Status", an individual who is a resident in Canada may be characterized as either an "ordinary resident" or "deemed resident". An "ordinary resident" will be subject to Canadian tax on his or her worldwide income for a part of the year in which he or she is a Canadian resident and will be subject to Canadian tax on his or her Canadian source income for the other part of the year in which he or which will be taxed as a non-resident. An individual who is a "deemed resident" in Canada will be subject to Canadian tax on his or her worldwide for the entire year.
However, in certain situations where a person may be an "ordinary resident" or "deemed resident" in Canada, he or she may be deemed to be a non-resident pursuant to subsection 250(5) of Canada's tax act and the "tie-breaker" provisions in the Treaty. Subsection 250(5) of the Income Tax Act treats a person who is a resident in Canada as a non-resident and deems him or her as a resident in another country by tax treaty "tie-breaker". The "tie-breaker" rules are found in Article 4 in the Treaty.
Pursuant to Article 4, in circumstances where an individual is a resident in both Israel and Canada, the person's residence status shall be determined as follows:
- the individual is deemed resident of the Contracting State where he or she are closer to his or her personal and economic relations (also known as center of vital interest);
- the individual is deemed to be a resident of the Contracting State in which he or she holds a habitual abode;
- the individual is deemed to be a resident of the Contracting State in which he or she is a national;
- where the individual is a national of both Canada and Israel or is not a national of neither Contracting States, authorities of both Contracting states shall settle issues surrounding the individual's residency status by "mutual agreement"
In circumstances where a company, trust or partnership is a resident in both Canada and Israel, such Contracting States, for tax purpose, shall turn to their mutual agreement to determine the residence status. However, in the absence of a mutual agreement between Canada and Israel, a company, trust or partnership that is a resident in both Contracting States, "shall not be entitled to claim any relief or exemption from tax provided" under the Treaty. This means that in order for a person to qualify for the benefits under the Treaty, the person must satisfy its limitation on benefits. As well, where residence is neither determined nor agreed on by both Contacting States, the company, trust or partnership is precluded from accessing the benefits under the Treaty.
The Taxation of Income
Article 6 – Income from Immovable Property
Part III of the Canada-Israel Income Tax Convention regulates the taxation of income. Pursuant to Article 6, income derived from immovable property (such as rental income) by a resident of a Contracting State, where the property is situated in the other Contracting State, may be taxed by the latter. In this context, income means any income derived from any form of use of the immovable property and income arising as a result of the alienation of such property.
Article 10 – Dividends & Distributions by a Real Estate Investment Fund
Article 10 governs the taxation of income from dividends and distributions by a Real Estate Investment Fund. That is, dividends paid by a corporation "which is a resident of a Contracting State to a resident of the other Contracting State" that is to a resident in a Contracting State to a resident in the other Contract State may be taxed by the latter. However, dividends may also be taxed by the Contracting State in which the company paying the dividend is a resident, but if the beneficial owner of the dividend is a resident in the other Contracting State, the taxes charged by the Contracting State (which is the place of residence of the paying corporation) are limited to:
- 5% of the gross amount of the dividend where the beneficial owner of the dividend is a corporation that holds, directly, at least 25% of the capital of the corporation paying the dividends;
- 15% of the gross amount of the dividends in all other cases.
In certain circumstances, dividends arising in a Contracting State and owned by a person that is established and operating in the other Contracting State strictly to "administer or provide benefit" under certain "pension plans" are exempt from tax in in the "first mentioned State" provided that:
- The person is the beneficial owner of the shares on which dividends are paid, holds those shares and is generally either exempt from tax in the other Contracting State or its income is not subject to tax in the other Contracting State;
- The person does not hold, directly or indirectly, more than 10% of the capital or 10% of the voting power of the person paying the dividends; and
- Each "recognized pension plan provides benefit primarily to individuals who are residents in the other Contracting State".
Distributions made by a Real Estate Investment Funds, which is housed in Israel, to a Canadian resident may also be taxed under Canada's federal tax system. However, if the beneficial owner of dividends or distributions under the Real Estate Investment Funds carries on business in Canada (the other Contracting State) Article 7 (Business Profits) shall apply (as opposed to Article 10).
Where a company, which is a resident in a Contract State, receives profit or income from the other Contracting State, the latter State (the Other State) may only impose taxes on the dividends paid by the company where the dividends or distributions are made in connection with "a permanent establishment in the other State". A Contracting State may impose its branch tax to a company that is a resident in the other Contract State, however, the branch tax "shall not exceed 5%".
A resident of a Contracting State will be denied any and all of the benefits under Article 10, in respect to dividends, where one of the main reasons behind the dividend payment, transfer, assignment, making or acquisition is for that resident to access the benefits under that Article.
Article 11 – Interest
Interest arising in a Contracting State and paid to a resident in the other Contract State may be taxable by the latter (the other Contracting State). However, interest may also be taxed in the Contract State in which they arise, but if the beneficial owner is a resident in the other Contracting State, the first Contracted State's tax charge "shall not exceed 10% of the gross amount of the interest". This provision does not apply wherein the beneficial owner of the interest is a resident of a Contracting State but carries on business in the other Contracting State "through a permanent establishment" and that debt in respect of which the interest in paid is also in connection to the "permanent establishment".
Interest in deemed to arise in the Contracting State where the payor, of the interest, is a resident in that Contracting State. Excess payments of interest shall not be entitled to the benefits under this Article and are taxable in accordance with the tax laws of each Contracting State. A resident of a Contracting State will be denied any and all of the benefits under Article 11, in respect to interest, where one of the main reasons behind the interest payment, transfer, assignment, making or acquisition is for that resident to access the benefits under that Article.
Article 13 – Capital Gains
The taxation of Canadian source capital gains by Israeli residents is governed by Article 13 in the Treaty. Article 13 provides that gains derived by a resident in a Contracting State as a result of the alienation of immovable property, movable property, ship or aircraft that is located in the other Contracting State may be taxed in the latter (the Other Contracting State). Gains derived from a resident of a Contracting State from the alienation of shares or an interest in a partnership or trust may also be taxed by the other Contracting State. Gains from the alienation of all other property shall only be taxable in "the Contracting State of which the alienator is a resident".
Paragraph 6 regulates the departure tax. It provides that where a person:
- ceases to be a resident in a Contracting State and is treated for tax purpose as having alienated a property and is taxed in the Contracting State; and
- at any time thereafter becomes a resident in the other Contracting State
that other Contracting State "may tax the gains in respect of the property only to the extent that such gains had not accrued while the individual was a resident of the first-mentioned State". Authorities in both Contracting States are obligated to attempt, by mutual agreement, to resolve any issues arising in a situation where a person ceases to be a resident of a Contracting State, is treated for tax purpose, by that state, as having for alienated property due to their change in residency status, and thereafter becomes a resident in the other Contracting States. When a person leaves Canada he or she is considered to have sold certain property, such as shares, at "fair market value and to have immediately reacquired from for the same amount". This is the "deemed disposition" rule. Capital gains arising from a deemed disposition of property may have to be reported. This is referred to as departure tax.
A resident of a Contracting State will be denied any and all of the benefits under Article 13, in respect of any gain, where one of the main reasons behind the alienation of property giving raise to such gain is for that resident to access the benefits under that Article.
Article 17 – Pensions & Annuities
The taxation of Canadian pensions and annuities is governed by Article 17 in the Treaty. In particular, Article 17 provides that pensions or annuities arising in a Contracting State but are paid to a resident in the other Contracting State may be taxed by the latter (the other Contracting State). Pensions arising in a Contracting State and are paid to a resident in the other Contracting State may also be taxed in the Contracting State in which they arise. However, in the context of "period pension payment", the tax charged by a Contracting State in which pensions are arising:
- shall not exceed the lesser of 15% of the gross amount of payment; and
- the amount of tax that the recipient would have been required to pay on the total amount of "periodic pension payment" for the relevant tax year. This restriction does not apply to lump-sum payments made on "cancellation, redemption or sale of the annuity".
Annuities arising in a Contracting State and paid to a resident in the other Contracting State may also be subject to tax in the state in which they arose. However, the tax charged by such state shall not exceed 15% of the portion of the annuity which is subject to tax in that state. This limitation does not apply to "lump-sum payments arising on the surrender, cancellation, redemption, sale or other alienation of an annuity, or to payments of any kind under an annuity contract the cost of which was deductible, in whole or in part, in computing the income of any person who acquired the contract". The exemptions are in paragraph 4 which provides that:
- war pensions and allowances;
- alimony and similar payment; and
- benefits under the social security laws of a Contract State
paid to residents in the other Contracting State are exempt from tax in that state (the other Contracting State), provided that such payments would have been exempt from tax if paid to a resident in the first mentioned State.
Article 20 – Other Income
Article 20 provides that where items of income of a resident of a Contracting State arise that are not dealt with under the articles in the Treaty, such income shall only be taxable in that state (the Contracting State in which the income arose), in accordance with its taxation laws. However, if income is derived by a resident of a Contracting State from income sources in the other Contracting State such incomes may only be taxed in the Contracting State in which the income arose. Income from a trust may be charged tax by the other Contracting State "not exceeding 15% of the gross amount of the income" provided that the income is taxable in the Contracting State in which the owner is a resident of that State.
The Elimination of Double Taxation
The methods for elimination of double taxation are found in Part IV, Article 21, of the Treaty.
In context of Canada, double taxation shall be avoided as follows:
- tax payable in Israel on profits, income or gains arising in Israel shall be deducted from any Canadian tax payable in respect of such profits, income or gains;
- the credit against Canadian tax shall take into account the tax payable in Israel by that first-mentioned company in respect of the profits out of which such dividend is paid; and
- where income derived by a resident of Canada is exempt from tax in Canada, in accordance with the provisions in this Treaty, Canada may nevertheless take into account the exempted income, in calculating the amount of tax on other income.
In context of Israel, double taxation shall be avoided as follows:
- where a resident in Israel derives income that may be taxable in Canada, in accordance with the provisions on this Treaty, Israel shall allow as deduction, from the tax of the person, an amount equal to the tax paid in Canada;
- the credit against Israeli tax shall take into account the tax payable in Canada by that first-mentioned company in respect of the profits out of which such dividend is paid; and
- deductions shall not exceed a part of the income tax prior to the deduction is granted "which is attributable to the income which may be taxed in Canada".
In this context, double taxation is avoided by imposing a requirement on residents to report their income for taxation purpose. Thereafter, the person receives a credit from their Contracting State in which they have residency status. However, the Treaty grants Canada the power to consider the exempted income in calculating the person's income and limits Israel from deducting an amount, for tax purpose, that exceeds the deduction in Canada.
The Special Provisions
Article 23 sets out the mutual agreement procedure among the Contracting States. Article 24 imposes an obligation on authorities of both Contracting States to exchange information as is foreseeable or relevant for the administration and enforcement of the Treaty. Article 25 provides further limitations and states that "nothing in this Convention shall prevent a Contracting State from applying any provision of its laws which are designed to prevent avoidance or evasion of taxes".
The benefits and Limitations of the Canada-Israel Income Tax Convention
Overall, the Canada-Israel Income Tax Convention aims to reduce the impediments associated with Canada-Israel cross-border transactions and investments. The Treaty is crafted and precisely designed to eliminate double taxation and close loopholes associated with fiscal evasion with respect to taxes on income. The Treaty creates benefits that make it easy for Israeli residents to invest in Canada, while maintaining their Israeli residence. As well, the Treaty not only sheds light on the need for strict and unequivocal regulations in context of cross-border investments, it also draws attention to the existing challenges associated with emigration and international taxation laws.
As previously mentioned, to qualify for the benefits under Treaty, an Israeli resident must satisfy its limitations on benefits. Many of the benefits under the Treaty are limited. To illustrate, many of the articles relating to the taxation of income (Article 11 and Article 13 for example) prevent a person from accessing the benefits under Treaty where the person's intentions for their investment include access to the benefits under the relevant articles. As a result, the "availability of treaty relief to certain Israeli residents" could be minimal to none. As well, even if an Israel resident is exempt from tax on a Canadian source income, in certain cases the person may be required to report their income in both Contracting States. Meaning, tax returns may have to be completed in both Israel and Canada and this could create substantial financial costs for the person. Further, while the Treaty aims to prevent double taxation and fiscal evasion, there are no guarantees that it eliminates the reoccurrence of these issues. Moreover, since domestic laws are ever changing such laws must be unequivocal to ensure the appropriate administration and application of the Treaty.
Tax Tips – Canada-Israel Income Tax Convention & the Making of Aliyah
The Canadian tax treatment of emigration to Israel (Aliyah) is a complex area in taxation law. Despite the benefits created by the Canada-Israel Income Tax Convention, its application is limited. Nevertheless, the making of Aliyah is a significant matter for residents in both Contracting States and it may require a person to consult both an experienced Israeli tax lawyer and an experienced Canadian tax lawyer. If you have questions regarding the Canadian tax treatment of emigration to Israel, the making of Aliyah, cross-border investments and whether (or not) you are eligible for any of the benefits under the Canada-Israel Income Tax Convention, please contact our office to speaking with one of our experienced Canadian tax lawyers.