Uncertainty Surrounding Israel's Proposal to Exempt Foreigners from Crypto Tax

The situation concerning the Israeli proposal to offer tax exemptions for foreign individuals on the sale of digital currencies and to relieve them from Capital Gains tax on such sales is enveloped with a significant degree of uncertainty. This amid the Israeli government's urgent need for revenue due to the Israeli-Palestinian conflict stemming from the attack by Hamas on October 7, 2003. The intention of the proposal is to establish Israel as an attractive destination for crypto investments. Additionally, the proposal seeks to bolster the Israeli crypto industry.

Many foreign nationals assume this exemption proposal has been enacted into law, while some remain doubtful. Such confusion is unsurprising because Israel has existing tax relief programs for foreigners who become Israeli residents. Comparatively, such generous exemptions for foreigners are rare in countries like Canada. Many perceive that Israel, in general, offers a more advantageous tax environment for foreigners.

Has Israel Enacted a New Law to Exempt Foreigners from Crypto Tax?

In July 2023, Israeli legislators convened in an early plenary session, where they introduced a proposal to provide tax exemptions on the sale of digital currencies to non-residents. The proposal also suggested exempting these individuals from capital gains taxation on such transactions. 

The primary goal of the proposal is to attract foreign crypto capital into Israel and to expand its crypto industry. The proposal additionally outlines favorable taxes for transferring digital currencies to employees. A reduction in the tax rate on digital currency options for employees, from 50% to 25%, was included. This proposal, formally known as "Bill to amend the Income Tax Ordinance (tax exemption on the sale of digital currencies to non-residents and allocation to employees), Hatshep 'C' 2023" is currently under review by the finance committee of the Knesset (Israel's national legislative body), in preparation for a first reading.

However, amidst the ongoing Israeli/Palestinian conflict ("iron swords war") and the urgent financial needs of Israel, many question whether Israel is willing to waive immediate crypto taxes in favor of encouraging future investments through exemptions.

Israel's Current Crypto Tax Policy Concerning Foreign Investors

Israel's proposed tax exemption for foreigners on crypto is not surprising. This is because Israel already offers a policy that exempts new residents from taxes. Israel provides such foreigners a 10-year tax exemption on their income from foreign assets or businesses. This includes crypto assets. The exemption also covers interest, dividends, royalties, and capital gains from these assets. The 10-year period begins with the foreigner's initial residency in Israel. Similar exemptions apply to returning residents who have lived outside Israel for at least 10 consecutive years.

Aside from these exemptions, Israel currently has a mirrored taxation system to Canada regarding crypto. In Israel, digital currencies are regarded as "assets" rather than currency (See Article 88 of the Israeli Income Tax Ordinance). The sale of crypto assets is categorized as either capital gains or business income, based on specific circumstances. If such a sale results in capital gains, a tax of 25% on the gain is applied. However, if it is classified as business income, it could be taxed at Israel's top marginal rate of 50%.

Similar to Canada, Israel taxes non-residents on income sourced from Israel and residents on global income. This includes crypto transaction incomes. Since crypto assets are not legal tender in Israel, their commercial use for purchasing goods and services is viewed as a barter transaction, and Value Added Taxes apply.

Finally, Israeli residents with foreign assets valued at NIS 1,916,000 or roughly $750,000 CAD, must report them to tax authorities, according to regulation 3(a)(6)(b) of the 1988 income tax regulations. This includes crypto assets. Unlike in Canada, no exceptions are made based on the association of the asset with active businesses.

 Canadian Taxation of Crypto Assets: Foreign-Affiliated Crypto Considerations

Canada does not offer a similar system to Israel, which exempts new and returning residents from taxes on overseas assets or businesses. Therefore, income from digital assets held abroad by Canadian new or returning residents is subject to taxation. Once a person acquires Canadian residency, their worldwide income earned after becoming residents is taxable. Likewise, non-residents earning Canadian-sourced income must pay taxes on that income.

In Canada, crypto assets are generally categorized as commodities for taxation purposes. If held as capital property, 50% of the gain from their sale is taxed as capital gains. This correlates with Israel's rate of 25% on the entire gain. However, upcoming amendments effective from June 25, 2024, propose increasing Canada's capital gain tax inclusion to 66.67%, exempting individuals below a $250,000 CAD threshold. Graduated Rate Estates and Qualified Disability Trusts are also eligible for this exemption under specific conditions. 

Additionally, in Canada, if crypto assets are utilized indicating business activity, the earned income is taxed as business income. This could result in a tax rate, including federal and provincial, of about 50%, mirroring Israel. Furthermore, since crypto assets are not legal tender in Canada, their commercial use as currency is treated as barter transactions for tax purposes, similar to Israel. Canadian Goods and Services Tax (GST/HST) applies as well.

Lastly, foreign-held crypto assets by Canadian residents are subject to foreign property regulations. When total foreign properties exceed $100,000 CAD, they must be reported. However, foreign property strictly in active business is exempt.

Securities Regulation of Crypto in Israel

From a securities regulatory viewpoint, Israel lacks a comprehensive framework for crypto assets. The main legislative reference is the Israeli Securities Law 1984, managed by the Israeli Securities Authority.

For security regulations, Israel assesses crypto assets' characteristics to determine their resemblance to securities. If a crypto asset grants rights like participatory, ownership, or profit entitlements, they are likely classified as securities tokens. Furthermore, crypto assets intended for secondary market trading fall under the securities category. Regulations apply to their offer and sale, primarily to the public.

Fund managers, investment advisors, and marketers dealing in Israeli crypto assets must obtain licenses from the Israeli Securities Authority. Licensing conditions include reviewing applicants' experience, scheme risks, and anti-money laundering potentials. Examinations are part of the licensing process. Licensees have record-keeping and reporting duties to the Israeli Securities Authorities. Additionally, offering security tokens on foreign exchanges to non-accredited (unsophisticated) investors is forbidden, barring specific conditions. Refer to Section 49A of the Securities Law 1968.

Israel mandates financial service providers, including custody and lending, to be licensed by the Capital Market Authority. As per the Israeli Financial Services Law, virtual currency, or cryptocurrency, is considered a financial asset (See Article 11(a)(7) of the Law). Therefore, entities in cryptocurrency dealings may require a financial services license.

Additionally, the Central Bank of Israel has instructed banks to accept cryptocurrency deposits from licensed corporations by the Capital Markets Authority. Non-bank stock exchange members may provide cryptocurrency trading and custody. Courts, including the Supreme Court of Israel, have permitted banks to execute digital currency transactions, as evident in Bits of Gold V Gov of the Bank of Israel 7364/22.

Israel obligates institutional investors to use custodians for crypto asset storage. The Israeli Securities Authority manages payment services under the Israeli Payment Services Law 2019, which applies to crypto-dealing entities offering payment services.

As of now, no licensing requirements exist for foreign crypto exchanges in Israel, nor is there a law against Israeli citizens engaging with foreign crypto exchanges. Therefore, foreign crypto trading services remain accessible to Israelis. This contrasts with Canada's stricter approach, which bans unregistered CTP websites and enforces heavy penalties.

It should be emphasized that Decentralized Autonomous Organizations ("DAOs") are not legally recognized in Israel, despite resembling a digital firm.

Canadian Securities Regulation of Crypto

CTPs - Cryptocurrency Trading Platforms ("crypto exchanges") servicing Canadians must be registered, regardless of their location within or outside of Canada. Unregistered CTPs in Canada must undertake directives and meet conditions addressing investor safety until they receive full registration. Registration helps in protecting investors through risk management, disclosure, and good faith responsibilities.

Application of securities laws is not exhaustive and is evaluated case-by-case. According to the Canadian Securities Administrators (CSA) and Canadian Investment Regulatory Organization (CIRO), securities laws pertain to crypto assets exhibiting security or derivative qualities, traded on a crypto asset trading platform (CTP).

Security laws also apply to public trading of security tokens. CTPs conducting security token transactions, derivatives, and contracts need CIRO membership and investment dealer registration. Moreover, crypto custody services fall under regulatory scrutiny. Wallet or similar services by a CTP require compliance with securities legislation.

Unlike Israel, Canadian banks do not handle cryptocurrency transactions or accept crypto deposits. However, some Canadian banks and financial bodies provide 'crypto for cash' exchange and ATM services, operated by independent entities.

As in Israel, DAOs are Not Legal Entities in Canada

Israel provides a more welcoming crypto environment for foreigners compared to Canada.

In terms of taxation and securities, Israel seems more favorable for crypto activity and foreign involvement.

Policy allowing a 10-year tax exemption for new and returning Israeli residents, and a threshold of $750,000 CAD for foreign asset reporting, incentivizes investment and foreign asset ownership, including crypto, in Israel versus Canada.

Conversely, the absence of similar exemptions for newcomers and returnees in Canada, and a $100,000 CAD reporting limit constrain crypto owners uninterested in foreign business engagements. Israel's threshold for foreign asset reporting is more encompassing and attractive for such crypto investors.

From a securities standpoint, Israel maintains a more open stance towards digital currencies than Canada. Requirement of foreign CTPs to register with Canada before entering the market is very restrictive in the global crypto economy.

In contrast, Israel permits foreign CTP engagement and imposes no restrictions on Israelis dealing with them. Israel even permits marketing of foreign crypto securities given investor protection conditions. Moreover, Israeli banks are legally mandated to accept crypto deposits and execute crypto-related transactions, unlike their Canadian counterparts.

Finally, Israel's strategy to potentially exempt foreigners from crypto tax reflects the government's open-mindedness towards digital currencies. However, the current Israeli conflict ("Iron Swords War") has shifted public opinion towards avoiding tax hikes for citizens. As such, isolated asset types, like crypto, are likely to face increased tax scrutiny. This situation is expected to be temporary.

PRO TAX TIPS: Considerations for Classifying Crypto Transactions as Capital or Business Activities

In Canada, the court evaluates several elements holistically to classify income from crypto assets as capital or business: property nature, sale frequency, ownership length, motive at acquisition, effort expended on property, and disposition circumstances.

If a property is typically capital, held long-term, sale is due to unforeseen reasons, and initial acquisition aim was capital income, the court leans towards classifying income as capital. Contrary circumstances point to business income.

In Israel, similar factors apply: property quality, sales frequency, holding duration, property improvement, and disposition circumstances. These align with Canadian criteria.

Nonetheless, Israel introduces additional factors: volume of sales, presence of an organization, transaction financing, and expertise. High quantity of sales, existence of permanent sales office, loan-financed transactions, and expertise suggest business income.

These classification factors can interchange and complement both jurisdictions, given neither deems them exhaustive. If you need guidance on cross-jurisdictional tax practices, our leading Canadian tax attorneys are at your service.

Frequently Asked Questions (FAQs)

What Are Crypto Assets?

Crypto assets are digital representations of value, whose transactions are authenticated and secured by cryptographic ledgers or equivalent technology, typically blockchains. They encompass cryptocurrencies, non-fungible tokens, and security or utility tokens.

How Are Crypto Assets Classified and Defined?

While it's nearly impossible to exhaustively define crypto asset variants, attempts exist to categorize them. Common classifications include:

• Cryptocurrencies: used akin to currency, essentially as a payment means, including bitcoins, altcoins, dash, Ethereum, and TAO.

Stable coins are value-referenced coins, deriving value from fiat currency, business outcomes, or even other crypto assets, stabilizing their value:

• Utility tokens: grant holders the right to utilize a service or product.
• Security tokens: function similarly to securities, like debts or shares, granting ownership, membership, or security entitlements.
• Non-fungible tokens (NFTs): digitally represent asset ownership or authenticity, covering virtual or physical items. Each token represents uniqueness. NFTs are grounded in blockchain technology.

Are All Crypto Assets Taxed Uniformly?

In both Israel and Canada, crypto assets' taxation depends on their attributes. A crypto asset's specific features affect applicable taxes and timing.

Disclaimer: This article provides general information, valid at its posting time. It hasn't been updated and might be outdated. It isn't legal advice and shouldn't be solely relied upon. Tax scenarios vary by unique circumstances, differing from those illustrated. For specific legal inquiries, consult a tax attorney in Austin.