A U.S. Limited Liability Company (hereinafter: “LLC”) is a legal entity established in accordance with the legislation of many states in the U.S.A. its legal status, as well as its members’, is governed by the law of each state. For income tax purposes, however, the LLC is considered as a pass-through entity and is treated as a partnership or as a disregarded entity, as the case may be, according to the Internal Revenue Code (IRC). Hence, the LLC’s income and gains (or losses) are attributed to its members according to their share. Nevertheless, an LLC may elect to be taxed as a corporation, thus its income is liable to corporate income tax and is not attributed to the members.
Often, non U.S. tax-jurisdictions are faced with a practical need to define the LLC’s position vis a vis their own tax systems. This may be the case when an LLC conducts a business in that jurisdiction or when its own residents generate U.S. sourced income through an LLC. Hence, it is required to decide how to tax such income. The Israeli tax authority has long been considering the tax implications of income or gains generated through an LLC. Two professional Circulars have been published on the subject. The first one established the idea that, generally, the LLC should be considered as a “Body-of-persons” and should not necessarily be treated as a pass-through entity whose income is attributed to its members (like a partnership). The second circular, however, presents Israeli members of a LLC operating in the U.S. with a practical solution to eliminate possible double taxation of the same income. The Israeli resident member may elect that his share of the LLC’s income be attributed to him. This attribution is made solely for the purpose of granting foreign tax credit on that specific income, and is not intended for any other purpose. Income so treated will retain its
character (e.g. business income or capital gain) and be reported in the member’s annual tax return. The profit will then be calculated according to Israeli tax law and domestic tax will be levied. Tax paid in the U.S.A will be credited against the Israeli tax, so situations of economic double taxation are avoided. Loss of the LLC, however, is not attributed to the member and may not off- et his other income or gains. The loss is retained in the LLC and may be off-set against its future income, subject to the general Israeli rules regarding off-setting losses; e.g. a loss generated from a business activity may be off-set against future business profits. This treatment of a pass-through entity is contingent upon the LLC being treated in the same manner for U.S tax purposes. Unless an election is made (according to the said circular), the LLC will be treated by the Israeli tax authorities as a corporate entity and distributions there from as dividends paid to its members. We may note that this classification has not yet been debated nor decided upon by an Israeli court.
On November 18, 2010, a treaty for the avoidance of double taxation was initiated by and between Israel and Malta.
Like other tax treaties Israel has signed lately, this treaty is based on the OECD model. The treaty sets out the withholding tax rates between the two countries as we will specify herein. The treaty will enter into force following the formal signing and ratification procedure by both states, assumingly not before 2012. We should note that the full text of the treaty was not yet published.
Dividends
According to the treaty, there will be no withholding tax (“WHT“) from dividends paid by a company, resident of a contracting state, to a company that is a substantial share holder (holding 10% or more), and a resident of the other state; in all other cases, the WHT will not exceed 15%. It should be noted that according to the law in Malta there is no withholding tax on dividend payments.
Interest
According to the treaty there will be a WHT of only 5% on interest paid to a resident of the contracting state by a resident of the other. It should be noted that according to the law in Malta there is no withholding tax on interest payments.
Royalties
The treaty follows the OECD model by setting an exemption from WHT by the source state on royalties paid to a resident of the other contracting state. We may note that other tax treaties recently signed by Israel also follow that rule by allocating the taxation right of royalties to the state of residence. As with dividends and interest, according to the law in Malta there is no withholding tax on royalties payments.
In addition, the treaty sets out broadly the article regarding Exchange of information between the tax authorities of both countries. Accordingly, the Israeli Tax Authority can receive information regarding income derived by Israeli residents in Malta, also with regard to information held in the banks of Malta.
It should be noted that there may be a great advantage for Israeli investors to use a Maltese company, as part of an International tax planning, to perform investments and provide services in European countries as well as in other countries around the globes. This, in light of the tax regime set in Malta (i.e. the internal tax law in Malta when distributing dividends etc’), and in light of the fact that Malta is a member in the European Union and as such is part to different directives that apply to the European Union countries. In addition, Malta is part of many treaties for the avoidance of double taxation, including recent tax treaties that were signed with the United States and china (both based on the OECD model).
