TAX PLAN APPROVED BY THE GOI

C O N F I D E N T I A L SECTION 01 OF 03 TEL AVIV 003991

SIPDIS

E FOR PAUL REID

E.O. 12958: DECL: 06/23/2015
TAGS: ECON IS ECONOMY AND FINANCE GOI INTERNAL
SUBJECT: TAX PLAN APPROVED BY THE GOI

Classified By: William Weinstein for reasons 1.4 (b) and (d)


1. (C) Summary. The GOI approved a multi-year tax plan on
June 5, prepared by the tax authority and the State Revenues
Administration of the Ministry of Finance. The plan focuses
on enabling Israel to become a more attractive and
competitive location for investors while reducing income tax
rates, particularly for lower wage earners. The plan
envisions a range of cuts in personal income taxes, cuts in
corporate taxes, a reduction in VAT, and unification of taxes
on capital. The economic team responsible for drafting the
tax plan stressed that it is designed to maintain the budget
deficit targets and continue decreasing the public debt to
GDP ratio. The Minister's Committee for Legislation is now
preparing a draft bill, that is expected to be presented to
the Knesset during the summer session. End Summary.

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Corporate Taxation
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2. (C) Among the details of the plan published on the
Ministry of Finance website, corporate taxes will decline to
25% by 2010 according to the following schedule:

2006: 31%
2007: 29%
2008: 27%
2009: 26%
2010: 25%

The corporate tax rate outlined previously in the 2004 tax
reform legislation was only scheduled to drop to 32% in 2006.
The acceleration and extension of corporate tax reductions
appears to be part of an effort by Minister of Finance
Netanyahu to attract investors to establish new companies in
Israel.

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VAT Reduction
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3. (U) The current VAT rate in Israel is 17%. The tax plan
outlines a 0.5% reduction in VAT in 2005 to 16.5%, but does
not provide a firm start date for the rate decrease. (Note: A
reduction in the VAT rate alone does not require Knesset
approval, but it is unclear if this proposal will be
implemented before or in coordination with other tax law
changes which require Knesset approval. End Note.) Then,
pending positive economic developments in 2006, the VAT would
be reduced by an additional 0.5% in 2007. The report
estimates that every 1% reduction in VAT will increase state
revenues by between two and a half to three Billion NIS (New
Israeli Shekels) (approximately 600 million USD). The tax
plan is a continuation of the Netanyahu policy of
contributing to economic growth by reducing the tax burden on
the public. The Finance Ministry maintains it will also
bring in higher state tax revenues (from higher consumption).

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Income Tax
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4. (U) The income tax plan calls for reducing the highest
marginal tax rate, currently set at 49% according to the
following schedule:

2007: 48%
2008: 47%
2009: 46%
2010: 44%

Wage earners of 50,000 NIS or more/month will see their tax
bill reduced from 43.8% of gross salary per month in 2005, to
only 39.1 % in 2010. For those earning 10,000 NIS/month the
tax bill will be reduced from 24.2% (2005) to 20.6% in 2010.


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Capital
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5. (U) A small portion of the cost of the tax plan will be
financed by an increased tax rate on capital. Tax on capital
gains from the Tel Aviv Stock Exchange (TASE) and foreign
stock exchanges will increase to 20% from the current rate of
15%. Tax on indexed deposits will increase to 20% from 15%.
Tax on gains from bank deposits will increase to 15% from 10%.

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Social Welfare
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6. (U) The current tax plan includes a number of provisions
targeted at vulnerable sectors including the unemployed,
working mothers, the elderly and the disabled. The plan
calls for:

-Special assistance to working mothers with low income to
help cover the cost of day care;

-An incentive tax credit for someone who is unemployed who
returns to work;

-An increase of NIS 110 (beginning in July 2005) to elderly
people on a guaranteed income. Elderly couples will receive
an additional 150 NIS/month.

-A decrease in the Bituach Leumi (national health insurance)
tax for very low wage earners (those who earn less than 3,500
NIS/month)

In addition, during a June 5th meeting, the government
decided that as part of the framework of the 2006 budget the
Minister of Finance would present to the government a plan to
introduce a negative income tax for low wage earners.

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Costs of the Plan
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7. (C) Michael Sarel, Deputy Director General for
Macroeconomics, from the Ministry of Finance explained the
cost of the tax plan as the difference between projected tax
revenues if the plan is adopted, and the amount forecast to
be collected if the tax rates remain the same. He cautioned
however, that the entire plan projects costs in today's
terms, and does not take into account changes in the behavior
of investors and consumers due to market-risk changes. In
part, these costs will be offset by the increase in capital
gains taxes which is expected to bring in 400 million NIS.
The tax plan extends over five years and is estimated to cost
(in NIS):

2005: 400 million
2006: 2 billion
2007: 3.1 billion
2008: 5.7 billion
2009: 7.8 billion
2010: 11.2 billion

The jump in cost of the plan is a result of the decline in
income tax revenues that would fall 4 billion NIS in 2008,
5.6 billion in 2009, and 8.1 billion in 2010. The costs do
not take into consideration the increase in tax revenues that
the government hopes will result from economic growth
stimulated by the reduction in tax rates. The model used to
develop the tax cuts assumes economic growth of about 3.9%,
and real growth in expenditures of 1%. The plan's authors
also note that if economic growth accelerates, it would be
possible to accelerate the tax reduction.

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Reaction
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8. (U) Minister of Finance Netanyahu announced in an
interview on Kol Israel on June 2, that the government is not
planning further cuts in the 2006 budget as part of this
plan. The Governor of the Bank of Israel, Stanley Fischer,
supported the tax plan in testimony before the Finance
Committee on May 30, and noted that it is important that the
plan places emphasis on social welfare, while also reducing
government debt and its high proportion of GDP. He told the
local news media on June 2, that the changes that were made
in the plan prior to the formal presentation are important
because, "we dealt with the problems of poverty without
adding large expenditures."


9. (U) Sever Plotsker, economic editor of Yediot Aharonot,
wrote that the plan has good intentions, but "will not have a
marginal effect on growth and economic activity in the next
two years." Instead of tax cuts, Plotsker posits that
massive investment in infrastructure is a better way to
bolster economic growth in Israel.


10. (C) Gil Bufman, chief economist at Bank Leumi was less
positive about the tax plan. In a conversation with Econoff,
he criticized the plan as slightly regressive, as the highest
tax cuts (as a percentage) are projected for the highest wage
earners. His main concern is that if the government passes
tax cuts to be phased-in over five years, without a safety
mechanism to stem cuts in the event of a setback in economic
growth, the result will inevitably be an increase in deficit
spending. Buffman wryly commented that this is further
evidence of the importance that Netanyahu has placed on
cutting taxes rather than decreasing the debt to GDP ratio.

11. (C) The tax plan will be introduced to the Knesset in
the summer of 2005. Post will monitor and report on its
likely impact on the GOI's budget deficit. The Loan
Guarantee Agreement specifies this figure is to decrease 1/2%
of GDP per year, from a level of 3% in 2006.

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