US embassy cable - 05TELAVIV3991

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 
---------- 
 
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 
------- 
 
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 
----------------- 
 
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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