The Tax Authority’s Position on Blockchain Technology Offerings (ICOs)

The world of digital coins has been increasingly gaining momentum and interest recently, and the Israeli tax authorities (ITA) are also called to express their position on this material issue. In the past few months, the ITA released a draft letter of opinion concerning the taxation aspects related to an initial coin offering (ICO) of digital tokens. Later on, the ITA published a final version to this opinion.

In a nutshell, and without delving deep, it shall be noted that ICO is a method of obtaining funding for business ventures; this method of issuing tokens enables monitoring the transactions made with the tokens mainly by means of a computerized security technology also referred to as Blockchain, which allows secure and encrypted business activity on the internet (cryptography) while verifying business transactions among various parties with no need for a central management entity. The cryptographic tokens issued are kept by its owning users in digital wallets. to this date, there have been several of issuances of different types of cryptographic tokens; the most known of which are Bitcoin and Ether, which are considered to be decentralized tokens that are not issued by one central entity, but rather considered as a sort of “marketable asset” that its value determined in the transactions made between a willing buyer and a willing seller. An additional type of tokens are tokens issued by one entity that represent a right to receive an asset or a financial right, i.e. the right to receive future gains. The third type of tokens that we will examine is issued by one entity and thereby obligate the issuer to provide a service or a right to a future product to the token holder – these tokens have been defined by the ITA as “product and service tokens”.


The mentioned draft addresses only to the third type of tokens – the product and service tokens, and in it the ITA discusses the tax events applicable on the issuing company and the token holders, VAT issues and relevant encouragement laws. The ITA also addresses the issuance of this type of tokens to employees of the issuing company, and determines that tax applicable on such tokens is at the rate of employment income tax, and that the tax event occurs on the date of the allotment, even if the transferability of the tokens is restricted. The amount of the employee’s income will be determined according to the value of the tokens he received on the allotment date. At the same time, the company will be allowed to a tax deduction at the amount taxed by the employee.


Notwithstanding the aforesaid, the ITA was aware of the gap, which is unreasonable in the opinion of several experts, between the tax consequences at the event of options’ grant and on the allotting of such tokens; and the anomaly that may derived upon due to that the employee is taxed for the income already on the allotment date.


Consequently, changes occurred between the mentioned draft and final Opinion published by the ITA.


First and foremost, in the final opinion the ITA has changed its position regarding the tax event date regarding the tokens allotment and has determined, in brief, that the tax event may be deferred until the date of sale of the tokens, yet still – as Ordinary Income according the marginal tax rate without the possibility of applying the provisions of the capital gains track of Section 102 of the Ordinance to the allotment.


In further detail:

  • In the circular, the ITA addresses the tax implications of the issuance of tokens to employees and service providers, and prescribes an identical rule for both these populations, contrary, of course, to the allotment of “ordinary” options/stock, wherein employees are entitled to generous tax benefits relative to other service providers.
  • The ITA determines two alternatives for the taxation of such employees’ and service providers’ income:
    a. The default is that the tax event will be deferred until the date on which the tokens leave the employees’ possession (or on which the right entailed by the token is exercised), including by way of converting the received tokens into other decentralized tokens (the “Disposition Date”). At such time, the tax event will occur and the income will be taxed as Ordinary Income or as income derived from business/occupation, as applicable, in the amount of the Fair Market Value of the tokens at such time, net of the price paid by the employee for the allotment of the tokens, if any.
    b. The company will be able to choose in advance that the income of the employees and the service providers from the allotment of the tokens will be taxable already on the date of allotment as Ordinary Income or as income from a business/occupation, as applicable, and on the date of actual disposition of the tokens, the additional increase in value, if any, will be liable for capital gains tax.
  • A company that elects to implement the second alternative is required to give notice thereof to the Tax Assessing Officer at least 60 days before the allotment date. This alternative will apply to all token offerings carried out over the course of that year and the following year, and at the end of this period, it may notify the Tax Assessing Officer that it chooses the other alternative, and such choice will again be fixed for the next said period.
  • The Fair Market Value of the tokens for the purpose of determining the amount of the income on the date of the tax event will be determined according to their average value on the 30 trading days that follow the date of the tax event.


The final opinion also provides provisions relating to the manner and timing of the company’s recording of the expense for tax purposes as a result of disposition of tokens by employees, tax withholding, and so forth.


Thus, the ITA has begun to establish taxation rules for token allotments to employees and service providers, and established a tax track that qualifies a deferral for the tax event until the date when money actually “exchanges hands” similarly to the tax deferral in Section 102 of the Ordinance, however without the tax rate reduction in the capital gains track of Section 102.


Still, we believe that the last word on this fascinating subject has yet to be spoken.


We shall continue to apprise of the Tax Authority’s instructions on this interesting matter.

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