Reporting options for residential rental income
Residential rental income is taxable under Israel income tax (paragraph (6)2. And individual receiving residential rental income has three (3) options for tax recognition.
- Residential rental income exemption.
- Income tax law 122.
- Standard reporting under Income tax law (6)2.
First option: Residential rental income exemption
Israel income tax law provides for an exemption for rental income derived from a residence held for rent up to a ceiling of 60,960 NIS (5,080 NIS/month) as of 2014. There is only one ceiling for the total accumulated residential rent income from all properties. Should the total accumulated rental income from all residential properties exceed the above statutory amount (60,960), the ceiling is reduced by the total amount of excess. Accordingly, the exemption is reduced to zero (0) when the sum total of all residential rental income from all residential properties reaches and exceeds. 121,920 NIS per year.
Residential rental income is considered passive income subject to a minimum tax rate of 31% to the individual taxpayer. The exemption and corresponding ceiling reduction is based upon gross rental receipts. For the purposes of this exemption, no expenditures are deductible from gross rental income.
Rental income from residential property rented for use in a commercial activity do not qualify for this exemption. This distinction is important to bear in mind when calculating rental income from multiple properties; some held for residence and others for a commercial purpose.
Second option: Tax law 122
An individual with rental income from properties held for residence that is less than rents from properties held for commerce may opt to pay, by January 31 following the tax year, a flat tax rate of 10% on all rental income derived from all properties; whether they be held for residential or commercial use. No expenditures are deductible against gross rent income for the purpose of this law. There is no ceiling on the rents taxable at this rate. All of the residential properties must be located within the State of Israel and must be rented only for residential use. One is advised to use this option only when rents are significantly higher than the ceiling mentioned in the first option.
Third option: Regular reporting under (6)2
The taxpayer is also allowed to recognize rental income from residential use properties in the same way as rents from commercial use properties. Unlike options #1 and #2 above, the taxpayer can deduct from gross rents depreciation and other expenses directly related to the generation of the rental income. Depreciation is calculated between 2% and 4%, depending upon the type of property and construction type. Also, the depreciable base is one third (1/3) of the total cost of the building and the land upon which it is built.
Other qualifying expenses include mortgage interest on the property purchase loan, rental expenses such as agents, legal, repairs and adjuster. Rental income is considered passive and is subject to a minimum individual tax of 31%.
The taxpayer is permitted to change rental recognition methods annually in order to obtain the maximum tax consequence related to the taxpayer’s circumstances.
Reporting options for rental income from residential use properties located outside of Israel
An individual resident of Israel deriving rental income from properties either held for residential or commercial use outside of Israel, may choose to report said rental income in one of two ways:
- Under tax law paragraph 122 א.'
- Regular reporting under tax law paragraph (6)2.
First option: Pay 15% tax on rental income
Under this option, the taxpayer pays Israeli tax of 15% on all foreign derived rental income without reference to the taxpayer’s effective tax rate. The tax payer may deduct only depreciation under this option and does not qualify for an Israel tax credit for foreign taxes paid relative to this property.
Second option: Pay minimum level income tax
Another possibility is to report foreign derived rental income under the provisions of (6)2 and deduct all expenses related to maintaining and deriving the rental income from the property. The net rental income will be taxed at the taxpayer’s base effective tax rate, at least 31%. In the event that the taxpayer must pay foreign taxes on the rental income from this property, the taxpayer will receive an Israel tax credit (up to the Israeli tax liability) for foreign taxes paid.
Here, too, the taxpayer is permitted to change rental recognition methods annually in order to obtain the maximum tax consequence related to the taxpayer’s circumstances.