Israeli District Court: In An IP/FAR Tax Case The Burden Of Proof Is On The Taxpayer

Author:Mr Meir Linzen, Yaacov Sharvit, Ofer Granot and Yuval Navot
Profession:Herzog Fox & Neeman

The Tel Aviv District Court recently delivered a decision in a tax appeal of Broadcom (Tax Appeal 17419-02-18), finding that the burden of proof is on the taxpayer regarding whether a transaction has to be treated as an intellectual property sale (as was reported by the taxpayer) or as a business restructuring in which the functions, assets and risks ("FAR") of the taxpayer were sold (as was argued by the Israel Tax Authority).


In 2012, Broadcom acquired the shares of the US parent of an Israeli company for approximately US$200 million. Less than three months later, the Israeli company sold its IP rights to a related Cayman company within the Broadcom group for US$59.5 million. On the same date, the Israeli company also signed two other agreements with Broadcom group companies for the provision of research and development services and marketing and technical support services, both on a cost-plus basis.

The ITA argued that in substance, the transaction was broader than just an IP sale, and included the sale of the FAR of the Israeli company with an aggregate value of NIS879.5 million instead of NIS230 million as reported. Broadcom argued that the signed agreements factually reflected the real transaction. The ITA did not dispute the value of the IP sold. The crux of the dispute was about what was sold, at what value, and how the sold assets should be taxed.

The ITA priced the sale of the FAR, and added a tax gross-up component and a secondary adjustment value. The ITA argued that a tax gross-up is required to value the FAR since the benchmark value of the shares should be equal to the value of the underlying property (the business activity). The secondary adjustment was classified by the ITA as a loan from the Israeli company to the Cayman affiliate (for the amounts that should have been paid to the Israeli company for the FAR, but were not paid), which in turn triggered taxation of the deemed interest payments.

Burden of Proof

The Court rejected the request of Broadcom to shift the burden of proof to the ITA. The Court held that the general rule - that the burden of proof in tax appeals is on the taxpayer - applies also to this case.

Reclassification under Section 86 of the Israeli Income Tax Ordinance (the "Ordinance"). Broadcom argued that the ITA was reclassifying the IP sale transaction by using its power under Section 86 of the Ordinance. Broadcom argued that according to case law, the use of the reclassification power...

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