The tax authorities (ITA) have recently published final versions of two professional Circulars, entitled Circular 11/2018 and Circular 12/2018, stating the ITA’s expected profit levels for marketing services and for low-risk distributorship activities carried out in Israel by Multinational Entities (“MNE”), as well as providing guidance on non-value-added services.

Circular 11/2018 takes into account certain typical international auxiliary group activities and identifies transfer pricing methods appropriate for determining the proper remuneration for tax purposes. It applies to the local Israeli group company. It provides details about the expected transfer pricing methods to be used for different distributorship and marketing services transactions performed by an MNE in Israel through a related party. This circular does not present any new paradigms or transfer pricing methods and reiterates the differences between applying the Transactional Net Margin Method (TNMM) on marketing services and/or on distributorship activity, and the required application of the customary Functions, Assets, and Risks analysis (“FAR”), in order to resolve the nature of the activities carried out in Israel by the subsidiary of the MNE. It also explains the differences between a full-fledged distributor and a low-risk distributor, and the provision of marketing services. The circular also mentions to the profit-split method, which may be applicable in certain distributorship models such as a full-fledged distributor (and to certain R&D or marketing services, pending, inter alia, the FAR analysis).

Circular 12/2018 provides TP safe harbor and eases TP reporting requirements with respect to income from certain activities and services for a foreign related company by an Israeli tax payer. This circular adopts Section 61.7 of the guidelines that states that services that add a low value will result directly in operating profitability in an amount equal to the total expenses involved in their production and indirectly, including expenses that should have been required in accordance with generally accepted accounting principles. In accordance with the OCED rules, this Circular adopts the 5% markup for low-value-added services. ITA applies the safe harbor of this Circular 12/2018 on low value-adding intra-group services when operating margin resulting from the marketing support services ranges from 10% to 12% of the total expenses incurred in provision of the service. In case of where the Israeli business or entity continues the distribution activity, multiplied by 3% to 4%, the safe harbor would apply to a low risk distributor and operational profitability should be reduced from total sales turnover in the markets.