Israeli Court Rules Bank Guarantee Forfeiture Reduces VAT Liability for Collapsed Contractors
The Tel Aviv District Court, presided by Judge Yardena Sarusi, ruled that the forfeiture of bank guarantees by insolvent construction companies reduces the transaction price and thus the VAT payable, entitling the companies to millions of shekels in VAT refunds. The case involved Ortam Sahar Engineering and its subsidiaries, Malibu and Ortam Sahar Infrastructure, which entered insolvency and liquidation proceedings about a decade ago after failing to fulfill contractual obligations on construction projects. These companies had issued autonomous bank guarantees to clients as performance and warranty bonds, which were later forfeited when the companies defaulted.
The dispute centered on whether the forfeiture of these guarantees constituted a price reduction that would justify VAT refunds. The companies issued credit notes to clients reflecting the reduced transaction price and adjusted their VAT payments accordingly, totaling approximately 12 million shekels. However, the Tel Aviv VAT Commissioner argued that the forfeiture was a compensation payment, not a price adjustment, and thus did not warrant VAT refunds. The Commissioner also claimed the companies failed to properly link credit notes to specific invoices, violating tax record-keeping rules.
Judge Sarusi rejected the tax authority's position, ruling that compensation payments arising from contractual agreements, including forfeiture of guarantees due to non-performance, effectively reduce the transaction price and entitle the companies to VAT refunds. She emphasized that accepting the tax authority's view could result in double taxation. The court also ordered the tax authority to pay 75,000 shekels in legal costs to the insolvent companies.
Legal representatives highlighted the ruling's broad implications for the construction sector and insolvent companies, clarifying when compensation payments should be treated as price reductions for VAT purposes. The decision underscores that such payments reflect adjustments to the agreed transaction price based on actual services rendered. The Israeli Tax Authority stated it is reviewing the ruling before deciding on further action.
