First Court Ruling on Taxation of “Deferred Compensation”

On March 11, 2026, the Tel Aviv District Court (Hon. Judge Magen Altuvia) issued a judgment in several appeals filed by companies in the SAP group, represented by our firm, concerning withholding tax assessments for tax years 2016–2018, relating to the companies’ deferred compensation arrangements with their employees. The court ruled that employer’s deposits to private policies for enhanced severance are taxable employment income at the time of the deposit

Key Facts

The companies offered employees the option to enter into retirement‑oriented employment agreements, designed to increase the amounts available to employees upon retirement. Under these retirement‑oriented agreements, the employee’s current salary was lower relative to the regular employment agreement, while the amount payable upon retirement was higher – all without changing the employer’s total cost.

The companies deposited the retirement‑designated amounts into private policies (not approved provident funds), which were exclusively owned and controlled by the companies. The arrangement was prospective only. Employees could modify their election once a year, with prospective effect only. Employees could receive the policy proceeds solely upon retirement or death, subject to withholding tax applied by the companies upon payment. Employees could not generate any economic benefit from the policy funds until the time of payment.

The Court’s Ruling – Bottom Line

• The Court accepted the position of the Israel Tax Authority, that employer’s deposits to the policies constitute taxable employment income of the employees at the time the deposits are made (and not at the time the funds are received) and are subject to tax withholding at the time of the deposit. The Court reasoned that, in substance, the deposits reflect a transfer of economic value to the employee at the time of the deposit, and that when the employment agreement is modified to a retirement‑oriented agreement, the employee is effectively viewed as having made use of their salary – i.e., having received their salary and chosen to allocate part of it into the policy via the employer. The Court grounded its analysis in concepts such as constructive trust, economic ownership, substance over form, the broad scope of Section 2(2) of the Income Tax Ordinance, and the absence of explicit statutory basis for deferring tax with respect to such private policies (unlike, for example, the statutory deferral under Section 102 or for provident funds or severance pay). The Court further noted, in obiter, that the arrangement could also be viewed as a potentially artificial transaction.
• The Court held that the companies are entitled to deduct the expense for the deposits to the policy at the time of deposit. This applies regardless of any statute of limitations.
• The Court also held that, in calculating the employer’s liability under the withholding assessment, any tax previously paid by employees who redeemed the private policies upon retirement (or death) must be credited and offset.
• Despite rejecting SAP’s substantive position, the Court cancelled the non‑withholding penalty imposed by the Tax Authority. The Court determined that SAP’s position was not baseless and could be understood as a legitimate interpretation of the law, particularly given the prior tax ruling issued on this subject to the Israel Electric Corporation (Tax Ruling no. 8845/18).

Practical Implications

Employers offering deferred compensation arrangements should consider the implications of the ruling for themselves and for their employees, from both tax and labour law perspectives, and on both a fundamental and operational level — including:

• The potential tax exposure for both employers and employees in connection with such arrangements, noting that while withholding assessments are issued to employers, the substantive tax liability is of the employees.
• Whether to continue making deposits to private policies at the election points.
• Review of the existing employment agreements and adjustment of the compensation mechanisms in light of the Court’s determinations.
• It should also be noted that this is the first court ruling on this issue, and that SAP is entitled to file an appeal to the Supreme Court. Additional proceedings on similar matters are also pending, including before the courts.

SAP was represented by our firm, by Attorneys Joseph (Yossi) Ashkenazi, Ofer Granot, Elad Pinchas, and Eldad Chamam, with the support of our Labour and Employment Department.

For your convenience, here is a link to the court’s judgment.

Our Tax and Labour and Employment Departments are at your disposal to examine the implications of the court ruling on your organization.