How an Australian Inventor Recovered NIS 240,000 in Over-Withheld Israeli Royalty Tax

Result: NIS 240,000 (about AUD 100,000) of over-withheld tax recovered; future royalties now taxed at the 5% treaty rate · Timeline: roughly 5 months from claim to refund · Challenge: Default 25% withholding applied and an ITA query over whether the payments were really royalties · Authority: Israel Tax Authority International Taxation Division, Australian Taxation Office · Financial Impact: NIS 240,000 recovered, with a 20-point rate reduction locked in for future distributions

Background

An engineer in Melbourne had spent the better part of his career developing a niche piece of industrial technology. Years earlier he had patented it, and a mid-sized Israeli company had licensed the patent to build it into their own product line. The arrangement was straightforward on paper. The Israeli company paid him a royalty on sales, twice a year, into his Australian bank account.

What he noticed, eventually, was how little arrived. The Israeli company's finance department was deducting 25 percent from each payment before sending the balance. Over two years the royalties came to roughly NIS 1.2M, about AUD 500,000, and NIS 300,000 of that had been withheld and paid to the Israel Tax Authority. He had assumed this was simply the cost of doing business with an overseas licensee, and he had been declaring the net figure to the Australian Taxation Office without thinking much more about it.

His Australian accountant was the one who paused. Australia and Israel, she pointed out, had signed a tax treaty. Was anyone applying it? Nobody was. That single question was worth a great deal of money.

The Challenge

The Israeli company had done what most payers do by default. Under Section 170 of the Income Tax Ordinance 1961, royalties paid to a non-resident are subject to withholding at source, and absent a treaty certificate the rate applied to an individual is 25 percent. There was nothing irregular in the deduction itself. The irregularity was that the treaty had been ignored.

The Australia-Israel Double Taxation Convention has been in force since 1 January 2020. Under Article 12, withholding on royalties paid to a beneficial owner resident in the other country is capped at 5 percent of the gross amount. That is an unusually low ceiling, and it was designed precisely for cross-border technology and intellectual-property income of this kind. The gap between the 25 percent applied and the 5 percent the treaty allowed was 20 percentage points, which on NIS 1.2M of royalties came to NIS 240,000.

Recovering that was not automatic, and there was a wrinkle. When we opened the refund claim, the ITA's International Taxation Division raised a question that comes up often in these files: were these payments genuinely royalties for the use of a patent, or were they partly consulting fees for the engineer's ongoing involvement? The distinction matters, because the 5 percent cap in Article 12 applies to royalties, and a payment recharacterised as something else would fall under a different article and a different rate. The answer turned on the documents.

In Practice: Under Section 170 of the Income Tax Ordinance 1961, royalties paid by an Israeli company to a non-resident individual are withheld at 25 percent at source unless a treaty certificate reduces the rate. Article 12 of the Australia-Israel Double Taxation Convention, in force since 1 January 2020, caps source-country withholding on royalties at 5 percent of the gross amount. On royalties of NIS 1.2M the difference is NIS 240,000. The reduced rate is obtained prospectively on Form 2402 from the Israel Tax Authority International Taxation Division, filed at least 30 days before a payment is due.

What We Did

The first job was to obtain an Australian certificate of residency from the ATO confirming the engineer was an Australian tax resident for the relevant years. The ATO issues these for residents with a clean filing history, and it is the document that unlocks treaty relief on the Israeli side.

With that in hand, we filed a treaty-based refund claim with the ITA International Taxation Division in Jerusalem. The claim packaged the residency certificate, the ITA withholding vouchers (Form 867) showing the NIS 300,000 deducted, and a beneficial-ownership declaration confirming the engineer himself, not a company or nominee, received the royalties.

The characterisation question we answered with evidence rather than argument. We produced the licence agreement, which described the payments as royalties for the use of the patented technology and tied them to a percentage of the licensee's sales, and the patent registration confirming the engineer owned the intellectual property being licensed. A royalty that floats with the licensee's sales and flows from a registered patent is a royalty, not a consulting fee, and once the ITA reviewer saw the contract the query closed.

We did not stop at the refund. Going forward, the engineer expected royalties to continue and to grow. A one-time recovery would leave the same problem to recur on every future payment. So we filed a prospective Form 2402, the standing approval that instructs the Israeli company to withhold at the 5 percent treaty rate at source, without a fresh application before each distribution.

In Practice: Article 12 of the Australia-Israel Convention applies its 5 percent cap only to genuine royalties, and only where the Australian resident is the beneficial owner, so the ITA International Taxation Division can and does test both points. We confirmed the royalty character with the licence agreement and the patent registration. The treaty-refund claim, supported by the ATO residency certificate, recovered NIS 240,000, and the ITA closed its review in roughly five months. A treaty refund must be claimed within the limitation period, so royalties withheld several years ago should be checked before the window closes.

The Outcome

The ITA refunded NIS 240,000, about AUD 100,000, to the engineer's Australian account by international transfer roughly five months after we filed. The prospective Form 2402 approval is now in place, so the Israeli company withholds 5 percent on each subsequent royalty payment and the engineer receives the correct net amount immediately, with no refund cycle to run.

The Australian side needed tidying too. Royalties from Israel are assessable income in Australia and belong on the engineer's Australian return at the gross figure, not the net amount that lands in his account. We coordinated with his accountant so the 5 percent Israeli tax is claimed as a Foreign Income Tax Offset, which credits the Israeli tax against the Australian tax on the same income and removes the double charge. For the wider picture of how the two systems interact, our guide to the Australia-Israel tax treaty walks through dividends, interest, and royalties in turn.

The lesson the engineer drew was a practical one. He had been quietly overpaying for two years on income he had earned and reported honestly, simply because no one in the payment chain had asked whether a treaty applied. The cost of finding out was a fraction of what it recovered.

Key Takeaways

What this case illustrates for Australian residents with Israeli-source royalties:

1. Israeli withholding on royalties defaults to 25 percent. The 5 percent treaty rate under Article 12 does not apply by itself, someone has to claim it.
2. The Australia-Israel treaty caps royalty withholding at 5 percent, one of the lowest rates available, which makes the difference on technology and IP income substantial.
3. Expect a characterisation check. The ITA may ask whether the payment is a royalty or a consulting fee, and the licence agreement and patent registration are what settle it.
4. A standing Form 2402 approval fixes the problem at source. Without it, the over-withholding repeats on every payment and you live on the refund cycle.
5. Report the gross royalty in Australia and claim the Foreign Income Tax Offset. Declaring only the net amount that arrives creates a mismatch the ATO will eventually notice.

---

Facing a Similar Situation?

If you receive royalties, dividends, or other income from Israel and the withholding looks high, the treaty rate is often being missed. We recover what has been over-withheld and put a standing approval in place so the correct rate applies to every future payment.

Contact us for a confidential consultation about your Israeli tax matter.