US Tax Reporting When You Inherit Israeli Assets

An American whose mother has died in Tel Aviv expects the worst part to be the tax. She has heard stories about estates being eaten by death duties, and she braces for a bill before she has even seen the apartment or the bank statements. The relief, when it comes, is real: there is no death tax to pay, on either side of the ocean. Then the relief becomes the problem, because the absence of tax convinces her there is nothing to do, and the paperwork she skips carries penalties larger than any tax the estate could have owed.

For a US person inheriting Israeli assets, the headline is genuinely good and the fine print is genuinely dangerous. Nothing about the inheritance itself is taxed. Almost everything about it is reportable, and the IRS penalties for silence are severe. On top of that sits a quieter trap in how Israel and the United States each measure the gain on the property you now own, which can surface years later when you sell.

The Israeli Side: No Death Tax, and No Step-Up

Start in Israel, because that is where the assets are. Israel repealed its Estate Duty Law in 1981 and has levied no inheritance or estate tax since. An estate passes under a succession order (tzav yerusha) or will execution order from the Inheritance Registrar (Rasham HaYerushot), and the heirs collect the assets without any Israeli death tax. Obtaining that order is the practical gateway to everything else, and it is done from abroad through Israeli counsel; our guide for a US executor administering an Israeli estate walks through the mechanics.

What Israel does not do is give heirs a fresh cost basis. This is the point US heirs almost never see coming. When you inherit Israeli real estate, you do not step into a new value dated to your mother's death. You step into her shoes at her original purchase.

In Practice: Under Section 4 of the Real Estate Taxation Law 1963, inheritance is not a "sale," so no betterment tax (mas shevach) and no purchase tax arise on the transfer at death, consistent with Israel having no estate tax since 1981. But under Section 26 of the same law the heir takes the deceased's original acquisition date and value. When the heir later sells, the Israel Tax Authority Real Estate Taxation Office (Misui Mekarkin) computes the gain from what the deceased paid, not from the date-of-death value, at the individual betterment rate of 25% on the real gain. A succession order to release the assets costs NIS 597 (NIS 507 online) plus a NIS 66 publication fee at the Inheritance Registrar and typically takes three to six months.

Hold that fact. It becomes the sharpest cross-border issue later, once we put it next to the US rule.

Form 3520: The Report That Is Not a Tax

Turn to the US side. Receiving an inheritance from a foreign, non-US person is not taxable income to a US heir. The Internal Revenue Code does not treat the bequest as income at all. What it treats as mandatory is the disclosure.

A US person, meaning a citizen, green-card holder, or resident, who receives more than USD 100,000 in gifts or bequests from a non-resident alien or a foreign estate during the year must report it. The instrument is Form 3520, Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts, and the receipt of a foreign inheritance is reported in Part IV. It is filed with the IRS by the due date of your Form 1040, including extensions.

The threshold is aggregate and annual, so several smaller distributions from the same Israeli estate across one year are added together against the USD 100,000 line. Cross it, and the whole amount is reportable, not just the excess.

In Practice: A US heir who receives more than USD 100,000 from an Israeli estate in a year must report it to the IRS on Form 3520, Part IV, by the due date of the Form 1040 including extensions. The return produces no tax, because the inheritance is not US income. Failing to file on time triggers a penalty under IRC §6039F of up to 25% of the amount reported: on a USD 400,000 inheritance, that is a potential USD 100,000 penalty for a missed information return. The IRS can abate the penalty for reasonable cause, but the burden is on the heir to establish it after the fact.

Once the Assets Are Yours: FBAR, FATCA, and PFICs

An Israeli inheritance rarely arrives as a single cheque. It comes as a bank account, a brokerage account, an apartment, sometimes a provident fund (kupat gemel) or a study fund (keren hishtalmut). The moment those Israeli accounts are legally yours, you enter the US foreign-account regime, and it does not wait for you to repatriate anything.

The FBAR, FinCEN Form 114, is due once your foreign financial accounts exceed USD 10,000 in aggregate at any point in the year. It is filed electronically with FinCEN, separately from your tax return, and the USD 10,000 threshold does not care where you live. Form 8938, the FATCA report attached to your Form 1040, follows at higher thresholds: for a US-resident single filer, more than USD 50,000 in specified foreign assets at year-end or USD 75,000 at any time, with the thresholds rising to USD 200,000 and USD 300,000 for a filer living abroad, and doubling for married joint filers.

Then there are the funds. Israeli mutual funds, ETFs, and many provident and study funds are, in US eyes, passive foreign investment companies. Inheriting them can pull you into the PFIC rules and Form 8621, a regime punitive enough that the decision of whether and when to sell an inherited Israeli fund should be made with a US adviser before you touch it, not after.

The Step-Up Mismatch That Surfaces on a Sale

Now put the two systems side by side, because this is where US heirs of Israeli property lose money years after they thought the matter was closed.

For US purposes, you get a step-up. Under IRC §1014, and confirmed for foreign property inherited from a non-US decedent by Revenue Ruling 84-139, the basis of the inherited asset is stepped up to its fair-market value at the date of death. Sell the Israeli apartment the following year for roughly that value, and there is little or no US gain.

Israel, as we saw, gives no step-up. It taxes the betterment from the deceased's original purchase decades ago to your sale price today. So on the same sale, Israel sees a large gain and the United States sees almost none. Israel taxes; the US has little to tax; and the US foreign tax credit that is supposed to prevent double taxation may not fully rescue you, because a credit shelters US tax on the same income, and here the US has hardly taxed the gain at all. The Israeli tax is real and largely uncredited.

In Practice: On a later sale of inherited Israeli real estate, the Israel Tax Authority (Rashut HaMasim) charges betterment tax on the full gain from the deceased's original acquisition value under Section 26 of the Real Estate Taxation Law 1963, at 25% on the real gain for an individual. The US, applying the IRC §1014 step-up to date-of-death value, sees little or no gain and therefore little US tax against which to credit the Israeli tax. The practical defence is a professional valuation of the Israeli property as at the date of death, obtained early, so the US basis is documented, and coordinated US and Israeli advice before any sale so the timing does not make the mismatch worse.

The lesson is not to avoid inheriting Israeli property. It is to price the eventual Israeli tax honestly and to get a date-of-death appraisal while the death is recent and the value is easy to establish. Our article on selling inherited Israeli property as a non-resident covers the sale side in detail.

Getting the Money Out of Israel

Before any of this, the funds have to move, and Israeli banks do not release a deceased person's account on a foreign death certificate alone. They want the Israeli succession order naming the heirs, and for larger sums they will look for tax clearance before wiring abroad. A transfer out of Israel of NIS 1,000,000 or more is routinely reportable by the bank under the anti-money-laundering rules, so a large inheritance moving to a US account is visible on both sides and should be documented, not disguised.

Coordinating the Israeli release with the US filings is the whole game. The succession order, the valuation, the Form 3520, and the first FBAR all have to line up in the same tax year, and they are handled by different professionals in different countries. Someone has to hold the timeline.

Common Mistake

Common Mistake: Assuming that because Israel and the US both charge no death tax, there is nothing to file, and skipping Form 3520. The inheritance is tax-free; the report is not optional. A US heir who receives USD 250,000 from an Israeli estate and files nothing exposes up to USD 62,500 in penalties under IRC §6039F on a return that would have produced zero tax, and often compounds it by missing the first FBAR on the inherited Israeli account. Both are avoidable by filing on time, and painful to fix once the IRS raises them.

Practical Checklist

• Obtain the Israeli succession order or will execution order from the Inheritance Registrar before expecting any Israeli bank to release funds.
• Get a professional valuation of any inherited Israeli real estate as at the date of death, to fix your US step-up basis.
• File Form 3520, Part IV, with your Form 1040 if foreign gifts and bequests for the year exceed USD 100,000.
• File the FBAR (FinCEN Form 114) if your foreign accounts, now including the inherited Israeli ones, exceed USD 10,000 in aggregate.
• Check whether Form 8938 and, for inherited Israeli funds, Form 8621 apply before selling anything.
• Coordinate US and Israeli advisers on the timing of any sale, because the step-up mismatch and the foreign tax credit turn on it.

Speak With an Israeli Attorney

We obtain the Israeli succession order, release inherited Israeli assets to heirs in the United States, and work alongside your US tax adviser so the Form 3520, the FBAR, and the property valuation are all in place before funds move. The Israeli tax on a future sale is often the largest number in the whole matter, and it is far cheaper to plan for than to discover.

Contact us for a confidential initial consultation.