Securing a grant from the Israel Innovation Authority (IIA) is a major vote of confidence and a critical financial boost for any R&D company. However, the funding comes with a complex set of legal, regulatory, and financial obligations that startup founders must rigorously adhere to. Failure to comply can result in grant revocation, financial penalties, or the required repayment of funds.
The funding comes with a complex set of legal, regulatory, and financial obligations that startup founders must rigorously adhere to.
Here is a comprehensive overview of the principal duties and restrictions imposed on IIA grant recipients:
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Financial and Reporting Obligations
A core component of the IIA framework is the proper use of public funds and full transparency throughout the funded project.
- Designated use: Grant funds must be used exclusively for the approved research and development (R&D) program as detailed in the submitted application and grant agreement.
- Cost recognition: The IIA only recognizes approved costs, primarily direct R&D labor, materials, and specific overhead. Any unapproved expenses are the sole responsibility of the company.
- Reporting and auditing: Companies must submit detailed quarterly/periodic financial reports to the IIA. These reports must be meticulously prepared, often requiring certification by an external accountant, to document the actual R&D expenditure against the approved budget.
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Commitment to the Israeli Economy (Non-Transfer Clause)
The IIA’s primary goal is to foster the Israeli economy. Therefore, the grant carries strict regulations regarding production and R&D location:
- R&D execution: The core R&D activities funded by the grant must be conducted within Israel.
- Production: Generally, the recipient company must commit to manufacturing the product developed with the grant money in Israel for at least five years, unless special approval is obtained.
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Intellectual Property (IP) and Technology Transfer Obligations
The IIA structure creates a complex relationship between the company’s ownership and the public interest in the funded technology.
- Royalty payments (repayment of the grant): The grant is not a loan, but a conditional investment. If the company successfully commercializes the developed technology and generates revenue, it is obligated to pay royalties to the IIA. In addition, royalty payments continue until the principal amount of the grant, plus accrued interest (calculated according to the Israeli CPI), is fully repaid. This repayment obligation is capped at 100% of the grant plus interest, meaning the company does not repay more than it received.
- Transfer restrictions: The product developed with the grant cannot be sold, transferred, or exclusively licensed to a third party (including a parent company or foreign entity) without the prior written consent of the IIA.
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Change of Control and Acquisition Restrictions
The most sensitive and legally complex area for grant recipients involves restrictions on mergers, acquisitions, and technology relocation. When an IIA grant recipient seeks to transfer technology outside Israel as part of an exit or acquisition, any sale of IP developed with the grant must first receive IIA approval. Such approval typically requires one of two payments: repayment of the full grant amount together with interest prior to the closing of the M&A transaction, or payment of a “buy-out” fee in the form of accelerated royalties, which constitutes a penalty calculated based on the IIA’s share of the R&D funding and the value of the transaction. This accelerated-royalty fee may, in certain cases, substantially exceed the original grant amount.
Even if the core IP remains in Israel, a change of control (e.g., a foreign corporation acquires a majority stake in the Israeli company) often triggers IIA notification and approval requirements. Due diligence during M&A often includes a deep dive into IIA compliance to calculate these potential repayment liabilities.
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Conclusion: Navigating the Legal Landscape
- The restrictions and obligations imposed by the IIA are legally binding and non-negotiable. While the grants are essential for fueling innovation, the accompanying duties can create significant friction during crucial corporate milestones, particularly fundraising and exit events.
- Companies that have received IIA funding must prioritize proactive legal counsel to establish proper corporate and IP hygiene from day one, structure shareholder and commercial agreements with IIA obligations in mind, and navigate the due diligence process to minimize unexpected liabilities during M&A.
Seeking expert legal guidance early is the most critical step to ensure full compliance and maximize the company’s valuation during future investment and exit opportunities.
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Adv. Ken Shaked is a partner in the High-Tech Department.
The firm’s High-Tech Department guides high-tech companies during all stages of their development, from concept to IPO and throughout the many challenges and opportunities along the way.