Court Ruling on Valuing Restructuring Transactions: Tax Gross-Up, Holdback, and Secondary Adjustments

Multinational companies in Israel that carry out acquisition, sale or restructuring transactions sometimes encounter complex issues relating to transfer prices. According to Israeli law, transactions between related entities must be transparent, priced using reasonable values under the CUP method and refrain from unjustified recognition of future taxes. Although these principles are also reflected in the OECD  guidelines and in the ITA’s directives, recent case law clarifies how these principles should be applied in practice, especially within the context of tax gross-up, holdback payments and secondary adjustments.

At the end of October 2025, the Tel Aviv District Court handed down a precedent-setting ruling in the Hexadite Ltd. v. Tel Aviv Tax Assessor 3 case, which deliberated fundamental issues relating to transfer prices and, in particular, the value of assets in restructuring transactions between related parties: tax gross-up, holdback payments and secondary adjustments.

The factual background: Hexadite 

Hexadite Ltd., a private Israeli cybersecurity research and development company, sold all of its shares to Microsoft for USD 75 million. Shortly after the transaction was consummated, all of Hexadite’s assets and activities (FAR – functions, assets and risks) were transferred to Microsoft as part of the business restructuring.

The dispute with the ITA revolved around the determination of the sale value for tax purposes:

• Should the expected future tax in respect of the sale be recognized as part of the value?
• Should the holdback component (deferred payments to the founders that are contingent upon their remaining employed by the group) be included as part of the consideration?
• Should a secondary adjustment be made and should Microsoft be obligated to pay imputed interest to Hexadite in respect of sums not paid on time and, if so, at what rate?

The ITA determined the sale value at about USD 96 million, which includes tax recognition (gross-up) and the holdback payments, and also calculated a secondary adjustment and charged Hexadite for the imputed interest income from Microsoft.

The legal background: Tax Gross-Up, Holdback, and Secondary Adjustments

The parties are not disputing that the Hexadite share purchase transaction is a transaction between unrelated parties or that the stipulated consideration of USD 75 million reflects Hexadite’s economic value (apart from the dispute regarding the holdback payments). Both parties also agreed that the CUP method, which compares the price of the FAR transferred to Microsoft to the price stipulated in the share purchase transaction, is the best method for evaluating the FAR sale.

The disputes between the parties focused on adjustments that should be made to the price stipulated in the share purchase transaction: whether the expected tax in respect of the sale should be recognized in the FAR valuation, whether the holdback component should be included as part of the consideration, and whether a secondary adjustment should be made in respect of imputed interest.

1. Tax gross-up– should the expected tax on the FAR sale be recognized as part of the value?

According to the ITA, the expected tax on the FAR sale should be recognized, since taxes constitute part of the economic considerations in the transaction according to the OECD  guidelines and ITA Circular 15/2018, which establishes the principles for determining the FAR value in restructuring transactions in multinational groups. The appellant countered that Circular 15/2018 does not refer to tax gross-upat all and, had the ITA believed that tax should be recognized, it would have explicitly included it in the circular (especially due to the fact that the tax gross-upmay increase the value by about 30%). The appellant further argued that the OECD guidelines refer to tax gross-upsolely when applying theoretical valuation methods (such as DCF – discounted cash flow), and not when applying the CUP method, which is the method used by the parties in the transaction.

The CUP method reflects a real transaction between unrelated parties and therefore all economic considerations, including tax, are already taken into account.

The court ruled that the CUP method reflects an actual transaction between unrelated parties and therefore, it is presumed that the parties have considered all economic considerations, including post-transaction tax considerations. On the other hand, the DCF method is a theoretical method based on future cash flow forecasts and, therefore, future taxes can only be recognized as part of the sale value if the DCF method is applied. Accordingly, the court accepted Hexadite’s position and ruled that future tax should not be recognized when determining the sale value according to the CUP method. Within this context, the court emphasized that the ITA’s Circular 15/2018 does not include a provision regarding tax gross-up and therefore, the ITA does not have the authority to “add” such a substantive provision without amending the circular and publishing a new policy. The court also harshly criticized the ITA’s conduct and stated that it is untenable that it changed its policy “in secret,” without publishing a new circular and without enabling taxpayers to prepare accordingly.

2. The holdback component – does the holdback component constitute part of the consideration in a share purchase transaction or a separate payment for the founders’ future work?

The appellant argued that the holdback payments constitute personal bonuses, are not part of the consideration and therefore, should not be included in the sale value. On the other hand,  the ITA argued that the holdback component constitutes an integral part of the consideration, since it derives from the share purchase agreement itself, which applies to all shareholders on a pro rata basis, and guarantees the value of the acquired assets.

The holdback is part of the sale consideration, not a separate payment for work.

The court ruled that the holdback component should be included in the sale value, since it is part of the consideration and is not a separate payment for work. The fact that the holdback payment is contingent on continuation of the work does not change its essence – it is a precondition to realizing the consideration and is not wages for work performed. The value of Hexadite’s FAR including the founders’ commitment to remain is significantly higher than its value without the founders and therefore, the holdback component should be deemed part of the overall consideration.

3. The secondary adjustment – can imputed interest be charged in respect of a secondary adjustment and how should the rate be determined?

The ITA argued that since the appellant did not actually receive the full consideration, imputed interest should apply to the unpaid sums. The appellant countered that there is no legal basis for taxing imputed income; at issue is economic double taxation, and such interest does not reflect actual income. The appellant further argued that even if a secondary adjustment should be made, the interest rate should be far lower, according to the actual interest rates in actual intercompany transactions in the Microsoft Group.

A secondary adjustment applies, but the intercompany interest must be based on actual transaction data.

The court ruled that the secondary adjustment should be made, but the intercompany interest rate should be calculated according to real data from actual transactions between Hexadite and other companies in the Microsoft Group (between 0.1% and 0.25%), and therefore, set the interest rate at only 0.175%. However, the court noted that the ITA’s authority to impose a secondary adjustment under Section 85A of the Income Tax Ordinance should be re-examined in depth.

Once again, the court harshly criticized the ITA’s conduct, ruled that a policy change must be transparently published, and adjudged the ITA to pay the appellant’s costs totalling ILS NIS 150,000.

Summary of the broad implications

The ruling in the Hexadite case constitutes a landmark ruling on the interpretation of transfer price laws in Israel and on the implementation of ITA Circular 15/2018. It sharpens the differentiation between various valuation methods, delineates the ITA’s authority, clarifies how the OECD principles should be applied in restructuring transactions and, inter alia:

• Pursuant to ITA Circular 15/2018, future tax may not be recognized when using the CUP method, and deviations are not allowed.
• Holdback payments should be included as part of the consideration for assets, since they derive from the share purchase agreement and constitute a precondition to realizing the consideration.
• A secondary adjustment should be made, but the interest rate should be determined according to real data on intercompany transactions and not according to a theoretical estimate.

In light of all that stated above, we recommend that clients and multinational companies should re-examine their restructuring transactions and acquisitions and sales of intercompany assets, and should ensure that they conduct their transfer price research according to the principles in this ruling, since they outline how to implement transfer price rules in Israel correctly, consistently and transparently.

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Adv. and CPA Hanna Daher is a partner in our firm’s Tax Department.

Adv. Itiel Shloush is an associate in our firm’s Tax Department.

Barnea Jaffa Lande’s Tax Department has extensive experience advising multinational companies during various acquisition, sale and restructuring transactions. The department’s team provides comprehensive legal advice on all tax aspects pertaining to both commercial activities in Israel and to international transactions, including strategic planning and the creation of optimal tax structures tailored to the unique needs of each client, while complying with the relevant tax laws (including international tax treaties), as well as handling of taxation issues relating to VAT and other indirect taxes.