VAT on Foreign Services — What Must Be Reported?

What is VAT on Foreign Services and Who Does It Apply To?

When discussing international VAT, many people primarily think of product trade — imports and exports. However, over the past decade, with the growth of digital work and online services, VAT on foreign services has become an important topic to understand.

This refers to services sold or purchased by Israeli businesses to/from clients abroad. Examples include: consulting services, graphic design, website development, translation, social media management, online courses, or any other digital service provided remotely.

If you work in such a field — whether you are a self-employed individual, a VAT-exempt business owner or VAT-registered, or a private company — you are obligated to understand these rules. The Israeli tax authority is increasingly scrutinizing the reports of businesses handling foreign services, and incorrect reporting can lead to penalties and interest charges.

The Basic Principle: Where Is VAT on Services Handled?

Unlike physical products, services are treated differently. The general rule is that VAT on services is determined by the location of the client (the "consumer"), not the location of the service provider.

If you are in Israel and sell a service to a client abroad, you generally will not add Israeli VAT. Instead, the client abroad may be liable for VAT in their country (if they are engaged in business) or the service may be wholly exempt from VAT.

The important point is that this depends on the type of client and the type of service. If the client is a business abroad, they are generally exempt from Israeli VAT. If they are a private consumer, guidelines vary by country.

What is worth remembering: you in Israel cannot recover VAT on services you provided to foreign clients (because you did not collect VAT). However, you can recover VAT on your expenses in Israel (office, tools, consulting) that are related to these services.

What Must Be Reported to the Tax Authority?

This is where things get confusing for many people. If you provide services to foreign clients, you must report the income to the Tax Authority — that's clear. But how do you report VAT?

If you are an exempt business person: You do not report VAT at all — neither on foreign services nor on services in Israel. Your exemption covers everything. However, this also means you cannot claim VAT refunds on your purchases.

If you are a licensed business person: You are required to report VAT periodically (monthly or quarterly, depending on your turnover volume). For services provided to foreign clients, you will typically report "0%" — meaning VAT-exempt services. This is called "services provided to foreign operators" or "services provided to a foreign business person". In your report, you will indicate the income but at a VAT rate of 0%.

If you are a private limited company: The same rule applies — services provided to foreign business persons are generally at 0%. You will report this in your periodic VAT return.

The important point: If you reported an incorrect VAT rate (for example, 17% instead of 0%), this could result in VAT adjustment by the Tax Authority, penalties, and interest.

Conditions That Must Be Met to Report 0%

Not every service provided to a foreign client qualifies for a 0% rate. You must prove that the service is actually provided to a "foreign operator" — meaning it is provided to a business person and not to a private consumer.

What does this mean in practice? You must maintain documentation proving that the client is a foreign business person. This can include:

• Their foreign business registration number or tax identification number
• A written declaration from the client stating they are a business person
• A contract indicating that the client is a business person
• Your invoice clearly stating that the service was provided to a foreign business person

If you cannot prove this, the Tax Authority may determine that the service was provided to a private consumer, in which case you must add VAT at a rate of 17%. You will also need to adjust any incorrect VAT you previously reported.

Common mistake: Many business people report 0% without having documentation proving the client is a business person. This carries a high audit risk.

What About Your Purchases for These Services?

This is an important part not to miss: if you are a licensed business operator or a private company, you can recover VAT on your purchases in Israel that are related to services you provided abroad.

Example: You are a self-employed consultant providing consulting services to a company in Germany. To provide the service, you purchase software in Israel at a cost of 500 ILS with VAT of 85 ILS. You can recover the 85 ILS in VAT, even if you report the income at a 0% rate.

This is because the VAT you paid on your purchases (input) is separate from the VAT you report on sales (output). In the case of services to a foreign party at a 0% rate, the output is 0, but the input (the VAT you paid) is still refunded to you.

This means that if you are a licensed business operator or private company with many services provided to foreign parties, you may be in a position of "VAT credit" — meaning the VAT you paid is greater than the VAT you owe to pay. The tax authority will refund you the difference (usually within two to three months).

Common Mistakes Found in Practice

Mistake 1: Incorrect VAT reporting on services to foreign clients. Businesses report 17% instead of 0%, or fail to report the service altogether. When the tax authority examines this, it demands corrections and interest charges. Solution: Review the tax authority's guidelines on "services provided by foreign operators" and ensure you have reported correctly.

Mistake 2: No documentation proving the client is a foreign business operator. You report 0%, but when the tax authority asks "how do you know this is a business operator?", you cannot provide proof. Result: amended reporting and penalties. Solution: Each time you sell a service to a foreign client, keep documentation — contract, client declaration, their tax number.

Mistake 3: Failure to report foreign income at all. Some businesses think that if they didn't report VAT, they also don't need to report income. This is incorrect. Foreign income is income, and reporting it is mandatory even if the VAT rate is 0%.

Mistake 4: Attempting to recover VAT on services that do not qualify as services to a "foreign business operator." You sell a service to a private consumer abroad, you reported 0%, and you attempt to recover VAT on your purchases. The tax authority rejects the refund because the client was not a business operator.

Mistake 5: Failing to update your VAT return when circumstances change. You started working with a foreign client, but you still report as a exempt business (which does not report VAT at all). When the tax authority reviews your file, it sees that you should be a registered business.

Practical Steps: How to Prepare and Report Correctly

Step 1 — Check your business type. Are you an exempt business owner, licensed business owner, or company? This determines how you report. If you are an exempt business owner and want to work with foreign clients, you may need to register as a licensed business owner.

Step 2 — Collect documentation from the foreign client. Before you begin working, request from the client a declaration that they are a business owner (or their tax number abroad). Keep this on file.

Step 3 — Issue invoices clearly. On your invoices, clearly state that the service was provided to a business owner abroad and indicate their location. This is important for documentation purposes.

Step 4 — Report correctly on the VAT return. In your periodic report, enter the services at a 0% rate (if the client is a business owner abroad). If you are a licensed business owner, you will also be able to reclaim VAT on your purchases in Israel.

Step 5 — Keep records. Keep a copy of every VAT return you filed, documentation from the client, invoices, and all correspondence related to the matter. This will help if the tax authority asks questions.

When Should You Contact an Accountant?

If you are facing any of the following situations, it is time to get professional help:

• You are starting to work with foreign clients for the first time. An accountant can verify that you are reporting correctly from the start.
• You are unsure whether your client qualifies for a 0% rate. Every case is different, and it requires examination of the circumstances.
• The Tax Authority has sent you an audit notice or a request for correction. At this point, it is important to obtain professional representation.
• You are considering transitioning from a VAT-exempt business to a VAT-registered business due to foreign operations. This is a major decision with implications for VAT, tax advances, and national insurance.
• You are a large business with many foreign services and foreign collections. In such cases, there are also international reporting considerations and additional obligations that need to be addressed.

Ben Or Kook Accountants handles these matters on a daily basis with freelancers, businesses, and companies in Petah Tikva, Ramat Gan, and the central region. Your first consultation is free of charge — you can explain your situation, and we will help you understand the next steps.

Summary — The Most Important Points

VAT on services to abroad is a subject that confuses many business owners, but if you understand the basic rules, you can avoid costly mistakes.

Remember: Services to a business owner abroad are usually reported at a 0% VAT rate. However, you must prove that the client is actually a business owner. If you are a licensed business owner or a private company, you can claim back VAT on your purchases in Israel that are related to these services. And like any other income, income from abroad must be reported in your annual report.

If you are starting to work with clients abroad or if you are unsure about your reporting, now is the time to get professional help. Ben Or Kook Accountants help business owners and companies in Petah Tikva, Ramat Gan, and the Central Region understand these international issues and report correctly to the tax authority. First consultation meeting at no cost — we are here to help.