Tuesday, March 2, 2010

Freelancer in Israel – What does it Mean?

People in Israel typically consider the freelance (contractor, self-employed) issue in one of these situations:


  • They are offered a job as a freelancer, and want to know what to do to be able to accept such payments
  • They are offered a job as a freelancer, and need to understand how the offer compares to the compensation of something they understand better: a traditional employee
  • They are offered the option by an organization to work as a freelancer or as an employee, and must decide which is best of them (this is relatively rare)
I will start (and end!) with a disclaimer:

This issue is possible to discuss generally, however it is dangerous to think that you have a full understanding of the issues without consultations with the relevant financial (accountant, investment, insurance) professionals.

Definitions:


  • Freelancer - someone that provides a service to a company (works), presents a bill, and is subsequently paid by the company. The freelancer is responsible for paying taxes, social security, health… themselves from the total amount that they receive, as well as contributing to savings/insurance/disability/pension plans if desired. In order to be eligible to operate as a contractor, a person must register with the relevant government organizations: VAT, Mas Hachnasa (tax) and Bituach Leumi (social security).
  • Employee - provides service to the company (works), but their compensation comes without requiring a bill to be presented; the employer makes standard deductions (tax, social security and health) before transmitting compensation (neto) and has specific legal obligations to the employee (pension, vacation, sick leave, severance pay [pitzuim]).
Before discussing the issues of freelancer’s compensation, it is important to understand the there is a solution available for those that are interested in accepting a contractor position, but do not want to invest the time, and effort to go through the process of registering as self-employed with the government authorities. That is, to enroll with a company that serves as your proxy for the transaction, acting to the actual employer as a contractor and presenting the relevant bills, and serving as the individual’s employer, meaning that the individual is still an employee (of the proxy company rather than the real employer) for legal and administrative purposes. A company that I am familiar with charges a one-time set-up fee of 300 NIS, and then 7% of the amount transmitted by the actual employer.

Back to the subject at hand, the gross amount paid to an employee before taxes (bruto) and the gross amount paid to a contractor can not be understood and compared as equivalent. From the perspective of certain deductions, such as tax and health, they are financially identical - the only difference being that in the case of an employee the company makes these deductions before transferring the money, and in the case of the contractor the money is transferred without deductions and the freelancer must handle this themselves. Still, the after-tax (netto) amount of money is the same.

However, companies are obligated by law to offer to their employees vacation (minimum 10 days/year), sick leave (minimum 18 days/year), pension (2.5% minimum in 2010), and severance pay (equal to 8.3%/month), things with a monetary value; these are not generally provided to a contractor. Social security is a kind of hybrid in that employers deduct a portion of the gross/bruto pay as well as make a required contribution of 6% for their employees; contractors must make this payment themselves and do not get this extra 6%. In addition, some businesses offer additional benefits, such as a variety of savings/pension plans in addition to the obligatory (and minimal) pension plan; again these are typically not provided to contractors.

So, when you are considering an offer as a freelancer, these points are relevant:


  • In terms of standard deductions (health, tax), consider the contractor gross amount to be financially identical to the bruto (before tax) amount of an employer
  • To make the contractor amount comparable with the bruto employee total, about 25% needs to be added, which accounts for the social security, minimum vacation, sick leave, and pension obligations of a company towards employees, plus severance pay – a contractor does not receive this from the employer. You can think of the situation like this: if a freelancer wants the same benefits as an employee of the company at the same pay structure, he/she will have to pay about 25% of the received compensation. Speak to an accountant to relate this to your personal situation.
  • For hi-tech companies and professional roles, it is not unusual to be offered employee savings/pension plans in addition to the relatively low level mandatory pension plan. The standard package can come to an additional company contribution of 12.5% or more. For such an opportunity, generally a contractor should add in the range of 35+% to the gross salary of an employee to arrive at the equivalent compensation. The 35% is derived from the lack of savings, pension, severance company contributions together with the lack of vacation/sick leave/disability insurance. It is sometimes possible to negotiate up if you can make the argument that as a contractor, the company doesn't have to pay for a room for you, PC... if this really is the case. Again, keep in mind that this is a rough estimate, and you should consult with an accountant to understand as this relates to your specific case.
Note: A self-employed (contractor, freelance) US citizen in Israel has a kind of double taxation, being required to pay the Israeli bituach leumi (social security, like all Israelis), and also having to pay 14.1% to US social security. Obviously, this social security issue makes the freelance option less attractive to US citizens. While this point is not attributable to the employer and thus may not be useful to you in terms of a negotiation, it is a real cost and therefore a factor in your decision.

Another difference between working as an employee and as a contractor relates to unemployment benefits. If an employee is laid off and the employer writes them a letter, they are eligible to receive unemployment benefits (assuming specific conditions are met); there is no such provision for a contractor. Please note that for people going the proxy company route, unemployment benefits are also not available to you.

In order to be complete, there are other costs associated with working as a contractors/freelance that don’t exist for a regular employee. First, there are one-time costs to complete the paperwork so that you can operate legally in Israel as a freelancer. There is no charge by the government organizations to submit/process these forms; if you decide to use an accountant for assistance with the forms it generally costs 1,000-1,500 NIS. This process generally takes less than a week. Also, certain professions and businesses may require certificates and/or licensing from other governmental agencies in order to work as a contractor. In addition, you must pay an accountant to file the relevant tax forms. There are potential benefits to the freelance mode of operation in that you can deduct certain expenses, such as car, utilities…

This article is in no way meant to substitute for consulting with a qualified financial professional, including an accountant, investment advisor and/or insurance agent, in order to fully understand the options specific to your situation. Hopefully though, it does give a good initial overall picture of the details to consider and the questions to ask when going through the process.

Special thanks to Boaz Felsenstein and Don Shrensky for reviewing this article and making critical comments. Boaz is an experienced recruiter specializing in the hi-tech sector, and he can be reached at: boaz.felsenstein@gmail.com. Don is a US & Israeli CPA, and can be reached in Jerusalem at don@dscpa-israel.com.

14 comments:

  1. Thank you, Ron for a great, clear explanation. I think this will really help me. And by the way, Don Shrensky has also been very kind to me to as a new olah and even before, when aliyah was still a dream to be realized. It doesn't surprise me at all to hear he took the time to review your post and it is good to know that a knowledgeable CPA has given it "the once over."

    ReplyDelete
  2. Ron, excellent post as always. I would, however, like to point out that while having to pay "double taxation" re US Social Security, in the long run it's very worth while, since you get a much better pension than Bituach Leumi.

    Also worth noting is that even though in the past year Social Security is trying to deduct pensioner's Bituach Leumi payments, this is not legal and may be fought successfully.



    Cordially,
    Nettie Feldman, host
    Afternoon Shmooze Internet radio show www.rustymikeradio.com
    email: nettie@rustymikeradio.com
    Podcasts http://bit.ly/13R2Lx
    Afternoon Shmooze in the News: http://bit.ly/8wBs9Z

    ReplyDelete
  3. Another point -- many people who have freelance work and do not want to open a file with VAT,etc. can go through an agency who will write the receipt and convert it into a salary. This involves paying fees but saves hassles, especially if someone goes back to being salary-employed.

    ReplyDelete
  4. Very helpful info. To date my freelance has been with US non-profits & haven't had to deal with MAS in Israel. I've been offered a small project here in Israel & opening a file with VAT for 1,500 NIS is not something I want to do for possibly a one-time client. Can anyone give more info. about the agencies Yirmiahu suggested & what kind of fees we're talking about? Thank you!

    ReplyDelete
  5. I was told that if you work as a freelancer and have your payment converted to a salary by an agency, you cannot use the transaction voucher issued by the agency to claim unemployment on completion of the project. I this true? If so, it is something to bear in mind before taking up a contract.

    ReplyDelete
  6. Thanks for all of the feedback. Some responses:

    Netty - I am not sure if the general consensus is that contributing to US social security is a wise investment. For people that are short some quarters (a minimum of 40 quarters [10 years] is required to qualify for social security), then this might be a good way to make contributions and ultimately qualify. For those far from qualification, I don't know if there is any reason to contribute if you don't absolutely have to. And for those already over the 40 quarter minimum, I am not sure that financial advisors would make the argument that additional social security contributions are the best investment vehicle. Certainly you could expect to get something back based upon additional contributions, but the calculation is quite dependent upon the individual's particular situation.

    Yirmiyahu - You are absolutely correct. I alluded to this in the article, referring to the proxy company.

    Gil - I checked and found that the 1000-1500 NIS set-up fee is the typical fee charged by accountants to assist their clients in registering. There is no fee charged by the government organizations themselves, so that if you are comfortable completing the forms on your own, there would be no fee to you. I have updated the article to reflect this. Sorry for the confusion.

    Debbie - I will try to get some clarification.

    ReplyDelete
  7. Thanks for the useful information,
    since I'm starting my way as a freelancer but in the same time I will keep my old employment until I will have enough income as a freelancer.

    Will you be kind and list proxy companies here in Israel?


    Ron

    ReplyDelete
  8. Debbie, according to my CPA contact Don Shrensky, you are absolutely correct. Neither a freelancer, nor someone that is working in the proxy/agency employee administrative mode of operation, is eligible for unemployment benefits.

    ReplyDelete
  9. Nettie, can you pls. explain a bit more about US SS deducting Bituach Leumi (benefits?)? Are you referring to the time when a person is receiving US SS and SS is giving less due to the pensioner having Bituach Leumi? Thanks, Michele

    ReplyDelete
  10. Ron, thank you for the clarification. I was wondering if someone could provide a list of some proxy agencies. My understanding is that they will provide a receipt & conversion into salary. Thank you!

    ReplyDelete
  11. Thank you, this was very beneficial. I was looking for some information about the subject in English and this is the first site that popped up during my search.

    ReplyDelete
  12. Does anyone know if it is possible to file the forms via the internet? If so, anyone have a link?

    ReplyDelete
  13. This comment has been removed by a blog administrator.

    ReplyDelete
  14. I know this is an old post, but as people doing a Google search may still find it, I feel compelled to state something regarding the 3rd paragraph. Based on somewhat recent court rulings, the solution provided may no longer be legal. The courts have ruled that you can't be an employee just because it is more convenient for you. I believe it is still being fought in the courts, but people trying this solution (which as far as I know is still be offered) may end up paying unexpected sums for back Bitu'ach Leumi and interest.

    ReplyDelete