In previous articles, we explored how Israeli companies often struggle to comply with U.S. labor laws and explained how to properly protect intellectual property and patents. Now, we turn our attention to one of the more problematic — yet less understood — risks facing Israeli businesses operating in the U.S.: tax liability.
The complexity of the American tax system often catches foreign businesses off guard. A lack of understanding of U.S. tax rules can lead to audits, fines, and even criminal exposure, as tax violations in the U.S. are severely punished.
Unlike Israel’s unified tax system, where the Israel Tax Authority oversees all tax collection, the U.S. operates under a three-tier system — federal, state, and local. Each level has its own rules, tax rates, and enforcement agencies. Many Israeli companies mistakenly assume that tax liability in the U.S. applies only to companies with a certain legal status or business volume. In reality, even a sales representative, a warehouse, or a software server located in the U.S. can trigger tax liability.
For example, consider the case of an Israeli hardware manufacturer that sold directly to American customers via a logistics partner based in Miami. The Israeli company had no offices or employees in the U.S. and assumed that this protected it from U.S. tax exposure. However, the Florida Department of Revenue determined that the company had created a “nexus” by storing goods in the state and was therefore liable for state taxes, including retroactively on past activity.
Tax issues for Israeli companies in the U.S. often stem from an underestimation by Israeli entrepreneurs of what constitutes a “tax nexus.” Many rely on Israeli accountants who typically lack sufficient familiarity with the intricate corporate and state tax laws in the U.S.
Moreover, a common mistake among Israeli businesses is the formation of an LLC (Limited Liability Company) in the U.S., assuming it to be a simple and safe structure. However, many fail to understand the LLC’s tax model — known as “flow-through” taxation. This means that, unlike traditional corporations that pay taxes themselves, an LLC’s profits and losses pass directly to the company’s owners, who are then personally liable for taxes both in the U.S. and in Israel. This lack of awareness can result in unpleasant surprises and costly, unforeseen tax liabilities. Understanding the local rules is therefore essential to avoid such mistakes.
These tax risks can often be avoided, for example, by using a C-Corporation structure for U.S. operations. This structure separates the company’s tax obligations from those of its owners and can reduce personal exposure. In addition, it is advisable to conduct a nexus review to determine in which U.S. states the company has tax obligations, based on where business activities occur. Consulting a U.S. tax advisor or certified public accountant before establishing a U.S. entity or signing binding contracts is also strongly recommended.
Operating in the U.S. market requires a deep understanding of local laws and regulations. When Israeli companies proactively address employment issues, protect their intellectual property rights, and ensure full compliance with tax laws, they significantly reduce risks and can focus more effectively on growth. Proper tax planning and advance preparation can offer strategic tax advantages and are critical to avoiding costly surprises.
Legal Disclaimer: This article does not constitute legal or tax advice. Its purpose is to raise awareness of compliance issues in the U.S. Israeli businesses should consult qualified legal and tax professionals in the U.S. for guidance specific to their operations.
Michael Ehrenstein, Esq. is the managing partner of the American law firm Ehrenstein|Sager, which specializes in commercial law, high-risk litigation, and international arbitration.