Is Compulsory Return of Rezoned Agricultural Land to the Israel Land Authority an “Expropriation” or an “Ordinary Sale” for Real-Estate Tax Purposes?

Uri Shiloh, Advocate (6 December 2020)[1]

 

Abstract: On 1 December 2020, the Tax Authority published “Real-Estate Tax Circular No. 2/2020: Agricultural Land Rezoning, Decisions 1469/1470 — Termination of Leases and Return of Land to the Israel Land Authority,” concerning Israel Land Council decisions (“ILA”) on changing agricultural land to another use, usually residential or employment, requiring its return in exchange for monetary compensation. The circular clarifies that the first taxable event , the return of rezoned land, is a sale of land rights from the association or lessee to the ILA. However, no relief under section 48C of the Real-Estate Taxation Law is available because both Council decisions and leases originally subjected these rights to return upon rezoning; it is therefore not expropriation. In my view, Council Decision No. 1 provides compensation “for expropriation of the lessee’s right,” while CA 8325/12, State of Israel v. Mehadrin, describes the rezoning clause as unilateral governmental action harming the lessee more than ordinary expropriation. The Tax Authority should therefore change its position and recognize an act equivalent to expropriation.

 

Background

Section 10 of Israel Land Council Decision No. 1 (Land Policy in Israel), dated 17 May 1965, states:

“Agricultural leases shall provide that, upon rezoning to another use, the lease terminates and the land returns to the Israel Land Administration. The holder shall receive compensation for investment in the land and for expropriation of their right, at a rate determined by rules issued by the Council.” (Emphasis added—U.S.)

Council decisions implement the Israel Lands Law. Under the principle of administrative legality, an authority cannot exceed its powers or contradict overriding legislation. Accordingly, we believe the Tax Authority cannot contend that compulsory return of agricultural land following rezoning is not “expropriation.”

General

On 1 December 2020, the Tax Authority published Real-Estate Tax Circular No. 2/2020 on agricultural rezoning, Decisions 1469/1470, lease termination and return of land to the ILA. It concerns Council Decisions 1470 and 1469 (see the Council’s April 2019 decision compilation, chapter 8.18), requiring land rezoned from agriculture, usually to housing or employment, to be returned against monetary compensation.

The Authority explains that upon rezoning and signing a return-and-compensation agreement, the land returns to the ILA and the lessee receives cash and an in-kind development right. This creates two taxable events:

“First taxable event —return of the rezoned land, constituting sale of land rights from the association or lessee to the ILA (the ‘return transaction’).

Second taxable event—the opportunity to acquire land rights without tender in accordance with the plots’ new designation under the rezoning and marketing plan (the ‘allocation plots’). The ILA grants this right to the lessee or its representative (the ‘purchase transaction’).”

Regarding taxation of the first event , the Authority states that it is not expropriation. “The lessee pays land-appreciation tax on all consideration, both cash under the return agreement and the development right’s value. The rate follows section 48A of the Real-Estate Taxation Law. No relief under section 48C is available because Council decisions and leases originally subjected the rights to return upon rezoning; this is therefore not expropriation.”

The Authority relies on judgment 8134/99,  Baruch Vinitsky v. Director of Land Appreciation Tax , dated 31 January 2002, in which the Supreme Court briefly held: “There is no expropriation here. These are contractual acts, not expropriation based on coercive governmental action under an express statutory provision.” Respectfully, we believe the Court erred by disregarding section 10 of Decision No. 1: a compulsory rule with legislative effect requiring every lease to include return upon rezoning against compensation.

We respectfully disagree with denying relief under section 48C.

Given Decision No. 1, the rezoning clause is not a voluntary contractual act. At most, it repeats a legislative rule applicable whether written into the contract or not.

Developments in CA 8325/12, State of Israel v. Mehadrin

In light of the Supreme Court’s later judgment of 5 June 2014 in CA 8325/12, State of Israel, Israel Land Administration v. Mehadrin Ltd.  , the classification as expropriation or ordinary contractual sale should be reconsidered. The ILA appealed a Tel Aviv District Court ruling that it could not add a rezoning clause when extending a lease. Allowing the appeal, the Supreme Court held the addition reasonable given the ILA’s public powers and the express wording of Decision No. 1 of 17 May 1965, which calls compensation for return of land payment “for expropriation of the lessee’s right” in the land.

Justice E. Rubinstein opens with a biblical quotation:

“The land shall not be sold in perpetuity, for the land is Mine” (Leviticus 25:23).

He emphasizes the state’s unilateral sovereign right to determine land use and even prevent the lessee from using it. His reasoning closely parallels the case law on the state’s right to expropriate.

Decision No. 1 specifically establishes compensation “for expropriation of the lessee’s right,” rather than a contractual event anticipated and desired by both parties.

Moreover, CA 8325/12 expressly describes rezoning as unilateral governmental action that harms the lessee more than ordinary expropriation, because return of land “may serve broader and more general public interests than those permitting expropriation, and unlike expropriation may also be guided by economic and utilitarian considerations.” Exercise of the power also requires a genuine national need benefiting the public as a whole, rather than business speculation.

A further reason is that return compensation is determined not by the contract but by a special committee or the court. Unlike ordinary expropriation compensation, it excludes land value and reflects only the lessee’s investment or expected agricultural income lost.

Selected passages follow (emphasis added—U.S.):

“Even without a rezoning clause, the respondents might have been required to surrender the land early, but this infringes their rightand is possible only when conditions justify lawful expropriation by competent authorities: a defined, non-profit-seeking ‘public need’ requiring this particular land (Aharon Namdar, Land Expropriation, pp. 206–207 (2011)), whose objective cannot be achieved through less harmful means. However, rezoning may serve broader and more general public interests than those permitting expropriation, and unlike expropriation may also be guided by economic and utilitarian considerations (Daphne Barak-Erez, ‘A Dunam Here and a Dunam There:  The Israel Land Administration in the Grip of Interests,’ Iyuney Mishpat 21, 613 (1998), hereafter Barak-Erez; Amir Kaminitzky, Long-Term Leasehold, 512 (2011), hereafter Kaminitzky).”

And:

“The balance naturally changes over time. State land supply generally cannot increase, except perhaps through sea reclamation, and new needs arise. To realize the purposes underlying the state’s powers and a land policy best serving the public, the Administration, and previously the Development Authority, must be able to influence land use. This ability is essential to ensure availability for different uses according to changing needs (see Siah Hadash, pp. 53–54; Joshua Weisman, ‘Disguised Privatization of Israel Lands,’ Iyuney Mishpat 21(3), 525, 530 (1998); Kaminitzky, p. 563).”

And:

“Indeed, perpetuating uses no longer economically efficient contradicts the public interest, and the Administration must prevent it when, after thorough examination, it is convinced this serves the nationalinterest.”

Conclusion

“For tax purposes, a transaction’s character is determined by its true economic substance,” not its name or label (CA 6722/99, Tel Aviv VAT Director v. Mishkenot Clal Mediterranean Towers Ltd.; see also CA 6165/04, Ramat Vizhnitz Community Committee and 55 Others v. Haifa Real-Estate Taxation Director). Decision No. 1’s use of “expropriation of a right” and the detailed reasoning in CA 8325/12 establish that compulsory return, even under a lease’s rezoning clause, is unilateral governmental action equivalent to ordinary expropriation, not an anticipated contractual event. Its force derives from Decision No. 1 and the authority’s inherent public powers. Even without a rezoning clause, the competent authority may exercise governmental power to recover the land by expropriating the lessee’s right.

Comparing Vinitsky, CA 8134/99, with contracts adopting the Contracts (General Part) Law and Contracts (Remedies for Breach of Contract) Law, one may argue that the Supreme Court overlooked a distinction when declining to examine the compulsory-return clause. Not every contractual provision reflects negotiated consent. These laws plainly bind parties even without express adoption. Some contractual terms merely quote legal provisions that would apply regardless of inclusion and do not necessarily reflect negotiated intentions.

The Supreme Court’s references to “national interest” and “public interests” in CA 8325/12 also resemble the Land (Acquisition for Public Purposes) Ordinance 1943, unquestionably an expropriation law. Section 3 provides that “if the Minister of Finance, after consulting the advisory committee, considers it necessary or required for any public purpose,” the minister may “acquire ownership of land” (subsection (a)) or “ impose a right of use over land or any restriction on exercising rights connected with ownership, paying such compensation or consideration as may be agreed” (subsection (d)). The Ordinance itself uses contractual language, “compensation as may be agreed,” without changing the expropriatory nature at its heart. A rezoning clause’s compensation provisions therefore do not deprive return of its expropriatory character.

Accordingly, compulsory return by a lessee pursuant to a unilateral ILA instruction, rather than voluntary negotiations, is expropriation of a right and not an ordinary sale.  

We therefore propose amending the circular so that section 48C of the Real-Estate Taxation (Appreciation and Purchase) Law applies to returns ordered unilaterally by the ILA. It provides that “the seller shall receive a credit against the tax payable,” subject to its conditions.

[1] Managing partner, A. Shiloh & Co. Law Offices