The Israeli VAT Authority issued a best judgment assessment to an unreported business that had been operating on HaMasger Street.
The Authority estimated the business’s undeclared output VAT based on factors such as the number of rooms, the number of operating shifts, and the price charged to customers.
The legal question was whether, when calculating the VAT assessment, the Authority was also required to take into account the business’s input VAT on expenses incurred in operating the business, including advertising, laundry services, rent, security, and other related operating costs.
The Court held that a best judgment assessment under Sections 76 and 77 of the Value Added Tax Law is a theoretical calculation intended to reflect the actual value added generated by the business. Consequently, the calculation should, in principle, take input VAT into account as well.
However, Section 38(a) of the VAT Law provides that a registered dealer may deduct input VAT only where it is supported by a lawfully issued tax invoice.
The Court noted that these provisions can be interpreted as reflecting two different approaches:
recognizing theoretical input VAT in proportion to the theoretical output VAT assessed; or
recognizing only actual, documented input VAT supported by valid tax invoices.
Because this issue has been the subject of differing interpretations in both case law and academic commentary, the Court adopted a balanced approach. It held that the right to deduct theoretical input VAT is not categorically excluded, although such a deduction was not required under the circumstances of this case.
In addition, the Court allowed the taxpayer to deduct the input VAT reflected in the tax invoices that had been produced, notwithstanding the fact that the taxpayer had not been registered as a dealer for VAT purposes.
Reference: Administrative VAT Appeal (Tel Aviv) 55212-05-12, Lulu Lanyur Mansour v. Director of Value Added Tax, Tel Aviv.
