VAT on interest is deemed part of the interest for calculating the maximum allowed interest on a loan

August 25, 2020
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A company borrowed money from another company for a construction project at an interest rate of 16.5% per annum. When it was unable to repay the debt, the borrower contended that the interest rate was higher than allowed by law, and that the VAT applied to the interest rate should be deemed as additional interest.
The Supreme Court held that the interest rate should be reduced to 13% per annum and that the VAT on the interest is considered part of the interest. Israeli law limits the maximum interest that may be charged on a non-bank loan. In case of too high an interest rate, the interest rate is reduced to the maximum allowed under law. ‘Interest’ is defined as any consideration given in connection with a loan and which is an addition to the principal, including brokerage fees and discount fees, whether such are called ‘interest’ or any other name, except for linkage to the foreign exchange rate, the consumer price index or another index published by the Israeli Central Bureau of Statistics. Payment transferred to others may also be considered interest. Although VAT is collected by a business from the consumer and transferred to the State, the VAT law imposes the obligation to pay on the business, even if its actual payment is “rolled over” to the borrower in a credit transaction and is therefore part of the maximum interest.