TEL AVIV - Israel's online economy rings up hundreds of millions of dollars every year. Yet, global Internet giants like Google, Facebook, Yahoo!, Amazon and eBay are exempt from paying taxes in the country.

For eBay and Amazon, the case is clear: Israelis are importing physical products (books, shoes, clothes) from abroad using the websites. As for Google, Facebook, Yahoo!, or even Microsoft, the situation is not as simple. These companies market to Israeli businesses virtual advertisement space aimed at Israeli consumers -- which raises the question of why they don't pay taxes in Israel.

The ads are distributed by the search engine or across an advertisement network powered by the Internet giants, built on millions of other websites that are not present in the search engine. The combined yearly advertising budget of Google and Facebook in Israel is estimated to be at about 1.5 billion Israeli shekels, or half a billion dollars, which is not subject to the VAT sales tax.

The Internet giants are exempted from taxes thanks to the fact that they are foreign companies that operate in Israel using servers located abroad. The Israeli tax authorities explain that the location of the server is the decisive factor of whether the company is to be taxed or not. However, Israeli courts over the past few years have determined that this factor is anachronistic -- especially when it arises in cases of criminal justice.

This was the case for the gambling website Chandler’s Casino, for which the court ruled that even though the website was based abroad, the decisive element was its targeting the Israeli community in the Hebrew language. The judge, Noga Ohad, even characterized the gambling site’s server being abroad as a way of “hiding.”

Attorney Guy Ofir is actively pushing for a policy of taxing the Internet giants, including Facebook and Google. “If the courts apply legal sovereignty and criminal responsibility for foreigners who enter the virtual territory of Israel by building websites in Hebrew, market in Israel and have direct contact with the Israeli economy, they should also be subject to civil obligations such as paying taxes”, he said.

The tax authorities say they respond to the issue on a case-by-case basis. “Concerning foreign companies that supply services via computers to Israeli citizens, the conventional approach is to examine the area of activity and its connections, rather than the location of the server,” said the tax authorities in response to questions from Calcalist.

This reaction begs the question: what has the tax authority been doing for the past eight years, ever since Adsense, Google’s advertisement network, started operating in Israel? The estimated loss to the country’s public coffers by exempting Google from taxes is at more than $300 million.

Facebook.co.il

The taxation question in the Facebook case is more complex and mysterious. When advertisers buy space on Facebook, they are not being asked to pay VAT. What makes things even more complicated than for Google is the fact that Facebook does not operate from Israel. However, it seems that the social network has opened a Ltd. Company under the name FB Israel Maintenance, with a physical address in Tel Aviv. According to the register of companies, they are under the full ownership of Facebook Ireland. The directors of this company include senior officials at Facebook, like David Spillane, the company's Chief Accounting Officer and Shane Crehan, an Irish citizen who is Head of International Finance at Facebook.

In response to Calcalist, Facebook said that the maintenance company of Facebook in Israel is not functional and the company does not owe sales tax in Israel: "The Herzog, Fox & Ne’eman law office gave us an address for the maintenance of Facebook without any activity in Israel.” Yet Facebook has 17 trademarks in Israel, and even pursues legal procedures in the country. Earlier this year, the company filed a legal claim to the Israeli Internet Association seeking an arbitration ruling on its demand to obtain the rights to the domain name Facebook.co.il.

The case of Google is very similar. It was revealed in the past that the search giant earns $500 million annually with advertising companies around the world -- but does not pay any VAT or income tax because the revenue goes directly to Google Ireland. At the same time, Google holds 137 patents and registered trademarks in Israel.

“It is unthinkable that a foreign company can register 137 trademarks in Israel, and at the same time say it does not have business activity in the country," says Ofir. "If Google uses its trademark in Israel and even protects it, it means the company has a commercial activity and ergo, has to be subject to VAT.” Google refused to comment.