IsraelLawIsrael's startup ecosystem runs on equity. For companies that cannot match the salaries paid by global technology firms, the ability to offer meaningful stakes in the business is how they attract and keep engineers, product leaders, and executives. But the value of that equity to an employee depends heavily on what percentage disappears to the tax authority when shares are eventually sold.
Section 102 of the Income Tax Ordinance 5721-1961 was introduced in the landmark 2003 tax reform specifically to address this. It creates a structured path through which employee equity grants are taxed at the 25% capital gains rate rather than as ordinary salary income. The trade-off is a mandatory holding period: the options, and the shares issued on their exercise, must stay with an ITA-approved trustee for at least 24 months from the grant date.
For foreign nationals working in Israel — whether on a B/1 work visa, as permanent residents, or as new immigrants (olim chadashim) — Section 102 is the mechanism their Israeli employer uses to structure any equity compensation package. Understanding how it works, what the tracks mean, and what happens if you leave before the 24-month period is complete is essential before you sign an option agreement.
1. What Is Section 102 of the Income Tax Ordinance?
Section 102 (sif 102) is a self-contained provision within the Income Tax Ordinance 5721-1961 that governs the complete tax treatment of employee equity plans in Israel. It applies to:
- Share options (optsia) — the right to buy company shares at a fixed exercise price
- Restricted share units (RSUs) — grants of actual shares that vest over time with no exercise cost
- Restricted shares — shares issued at grant and subject to vesting conditions before the employee can sell
- Share appreciation rights and certain other equity-linked instruments
Before Section 102 existed, employee equity grants in Israel were taxed as ordinary salary income at the point of exercise, at whatever marginal rate applied to the employee at that moment. For a senior engineer earning NIS 40,000 per month who received options with a gain of NIS 500,000 on exercise, that entire gain was taxed at the top bracket. This significantly undermined the purpose of granting equity at all.
Section 102 changed the timing and character of the tax. Instead of the employee holding shares directly, an ITA-approved trustee holds them on the employee's behalf for a qualifying period. This moves the tax event from exercise (ordinary income) to sale after the trustee period (capital gains), provided the rules are followed.
The statute divides into two routes: the trustee route (Section 102(b)) and the non-trustee route (Section 102(c)). Within the trustee route, two tracks are available: capital gains and ordinary income. The employer chooses the track in the Section 102 plan filed with the ITA. Employees within a plan are all on the same track.
Section 102 covers employees and officers only, and not a "controlling shareholder" (broadly, a holder of 10% or more of the company). Equity granted to advisors, consultants, independent contractors, non-employee directors or controlling shareholders falls under Section 3(i) of the Ordinance instead. There is no trustee and no capital gains track: the benefit is generally taxed as ordinary income when the options are exercised, often before any liquidity event. A foreign advisor may then owe Israeli tax and need to file an Israeli return. An advisory agreement should say how withholding will be handled, for example by a net-exercise arrangement in which the company withholds shares to cover the tax.
2. Trustee Route vs. Non-Trustee Route
The first decision any employer makes when setting up an Israeli employee equity plan is which route to use.
The Trustee Route — Section 102(b)
Under the trustee route, options or shares are deposited with an ITA-approved trustee. The trustee must be one approved by the ITA; both bank-affiliated trustee companies and specialist equity-plan trustees serve Israeli companies. The trustee holds the shares for the qualifying period, receives any dividends on the shares, and withholds and remits tax when shares are eventually sold.
The key advantage is the ability to elect the capital gains track, capping tax at 25% on all proceeds. The limitation is the 24-month lock-up from the grant date: during this period, options and shares cannot be sold, pledged, or transferred to the employee without losing the preferential treatment. The employer also receives no tax deduction for compensation paid in shares under the 102(b)(2) capital gains track.
The Non-Trustee Route — Section 102(c)
Under the non-trustee route, options or shares are held directly by the employee rather than through a trustee. There is no lock-up. For options that are not publicly traded, which covers almost all startup grants, the benefit is taxed as ordinary employment income at exercise, on the spread between the exercise price and the share value at that time. That can create a tax bill before the employee has sold anything. The rate is the employee's marginal rate, up to 47% plus the high-income surtax. Only later appreciation is a capital gain. The employer does receive a corresponding tax deduction.
The non-trustee route makes sense only in a narrow set of circumstances: where the employer has significant Israeli taxable income and values the deduction, and where the equity involves RSUs that will vest and be sold quickly so the lock-up would be impractical. For most startup employees receiving options with a multi-year vesting schedule, the trustee route is the right choice.
3. The Capital Gains Track — Section 102(b)(2) in Detail
The capital gains track is the election that covers the vast majority of Israeli startup employees. Here is how the tax calculation works when shares are eventually sold.
The "Grant Price" and What It Means
The Section 102(b)(2) calculation starts from the "grant price" (mechir hahanakha). When options are granted with an exercise price equal to the fair market value of the shares at the grant date — which is the standard approach — the grant price equals the exercise price. If the options are in-the-money at grant, the spread at grant is taxed as ordinary income even under the capital gains track. For a publicly traded company, the reference value is the average share price over the 30 trading days before the grant. This is why experienced Israeli company lawyers insist on granting options at fair market value: it keeps the entire future gain as a capital gain.
How the Tax Is Calculated
Once shares are sold after the qualifying period, the taxable gain is the sale price minus the grant price. The entire resulting amount is taxed at 25%, plus the high-income surtax where the employee's total income exceeds the annual threshold. The trustee withholds tax before releasing any proceeds to the employee. No separate tax filing is needed for this income: withholding at source by the trustee is treated as final.
The 24-Month Qualifying Period
The trustee must hold the options, and any shares issued on their exercise, for at least 24 months from the date of grant, when the options or RSUs are allotted and deposited with the trustee. The clock does not restart at vesting or exercise. An employee granted options in March 2024 can sell from March 2026 onward, even if the options vested and were exercised only a week before the sale. Exercising does not trigger tax on this track, because the shares go straight into the trustee account.
The grant date must be the same in the board resolution, the grant agreement and the trustee's records. Equity platforms sometimes record a different date from the board minutes, or the grant is reported to the trustee late. If the date is later corrected, a sale that looked safe may turn out to fall inside the 24 months. Keep the grant agreement, the plan filing confirmation and the trustee's confirmation of your grant, and check that all three show the same date.
Early Release Before 24 Months
If options or shares are sold, or transferred from the trustee to the employee, before the 24-month period is complete, the capital gains treatment is lost. The benefit is taxed as ordinary employment income at the employee's marginal rate, and the trustee withholds accordingly. Because the trustee carries the withholding responsibility, it will not release shares early without following the ITA rules.
A US software engineer working at a Tel Aviv cybersecurity startup received 10,000 options under a Section 102(b)(2) plan with an exercise price of NIS 5 per share (equal to FMV at the 2023 grant date). In early 2026, the company was acquired at NIS 30 per share. He exercised his vested options immediately before closing, and the resulting 10,000 shares went into his trustee account. Because more than 24 months had passed since the 2023 grant, the exercise date did not matter. The trustee sold the shares at NIS 30 and calculated the gain: NIS 250,000 (proceeds of NIS 300,000 minus the NIS 50,000 exercise cost). Tax withheld at 25%: NIS 62,500. Net proceeds wired to his US bank account: NIS 187,500. Had these options been granted outside a Section 102 structure, the NIS 250,000 gain would have been taxed as ordinary salary income. At his marginal rate of 47%, that would have been NIS 117,500 in tax. The Section 102 structure saved him NIS 55,000 in a single exit event.
4. The Ordinary Income Track — Section 102(b)(1)
The 102(b)(1) track is also a trustee route, with a shorter minimum holding period of 12 months from the grant date, but the tax treatment works very differently.
On this track, the whole benefit (the sale proceeds less the exercise price) is taxed as employment income at the employee's marginal rate, up to 47% plus surtax. There is no capital gains component. The tax is still deferred until the trustee sells or releases the shares. The company receives a tax deduction for the amount taxed as employment income.
The 102(b)(1) track is attractive to Israeli companies with significant taxable profits: the deduction reduces their 23% corporate tax liability on Israeli income. From the employee's perspective, however, it is almost always worse than 102(b)(2). A company that elects 102(b)(1) is transferring part of the tax burden from itself to its employees in exchange for capturing a deduction. High-growth startups with no current taxable income typically elect 102(b)(2) because they have nothing to deduct against. Profitable, mature Israeli companies with positive taxable income sometimes elect 102(b)(1) instead, and employees negotiating compensation in this context should factor the different tax treatment into their total-compensation analysis.
A profitable Israeli manufacturing company granted 5,000 RSUs to its head of R&D — a UK national on an A/5 residency permit — under a 102(b)(1) plan. The shares were sold through the trustee at NIS 20 per share (RSUs carry no exercise cost). Under 102(b)(1), the whole NIS 20 × 5,000 = NIS 100,000 was employment income, taxed at her 47% marginal rate: NIS 47,000 in income tax. The company received a deduction of NIS 100,000 against its corporate income at 23%, saving NIS 23,000 in corporation tax. Had the company elected 102(b)(2) instead, her entire NIS 100,000 gain would have been taxed at 25% = NIS 25,000. The 102(b)(1) election cost her an extra NIS 22,000 in tax compared with what a 102(b)(2) plan on the same grant would have produced. The company structured the plan to serve its own position, at a direct cost to the employee.
5. Grant, Vesting, and the Exercise Process
The lifecycle of a Section 102 option runs from filing the plan with the ITA through to the trustee releasing your proceeds after the qualifying period. Each step has specific legal requirements.
Step 1: The Company Files a Section 102 Plan With the ITA
Before making any grants, the company must file a written Section 102 plan with the ITA Assessing Office (misrad hashlama) in its district. The plan identifies the granting company, the elected track (102(b)(1) or 102(b)(2)), the name of the appointed trustee, and the material terms of the option scheme. The plan must be filed at least 30 days before the first grant date. Late filing does not void a grant, but it can affect which tax treatment applies to shares issued before the plan is effective. Companies typically file 45 to 60 days before the first grant date to allow time for any ITA queries.
Step 2: The Company Appoints an ITA-Approved Trustee
The trustee must be approved by the ITA and named in the plan. An employee cannot choose a different trustee. Bank-affiliated trustee companies and specialist equity-plan trustees both operate in this market, and fees are agreed between the company and the trustee.
Step 3: Options Are Granted to Employees
Each employee receives a written option agreement specifying the number of options, the exercise price, the vesting schedule (four years with a one-year cliff is standard for Israeli startups), the option expiry date (typically seven to ten years from grant), and the Section 102 election. The option agreement must reference the Section 102 plan already on file with the ITA. Within 30 days of each grant, the company notifies the trustee in writing of the grant particulars so the trustee can create a ledger entry for the employee's account.
Step 4: The Employee Exercises and Shares Go to the Trustee
When the employee exercises vested options, they pay the exercise price and receive shares, but the shares are deposited directly with the trustee and not held by the employee. Exercise does not restart the 24-month period, which runs from the original grant date. Until that period ends, the employee is the beneficial owner of the shares but cannot sell, pledge, or transfer them without losing the capital gains treatment.
Step 5: Sale and Tax Withholding
Once the 24-month period is complete, the employee can instruct the trustee to sell. The trustee executes the sale, calculates the 25% tax due on the gain, withholds that amount, remits it to the ITA Assessing Office, and wires the net proceeds to the employee's bank account. No further tax filing is generally required for this income, unless the surtax or other income requires an annual return.
Before any liquidity event, such as an acquisition, an IPO or a secondary sale, register with the trustee directly and complete its know-your-customer checks: passport, Israeli ID or tax number, and bank details for the net proceeds. In a large transaction, hundreds of employees submit documents at once, and an employee who starts late can miss the processing window.
An acquisition creates a timing challenge: acquirers want 100% of the company immediately, but Section 102 shares held in trust cannot legally be sold before the 24-month period is complete without triggering taint. Where the buyer pays in its own shares, the usual solution is a rollover: the acquirer's shares replace the target's shares in the trustee account, and the holding period continues from the original grant date. Whether the swap is tax-neutral depends on how the transaction is structured, and in practice it is usually confirmed in an advance tax ruling (hachlatat misui) from the ITA. Without that ruling, employees can face a tax event at closing. Cash deals are simpler: shares whose 24 months have run are sold at 25%, while the rest are typically paid into the trustee account and released as each employee's 24 months expire. Both the acquirer's legal team and the target's employees need to understand this requirement early in the deal process — it is a standard item in Israeli M&A due diligence checklists and in the representations-and-warranties review.
6. Tax Rules for Foreign Nationals and Non-Residents
Section 102 does not distinguish by nationality. Any employee of a qualifying Israeli employer — regardless of passport or visa type — receives the same treatment under the plan's elected track. But several additional considerations apply to foreign nationals that Israeli citizens do not face.
Israeli Tax Residency
A person is an Israeli tax resident if they spend 183 or more days in Israel in a tax year, or 30 or more days in the current year combined with 425 or more cumulative days across the current and prior two years. Once classified as a resident, the person pays Israeli tax on worldwide income. Section 102 income — the gain on the shares — is Israeli-source income regardless of the employee's residency status when the trustee sells, so even someone who has left Israel will owe Israeli tax on the Section 102 proceeds. The trustee withholds at source before wiring funds abroad, so the ITA collects whether or not the employee ever returns to Israel.
Double Taxation: Home-Country Issues
A US citizen working in Israel owes US tax on the Section 102 gain regardless of what they paid in Israel, because the US taxes its citizens on worldwide income. The US-Israel income tax treaty provides some relief, but US citizens are largely excluded from capital gains treaty benefits under the savings clause. US employees typically file both their Israeli reporting (which confirms the 25% withholding at source) and a Form 1040 reporting the gain, then claim a foreign tax credit for the Israeli tax withheld against their US liability. The timing also differs. The IRS generally treats Section 102 options as nonqualified stock options, taxing the spread at exercise as US ordinary income, while Israel taxes only at sale. Exercise and sale in different years can leave foreign tax credits stranded. A US citizen with a significant grant should get cross-border advice before exercising.
UK and German nationals benefit from more favorable bilateral arrangements. The UK-Israel tax treaty allows the 25% Israeli withholding to be credited against UK capital gains tax. German residents can similarly credit Israeli withholding under the Germany-Israel Double Taxation Agreement. The specific calculation requires an accountant familiar with both jurisdictions — do not assume the treaty credit will eliminate all home-country liability before running the numbers.
New Immigrants and the Section 14 Interaction
New immigrants receive a 10-year exemption from Israeli tax on foreign-source income under Section 14 of the Income Tax Ordinance. This exemption does not apply to Section 102 grants from an Israeli employer for work done in Israel, which produce Israeli-source income. An oleh who receives Section 102 options in their first year in Israel and sells them after the 24-month trustee period pays the same 25% as any other employee on the plan.
Equity granted by a foreign employer before aliyah is different. If options or RSUs granted for work abroad continue to vest after the move, the gain is generally split between foreign-source and Israeli-source portions, based on the share of the vesting period worked abroad and in Israel. The foreign-source portion can fall within the Section 14 exemption. The split is not computed automatically by any trustee or payroll system, so keep records of where you worked during the vesting period and have the allocation prepared before the shares are sold.
Employees on B/1 Work Visas
Foreign nationals working on a B/1 work visa are fully subject to Israeli income tax on their employment income, including equity compensation. If the employee's B/1 visa expires and they leave Israel before the 24-month Section 102 period is complete, the shares remain with the trustee in Israel. When the holding period expires and the employee instructs a sale, the trustee withholds 25% and wires the net proceeds internationally. The physical location of the employee at that point is irrelevant to the ITA's collection of the withholding amount.
A US software architect accepted a position at a Boston company and relocated 18 months after the grant of 8,000 options at NIS 3 per share, which he had already exercised through the company's trustee. When he left Israel, his employer confirmed in writing that the trustee relationship continues for former employees who are no longer in the country. Six months later — when the full 24-month period was reached — the company's shares had been acquired and the trustee processed the sale at NIS 25 per share. Total proceeds: NIS 200,000. Gain: NIS 176,000 (after the NIS 24,000 exercise cost). The trustee withheld NIS 44,000 (25%) and remitted it to the ITA, then wired NIS 156,000 to his US bank account. He reported the income on his US Form 1040 and claimed a foreign tax credit for approximately USD 12,000 (the USD equivalent of NIS 44,000 at the time of payment), which largely offset his US capital gains tax liability on the same proceeds. Had he attempted to withdraw shares from the trustee at month 18 — which the trustee would have refused without ITA approval — the entire gain would have been reclassified as ordinary income taxable at his marginal rate of 47%, costing him an additional NIS 38,720 in tax.
7. Employer Obligations: Setting Up a Section 102 Plan
For any company planning to grant equity to Israeli employees — whether a local startup or a multinational with an Israeli R&D center — the setup process involves mandatory steps with both the ITA and the appointed trustee.
Filing the Section 102 Plan With the ITA
The plan document must identify: the granting company (must be an Israeli tax-resident entity or qualifying subsidiary); the elected track (102(b)(1) or 102(b)(2)); the appointed trustee by name and ITA approval reference; and the eligibility criteria for participants. Submit the plan to the relevant ITA Assessing Office by registered mail or through the ITA's e-services portal at shaam.gov.il at least 30 days before the first grant date. Retain the ITA acknowledgment receipt in every grant file. Companies routinely submit 45 to 60 days in advance to accommodate any ITA requests for clarification.
Executing the Trustee Agreement
The company signs a service agreement with the appointed trustee specifying: the annual fee structure (approximately NIS 200 to 400 per employee per year); the custody mechanics; the trustee's obligation to withhold and remit tax on disposals; and the reporting obligations to the ITA. The trustee agreement is separate from any brokerage account fees charged to employees when shares are eventually sold.
Reporting to the ITA
The company and the trustee have ongoing reporting duties to the ITA on grants made under the plan, under the Income Tax Rules (Tax Relief in Issuing Shares to Employees), 5763-2003. Grants that are not properly reported to the trustee and the ITA risk losing trustee-track treatment.
Foreign Parent Companies: The Israeli Subsidiary Route
A Delaware corporation, UK company, or other foreign entity cannot grant Section 102 options directly over its own shares to Israeli employees. Section 102 requires the granting entity to be an Israeli tax-resident employer. The standard solution is a Section 102 sub-plan under the parent's global equity plan, with the Israeli subsidiary as the granting entity. The Israeli subsidiary grants options over the parent's shares through a cross-holding or guarantee arrangement, and those shares are held in the Israeli trustee account. Each grant under this structure requires the same ITA plan filing and trustee appointment as a purely Israeli grant would require. Multinational companies with Israeli R&D centers should build the sub-plan setup into their market-entry timeline, as the legal and administrative setup typically takes six to eight weeks from instruction to the first qualifying grant.
A German industrial technology company opened an R&D center in Be'er Sheva employing 40 engineers. The parent company used Frankfurt-listed shares under a global equity plan. To extend Section 102 benefits to its Israeli employees, the Israeli subsidiary filed a 102(b)(2) sub-plan with the ITA Assessing Office for the southern district approximately 45 days before the first intended grant date. The company appointed a specialist licensed Israeli trustee rather than a bank subsidiary, to avoid complications arising from the custody of foreign-listed shares through a domestic banking custodian. Total legal setup costs — Israeli counsel drafting the sub-plan documents, trustee agreement, and ITA submission — came to approximately NIS 35,000. Annual trustee administration for 40 employees runs approximately NIS 16,000 per year. Under the sub-plan, each of the 40 engineers who received grants will pay 25% on their eventual gain rather than the ordinary income rate of up to 47%, provided they complete the 24-month trustee period. The German parent cannot claim a deduction in Germany for those grants: that is a standard cost of the 102(b)(2) election and is priced into the decision to offer the sub-plan.
8. What to Check Before You Sign a Grant Agreement
Most employees focus on the number of options and the exercise price. The structural points below matter as much, and HR rarely explains them:
- Plan filed with the ITA: ask for confirmation that the Section 102 plan was filed at least 30 days before your grant. If the plan was not filed properly, the trustee tracks are not available.
- The track: the grant agreement should state 102(b)(2), not just "Section 102". 102(b)(1) and 102(c) produce a much higher tax bill.
- The trustee: the agreement should name the trustee. Register with it early, so you are not caught out at a liquidity event.
- The grant date: check that the date in your agreement matches the board resolution and the trustee's record, because the 24 months run from that date.
- Post-termination exercise window: find out how long you have to exercise vested options after leaving. Windows of around 90 days are common, and some are much shorter.
- Acceleration: check whether unvested options accelerate on an acquisition (single trigger) or only if you are also dismissed (double trigger).
- US citizens: get US-Israel tax advice before the grant and again before any exercise.