As of 2016, Taxation in the State of Palestine is subject to the Oslo Accords, notably the Protocol on Economic Relations or Paris Protocol, which was signed in 1994 by the PLO and Israel. The Paris Protocol established a customs union, which essentially formalized the existing situation where the Palestinian economy was merged into the Israeli one. Formally, the Palestinian Authority (PA) is entitled to collect taxes from the Palestinians in the Palestinian territories, but some 75% of the total tax revenue was as of 2014 collected by Israel on behalf of the PA and transferred on monthly basis. Israel has regularly withheld the taxes it owes the Palestinian Authority.
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Background
Until 1967, the West Bank was subject to the Jordanian system of taxation; Gaza to the Egyptian. Neither territory had previously had economic ties with Israel. After Israel had occupied the Palestinian territories, the economic relations with the former rulers were cut and Israel launched a partial integration of the territories into its own economic structures in the form of an incomplete customs union. The Israeli labour market was opened up to Palestinian workers and in 1972, one out of four Palestinian workers had found employment in the Israeli economy.
The taxes paid by settlers and Israeli soldiers who live in the occupied Palestinian territories, including East Jerusalem flow directly into the Israeli treasury. This includes income taxes. Institutions and businesses in settlements pay taxes to the municipalities, albeit they enjoy tax benefits, thus contributing to the sustenance of the settlements. This includes corporate taxes and water taxes.
In 1994, the Gaza–Jericho Agreement and the annexed Protocol on Economic Relations (Paris Protocol) were signed by the PLO and Israel, which created both the Palestinian Authority and a formal customs union.
The tax clearance system
Israel collects taxes on Palestinian imports on behalf of the PA and transfers the results on monthly basis. Israel forces all Palestinian imports (and its exports as far as allowed by Israel) to go via Israel. Within the West Bank, all goods are unilaterally routed by Israel via military checkpoints and crossings through the Israeli West Bank barrier. Palestine highly depends on goods and services sold in Israel and intended for consumption in the Occupied Territories, on which Israel charges value added tax (VAT) and revenues from foreign imports on behalf of the PA. As a result, tax clearance is the largest source of Palestinian public income. Also income taxes as well as some insurance fees deducted from the wages of Palestinians employed in Israel and the Israeli settlements are collected by Israel.
Early 2006, the Palestinian Authority directly collected in the West Bank Area's A and B approximately $35 million per month from taxes and other charges; Israel turned over about $50 million of collected taxes per month. In December 2012, the tax revenues collected by Israel were put at some $100 million a month. In 2014-2015, the revenue was about $160 million per month. The Authority's self-generated revenue collected by Israel account for about 70-75% of the total government’s income.
Israeli withholdings as means of pressure
The large proportion of Israeli-collected taxes in the PA's budget makes the PA vulnerable to unilateral suspension of clearance revenue transfers by Israel. As early as 1997, Israel began to abuse the clearance system for political reasons and to unilaterally settle bills unpaid by Palestinians. Israel has frequently suspended hundreds of millions of dollars for accumulated periods of some 4 years. While the state-owned Israel Electric Corporation unilaterally issues excessive late payment penalties and interest charges, Israel did not pay interest on money it did not transfer to the PA.
Political reasons for suspension varied from Palestinian violence to the election of Hamas in the PA, reconciliation between Fatah and Hamas and the demand for international recognition.