[Federal Register Volume 85, Number 136 (Wednesday, July 15, 2020)]
[Rules and Regulations]
[Pages 43042-43117]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-14649]



[[Page 43041]]

Vol. 85

Wednesday,

No. 136

July 15, 2020

Part III





Department of the Treasury





-----------------------------------------------------------------------





 Internal Revenue Service





-----------------------------------------------------------------------





26 CFR Part 1





Deduction for Foreign-Derived Intangible Income and Global Intangible 
Low-Taxed Income; Final Rule

  Federal Register / Vol. 85, No. 136 / Wednesday, July 15, 2020 / 
Rules and Regulations  

[[Page 43042]]


-----------------------------------------------------------------------

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9901]
RIN 1545-BO55


Deduction for Foreign-Derived Intangible Income and Global 
Intangible Low-Taxed Income

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

-----------------------------------------------------------------------

SUMMARY: This document contains final regulations that provide guidance 
regarding the deduction for foreign-derived intangible income (FDII) 
and global intangible low-taxed income (GILTI). This document also 
contains final regulations coordinating the deduction for FDII and 
GILTI with other provisions in the Internal Revenue Code. These 
regulations generally affect domestic corporations and individuals who 
elect to be subject to tax at corporate rates for purposes of 
inclusions under subpart F and GILTI.

DATES: 
    Effective Date: These regulations are effective on September 14, 
2020.
    Applicability Dates: For dates of applicability, see Sec. Sec.  
1.250-1(b), 1.962-1(d), 1.1502-50(g), 1.6038-2(m)(4), 1.6038-3(l), and 
1.6038A-2(g).

FOR FURTHER INFORMATION CONTACT: Concerning Sec. Sec.  1.250-1 through 
1.250(b)-6, 1.6038-2, 1.6038-3, and 1.6038A-2, Brad McCormack at (202) 
317-6911 and Lorraine Rodriguez at (202) 317-6726; concerning Sec.  
1.962-1, Edward Tracy at (202) 317-6934; concerning Sec. Sec.  1.1502-
12, 1.1502-13 and 1.1502-50, Michelle A. Monroy at (202) 317-5363 (not 
toll free numbers).

SUPPLEMENTARY INFORMATION:

Background

    Section 250 was added to the Internal Revenue Code (``Code'') by 
the Tax Cuts and Jobs Act, Public Law 115-97, 131 Stat. 2054, 2208 
(2017) (the ``Act''), which was enacted on December 22, 2017. On March 
6, 2019, the Department of the Treasury (``Treasury Department'') and 
the IRS published proposed regulations (REG-104464-18) under sections 
250, 962, 1502, 6038, and 6038A in the Federal Register (84 FR 8188) 
(the ``proposed regulations''). Corrections to the proposed regulations 
were published on April 11, 2019, and April 12, 2019, in the Federal 
Register (84 FR 14634 and 84 FR 14901, respectively). A public hearing 
on the proposed regulations was held on July 10, 2019. The Treasury 
Department and the IRS also received written comments with respect to 
the proposed regulations.
    All written comments received in response to the proposed 
regulations are available at https://www.regulations.gov or upon 
request. Terms used but not defined in this preamble have the meaning 
provided in these final regulations.

Summary of Comments and Explanation of Revisions

I. Overview

    The final regulations retain the basic approach and structure of 
the proposed regulations, with certain revisions. This Summary of 
Comments and Explanation of Revisions section discusses those revisions 
as well as comments received in response to the solicitation of 
comments in the notice of proposed rulemaking. Comments outside the 
scope of this rulemaking are generally not addressed but may be 
considered in connection with future guidance projects.

II. Comments on and Revisions to Documentation Requirements and 
Applicability Dates

A. Documentation Requirements for Foreign Persons, Foreign Use, and 
Location Outside the United States

    As described in parts VII.B, C.1, and D.1 and VIII.B.1 and B.2.c of 
this Summary of Comments and Explanation of Revisions section, the 
proposed regulations provided that to establish that a recipient is a 
foreign person, property is for a foreign use (within the meaning of 
proposed Sec.  1.250(b)-4(d) and (e)), or a recipient of a general 
service is located outside the United States (within the meaning of 
proposed Sec.  1.250(b)-5(d)(2)), the taxpayer must obtain specific 
types of documentation described in proposed Sec. Sec.  1.250(b)-
4(c)(2), (d)(3), and (e)(3) and 1.250(b)-5(d)(3) and (e)(3). The 
proposed regulations also provided a transition rule whereby for 
taxable years beginning on or before March 4, 2019, taxpayers could use 
any reasonable documentation maintained in the ordinary course of the 
taxpayer's business that establishes that a recipient is a foreign 
person, property is for a foreign use, or a recipient of a general 
service is located outside the United States, as applicable, in lieu of 
the specific documentation described in the regulations, provided that 
such documentation meets certain reliability requirements described in 
proposed Sec.  1.250(b)-3(d). See proposed Sec.  1.250-1(b). The 
preamble requested comments on this special transition rule.
    Several comments recommended either making this transition rule 
permanent or extending it for a certain period after the regulations 
are finalized. The comments recommending that the transition rule be 
made permanent indicated that the documentation described in the 
proposed regulations may be difficult, if not impossible, to obtain in 
the ordinary course of business. The comments noted that customers are 
highly reluctant to provide some of the types of documents that the 
proposed regulations described. A comment noted that the documentation 
rules in the proposed regulations could require taxpayers to 
renegotiate contracts or make inquiries of their customers that could 
interfere with the customer relationship. Several comments were 
concerned with how the documentation rules and, in particular, the 
reliability requirements would apply to business models with longer-
term contracts, especially those entered into during the 2019 tax year.
    The comments that requested extending the transition rule suggested 
that this would allow adequate time for the IRS to gain experience with 
the types of documentation taxpayers collect in the ordinary course of 
business, and for taxpayers to gain experience complying with such 
rules by developing or improving internal compliance systems. 
Alternatively, some comments suggested that the next issuance of 
regulations should be in temporary form to allow additional time to 
consider the reasonableness of the documentation requirements before 
final regulations are issued and to allow taxpayers more time to 
identify distortive results.
    Other comments recommended changes to the documentation rules if 
the final regulations do not make the transition rule permanent. 
Several comments suggested that any list of suitable documents (for 
either property sales or services) should be non-exclusive and include 
more documents obtained in the ordinary course of business. Some 
comments recommended allowing the use of documentation methods similar 
to those for sales of fungible mass property under proposed Sec.  
1.250(b)-4(d)(3)(iii) such as market research, statistical sampling, 
economic modeling or other similar methods to show foreign person 
status or foreign use.
    The final regulations address these comments in several ways. 
First, the final regulations eliminate the requirement in the proposed 
regulations to obtain specific types of documents to

[[Page 43043]]

establish foreign person status, foreign use with respect to sales of 
certain general property that are made directly to end users, and the 
location of general services provided to consumers. The Treasury 
Department and the IRS have determined that requiring specific 
documentation with respect to these requirements is difficult given the 
variations in industry practices and is not necessary to achieve the 
purpose of the statute. Accordingly, the final regulations remove the 
specific documentation requirements to establish foreign person status 
and foreign use with respect to certain sales of general property and 
the location of a consumer of a general service. However, as explained 
in more detail in part II.D of this Summary of Comments and Explanation 
of Revisions section, as with any deduction, taxpayers claiming a 
deduction under section 250 bear the burden of demonstrating that they 
are entitled to the deduction. Therefore, the general requirement for 
taxpayers to substantiate their deductions will apply without any 
additional specific requirements as to the content of information or 
documents.
    Second, the final regulations adopt a more flexible approach 
regarding the types of substantiation required for foreign use with 
respect to sales of general property to non-end users, foreign use with 
respect to sales of intangible property, and with respect to 
determining whether services are performed for business recipients 
located outside the United States. Although the substantiation 
requirements in the final regulations are more specific as to the 
nature of the information required, they are not limited to a narrow 
set of documents. The requirements also do not contain the specific 
reliability requirement set out in the proposed regulations because the 
reliability of documents or information can differ depending on the 
circumstances. For example, documents created in advance of a sales 
date (such as a long-term sales contract) may be as reliable as 
documents created at the time of the sale, depending on the facts and 
circumstances. Further, the final regulations continue to require that 
the substantiating documents be supported by credible evidence. See 
part II.C of this Summary of Comments and Explanation of Revisions 
section.
    Finally, the applicability dates of the regulations have been 
revised, and taxpayers are permitted to rely on the proposed 
regulations for taxable years before the final regulations are 
applicable, including relying on the transition rules during the 
entirety of such period. See part II.F and XII of this Summary of 
Comments and Explanation of Revisions section.

B. Specific Substantiation for Certain Transactions

    In lieu of the documentation requirements in the proposed 
regulations, with respect to sales of general property to recipients 
other than end users, sales of intangible property, and general 
services provided to business recipients, the final regulations provide 
substantiation rules that are more flexible with respect to the types 
of corroborating evidence that may be used. See Sec.  1.250(b)-3(f). 
For these transactions, specific substantiation requirements are needed 
to ensure that taxpayers make sufficient efforts to determine whether 
the regulatory requirement is met. Therefore, with respect to these 
transactions, the final regulations describe the type of information 
necessary to meet the substantiation requirements. The specific ways a 
taxpayer must substantiate these elements are described in parts 
VII.C.9, VII.D.2, and VIII.B.2.d of this Summary of Comments and 
Explanation of Revisions section. The substantiation requirements are 
modeled after substantiation rules under section 170 (requiring 
substantiation through receipts for certain charitable deductions) and 
section 274(d) (requiring substantiation by adequate records or a 
taxpayer statement with corroborating evidence). The Treasury 
Department and the IRS have determined that requiring a taxpayer to 
specifically substantiate certain transactions--in particular 
transactions where the relevant facts needed to satisfy the rules are 
generally in the hands of a third party with a business relationship 
with the taxpayer--is necessary and appropriate for establishing ``to 
the satisfaction of the Secretary'' that property is sold for a foreign 
use or that services are provided to persons located outside the United 
States. See section 250(b)(4) and (b)(5)(C).

C. Timing To Obtain, Maintain, and Provide Specific Substantiation

    In general, the substantiation rules require that the 
substantiating documents with respect to certain transactions that give 
rise to foreign-derived deduction eligible income (a ``FDDEI 
transaction'') be in existence by the time the taxpayer files its 
return (including extensions) with respect to the FDDEI transaction 
(the ``FDII filing date''). See Sec.  1.250(b)-3(f)(1). The final 
regulations do not impose additional requirements relating to when 
substantiating documents must be in existence. However, the timing of 
when substantiating documents are created may affect the credibility of 
the substantiating documents. For example, substantiating documents 
created at or near the time of the transaction generally have a higher 
degree of credibility as compared to substantiating documents created 
later in time. With respect to long-term contracts, substantiating 
documents created when the transaction was entered into will be more 
credible in later years if the taxpayer periodically confirms that the 
terms of the long-term contract are being adhered to.
    The final regulations provide that substantiating documents must be 
provided to the IRS upon request, generally within 30 days or some 
other period agreed upon by the IRS and the taxpayer. See Sec.  
1.250(b)-3(f)(1). This is necessary to allow the substantiation 
requirements to serve their purpose, including to allow the IRS to 
timely examine the taxpayer's qualification for the FDII deduction.

D. Substantiation in All Other Cases

    For the rules in the final regulations for which there are no 
specific substantiation requirements, taxpayers are already required 
under section 6001 to make returns, render statements, and keep the 
necessary records to show whether such person is liable for tax under 
the Code. Therefore, a taxpayer claiming a deduction under section 250 
will still be required to substantiate that it is entitled to the 
deduction even if it is not subject to the specific substantiation 
requirements contained in the final regulations. See Sec.  1.6001-1(a); 
INDOPCO v. Commissioner, 503 U.S. 79, 84 (1992) (``an income tax 
deduction is a matter of legislative grace and . . . the burden of 
clearly showing the right to the claimed deduction is on the taxpayer'' 
(internal citations omitted)).
    The Treasury Department and the IRS expect that taxpayers may use a 
broader range of evidence to substantiate a section 250 deduction under 
the new substantiation requirements (and section 6001 where no specific 
substantiation requirements are provided) than they would have been 
able to use under the more specific documentation requirements detailed 
in the proposed regulations. Based on comments received, in many cases 
a taxpayer will be able to determine whether it meets the requirements 
in the final regulations using documents maintained in the ordinary 
course of its business, as provided in the transition rule. In some 
circumstances, however, it may be necessary for taxpayers to gather

[[Page 43044]]

additional information to establish that a requirement is met. The 
Treasury Department and the IRS are also considering issuing additional 
administrative guidance on acceptable documentation to substantiate the 
deduction.

E. Small Business Exception

    The final regulations include an exception for small businesses 
similar to the exceptions from the documentation requirements for small 
businesses that are in the proposed regulations. See proposed 
Sec. Sec.  1.250(b)-4(c)(2)(ii)(A) and (d)(3)(ii)(A), and 1.250(b)-
5(d)(3)(ii)(A) and (e)(3)(ii)(A). The exception provides that the 
substantiation requirements described generally in part II.B of this 
Summary of Comments and Explanation of Revisions section do not apply 
if the taxpayer and all related parties of the taxpayer, in the 
aggregate, receive less than $25,000,000 in gross receipts during the 
prior taxable year. See Sec.  1.250(b)-3(f)(2). In response to comments 
that the final regulations should allow for broader application of the 
small business exception, the final regulations modify the threshold 
amount to qualify for that exception from $10,000,000 of gross receipts 
received by the seller of general property or renderer of services in 
the prior taxable year (the standard used in the proposed regulations) 
to $25,000,000 in gross receipts received by the taxpayer and all 
related parties. As a result of this exception, a small business will 
not need to satisfy the specific substantiation requirements in the 
regulations, although it must continue to comply with the general 
substantiation rules under section 6001. For example, small businesses 
may be able to substantiate that a sale of general property is for a 
foreign use by having evidence of a foreign shipping address and 
memorializing conversations with the recipients explaining where the 
property will be resold, if sufficiently reliable, or having a copy of 
an export bill of lading.

F. Transition Rules

    The final regulations modify the applicability dates of the 
regulations to give taxpayers additional time to develop systems for 
complying with the regulations. Generally, the final regulations are 
applicable for taxable years beginning on or after January 1, 2021. See 
Sec.  1.250-1(b). This applicability date ensures that all taxpayers, 
regardless of whether they are fiscal- or calendar-year taxpayers, have 
at least three full taxable years after the Act was enacted before the 
final regulations become applicable. However, for taxable years 
beginning before January 1, 2021, taxpayers may apply the final 
regulations or rely on the proposed regulations, except that taxpayers 
that choose to rely on the proposed regulations may rely on the 
transition rule for documentation for all taxable years beginning 
before January 1, 2021 (rather than only for taxable years beginning on 
or before March 4, 2019, which was the limitation contained in the 
proposed regulations).

III. Comments on and Revisions to Proposed Sec.  1.250(a)-1--Deduction 
for Foreign-Derived Intangible Income and Global Intangible Low-Taxed 
Income

    Proposed Sec.  1.250(a)-1 provided general rules to determine the 
amount of a taxpayer's section 250 deduction and associated definitions 
that apply for purposes of the proposed regulations.

A. Pre-Act NOLs

    Several Code sections, including section 250, include limitations 
based on a taxpayer's taxable income or a percentage of taxable income. 
The proposed regulations provided an ordering rule for applying 
sections 163(j) and 172 in conjunction with section 250 that provided 
that a taxpayer's taxable income for purposes of applying the taxable 
income limitation of section 250(a)(2) is determined after all of the 
corporation's other deductions are taken into account, without 
distinguishing between pre-Act and post-Act net operating losses 
(``NOLs''). See proposed Sec.  1.250(a)-1(c)(4).
    Several comments noted that the proposed regulations did not 
explicitly address the impact of pre-Act NOLs on the deduction under 
section 250 and recommended that pre-Act NOLs not be taken into account 
for purposes of determining the deduction limit under section 
250(a)(2). This would allow taxpayers to take a deduction under section 
250 for FDII in lieu of utilizing available pre-Act NOLs.
    Section 250(a)(2) limits the FDII deduction based on ``taxable 
income,'' which is defined in section 63 to include gross income minus 
deductions, including NOL deductions under section 172. Section 
250(a)(2) contains no language that would support ignoring pre-Act NOLs 
for purposes of determining the amount of taxable income for purposes 
of section 250(a)(2). Cf. section 965(n) (providing an election to 
forgo usage of a portion of pre-Act NOLs against a taxpayer's inclusion 
under section 965). Therefore, the comment is not adopted.

B. Ordering Rule

    As discussed in the previous section, the deduction under section 
250 is subject to a taxable income limitation under section 250(a)(2). 
Proposed Sec.  1.250(a)-1(c)(4) provided that the corporation's taxable 
income is determined with regard to all items of income, deduction, or 
loss, except for the deduction allowed under section 250. Example 2 in 
proposed Sec.  1.250(a)-1(f)(2) applied the ordering rule with respect 
to sections 163(j), 172, and 250.
    Some comments recommended that the regulations eliminate the 
ordering rule in favor of an approach that used simultaneous equations 
to compute taxable income for each Code provision that referred to 
taxable income, whereas other comments expressed concern with the 
complexity of performing simultaneous equations. One comment 
recommended that the regulations not consider section 163(j) and 172(b) 
carryforwards or carrybacks.
    The Treasury Department and the IRS have determined that further 
study is required to determine the appropriate rule for coordinating 
section 250(a)(2), 163(j), 172, and other Code provisions (including, 
for example, sections 170(b)(2), 246(b), 613A(d), and 1503(d)) that 
limit the availability of deductions based, directly or indirectly, 
upon a taxpayer's taxable income. Therefore, the final regulations 
remove Example 2 in proposed Sec.  1.250(a)-1(f)(2) and reserve a 
paragraph in Sec.  1.250(a)-1(c)(5)(ii) for coordinating section 
250(a)(2) with other provisions calculated based on taxable income. The 
Treasury Department and the IRS are considering a separate guidance 
project to address the interaction of sections 163(j), 172, 250(a)(2), 
and other Code sections that refer to taxable income; this guidance may 
include an option to use simultaneous equations in lieu of an ordering 
rule.\1\ Comments are requested in this regard.
---------------------------------------------------------------------------

    \1\ Any separate guidance would take into account the recent 
addition of section 172(a)(2)(B)(ii)(I) by the Coronavirus Aid, 
Relief, and Economic Security Act, Public Law 116-136, 134 Stat. 281 
(2020). That provision provides in relevant part that, for taxable 
years beginning after December 31, 2020, the taxable income 
limitation for purposes of deducting net operating loss carrybacks 
and carryovers is determined without regard to the deductions under 
sections 172, 199A, and 250.
---------------------------------------------------------------------------

    Before further guidance is issued regarding how allowed deductions 
are taken into account in determining the taxable income limitation in 
section 250(a)(2), taxpayers may choose any reasonable method (which 
could include the ordering rule described in the proposed regulations 
or the use of simultaneous equations) if the method

[[Page 43045]]

is applied consistently for all taxable years beginning on or after 
January 1, 2021.

C. Carryovers of Excess FDII

    Consistent with the statute, the proposed regulations did not 
contain any provision allowing the carryforward or carryback of a tax 
year's FDII deduction in excess of the taxpayer's taxable income 
limitation under section 250(b)(2) and proposed Sec.  1.250(a)-1(b)(2). 
One comment argued that a provision allowing the carryforward or 
carryback should be added because the taxable income limitation 
frustrates the policy goal of the FDII regime of reducing the tax 
incentive to locate intellectual property outside the United States. A 
different comment recommended that where the taxable income limitation 
of the proposed regulations applies to a given tax year, the final 
regulations should allow for the creation of a FDII recapture account 
by which taxpayers can carry forward previously unused section 250 
deductions to future tax years when they have enough taxable income to 
use these deductions. In contrast, another comment recommended that, 
consistent with the statute, the final regulations should not allow for 
carrybacks or carryforwards in order to limit the potential for abuse 
by taxpayers.
    The section 250 deduction is an annual calculation, and nothing in 
the statute or legislative history contemplates the creation of 
carryforwards or carrybacks or a recapture account. Cf. section 
163(j)(2) (providing for the carryforward of disallowed business 
interest). As a result, the final regulations do not adopt these 
recommendations.

D. Definition of GILTI

    The final regulations under section 250 revise the definition of 
GILTI consistent with the final regulations under section 951A 
(``section 951A final regulations''). The term ``GILTI'' means, with 
respect to a domestic corporation for a taxable year, the corporation's 
GILTI inclusion amount under Sec.  1.951A-1(c) for the taxable year. 
See Sec.  1.250(a)-1(c)(3).

IV. Comments on and Revisions to Proposed Sec.  1.250(b)-1--Computation 
of Foreign-Derived Intangible Income

    The proposed regulations provided that a taxpayer's FDII is the 
taxpayer's deemed intangible income (``DII'') multiplied by the 
corporation's foreign-derived ratio. See proposed Sec.  1.250(b)-1(b). 
A taxpayer's DII is the excess (if any) of the corporation's deduction 
eligible income (``DEI'') over its deemed tangible income return 
(``DTIR''). See proposed Sec.  1.250(b)-1(c)(3). A taxpayer's DTIR is 
10 percent of the taxpayer's qualified business asset investment 
(``QBAI''). See proposed Sec.  1.250(b)-1(c)(4). The foreign-derived 
ratio is the taxpayer's ratio of foreign-derived deduction eligible 
income (``FDDEI'') to DEI. See proposed Sec.  1.250(b)-1(c)(13).

A. Financial Services Income

    Section 250(b)(3)(A)(i)(III) excludes from DEI financial services 
income as defined in section 904(d)(2)(D). One comment requested a 
clarification that income that falls outside of the definition of 
section 904(d)(2)(D) should be eligible for inclusion in DEI, such as 
leasing or financing activities outside of the active conduct of a 
banking, financing, or similar business.
    Section 250(b)(3)(A)(i)(III) excludes only financial services 
income as defined in section 904(d)(2)(D). Any leasing or financing 
activities that are not described in section 904(d)(2)(D) will not fall 
within this exclusion. Therefore, no changes are necessary.
    Another comment suggested that the proposed regulations do not 
provide enough general guidance on non-active financial services income 
from financial instruments (such as derivatives and hedges), and, in 
particular, how to characterize such income (or losses) as a FDDEI 
transaction. Absent such guidance, the comment asserts that taxpayers 
could take inconsistent positions in characterizing a derivative or 
hedge and characterizing the underlying transaction as FDDEI 
transactions. This comment recommended adding a general rule that 
associates the income, loss, and expenses of a derivative or hedge with 
the underlying transaction. Alternatively, the comment suggested that 
the final regulations treat the derivative or hedge transaction as a 
separate transaction and test it for FDDEI under the rules regarding 
sales of intangible property.
    Consistent with the proposed regulations, the final regulations 
provide that, in general, financial instruments are neither general 
property nor intangible property, and therefore their sales cannot give 
rise to FDDEI. See Sec.  1.250(b)-3(b)(10) (excluding from the 
definition of general property a security defined under section 
475(c)(2)) and Sec.  1.250(b)-3(b)(11) (intangible property has the 
meaning set forth in section 367(d)(4)). However, the final regulations 
adopt the suggestion to provide a special rule for hedges to associate 
the income or loss from such hedges with the underlying transaction. 
See Sec.  1.250(b)-4(f) and part VII.E of this Summary of Comments and 
Explanation of Revisions section.

B. Definition of Foreign Branch Income

    Section 250(b)(3) excludes from DEI foreign branch income as 
defined in section 904(d)(2)(J), which provides that foreign branch 
income is business profits attributable to one or more qualified 
business units. Proposed Sec.  1.250(b)-1(c)(11) defined foreign branch 
income by cross-reference to Sec.  1.904-4(f)(2), which provides that 
gross income is attributable to a foreign branch if the gross income is 
reflected on the separate set of books and records of the foreign 
branch. Proposed Sec.  1.250(b)-1(c)(11), however, modified this 
definition to also include any income from the sale, directly or 
indirectly, of any asset (other than stock) that produces gross income 
attributable to a foreign branch, including by reason of the sale of a 
disregarded entity or partnership interest.
    Several comments requested that the final regulations remove the 
modification to the definition in proposed Sec.  1.904-4(f)(2). Several 
comments noted that the definition, as proposed, would impermissibly 
create a class of income that is neither DEI nor foreign branch income 
for section 904 foreign tax credit purposes, and therefore, asserted 
that the definitions must be aligned consistently. Another comment 
argued that the proposed regulations under section 904 already contain 
rules that address the types of transactions that were described in 
proposed Sec.  1.250(b)-1(c)(11). Multiple comments also noted that 
section 250(b)(3)(A)(i)(VI) cross references to section 904(d)(2)(J) 
without any modification to that latter provision and argued that 
modifying the definition in regulations exceeded the Treasury 
Department and IRS's regulatory authority. One comment argued that the 
expansion contravenes the Congressional purpose behind FDII of 
encouraging the repatriation of intangible property. Another comment 
noted that if the definition with the modification is applied 
retroactively, it could adversely affect taxpayers that undertook 
transactions to repatriate intellectual property before the proposed 
regulations were issued, a problem that the comment asserted is 
exacerbated by the differing effective dates of the proposed foreign 
tax credit regulations and the FDII proposed regulations.
    If the final regulations were to retain the expanded definition, 
one comment requested that the definition also be

[[Page 43046]]

used for purposes of the foreign branch category definition in Sec.  
1.904-4(f). Another comment requested that the final regulations 
provide further clarification of the treatment of the disregarded 
transactions, particularly with respect to the disposition of a 
partnership interest, and provide relevant examples of other types of 
transactions that the expanded definition is intended to capture. 
Moreover, the comment requested that the definition of foreign branch 
income should be modified such that it would not include any 
adjustments that would increase the gross income attributable to the 
foreign branch as a result of the transfer of intangible property from 
the foreign branch to the foreign branch owner.
    The Treasury Department and the IRS agree that there should be one 
consistent definition of foreign branch income in both Sec. Sec.  
1.250(b)-1(c)(11) and 1.904-4(f)(2) to avoid the various results 
suggested by comments. Accordingly, the final regulations define 
foreign branch income by cross reference to Sec.  1.904-4(f)(2) and 
remove the modification to that definition in the proposed regulations 
that would have included as foreign branch income any income from the 
sale, directly or indirectly, of any asset (other than stock) that 
produces gross income attributable to a foreign branch, including by 
reason of the sale of a disregarded entity or partnership interest. See 
Sec.  1.250(b)-1(c)(11).\2\
---------------------------------------------------------------------------

    \2\ Under Sec.  1.904-4(f)(2), a disposition of an interest in a 
disregarded entity could still result in foreign branch income. See 
Sec.  1.904-4(f)(4)(ii) Example 2.
---------------------------------------------------------------------------

C. Cost of Goods Sold Allocation

    The proposed regulations provided that for purposes of determining 
the gross income included in gross DEI and gross FDDEI, cost of goods 
sold is attributed to gross receipts with respect to gross DEI or gross 
FDDEI under any reasonable method. See proposed Sec.  1.250(b)-1(d)(1). 
The final regulations clarify that the method chosen by the taxpayer 
must be consistently applied.
    For purposes of this rule, any cost of goods sold associated with 
activities undertaken in an earlier taxable year cannot be segregated 
into component costs and attributed disproportionately to amounts 
excluded from gross FDDEI or to amounts excluded from gross DEI, 
similar to the rules in proposed Sec.  1.199-4(b)(2)(iii)(A). The 
preamble to the proposed regulations requested comments on whether 
there are alternative approaches for dealing with timing issues, and 
whether additional rules should be provided for attributing cost of 
goods sold in determining gross DEI and gross FDDEI.
    One comment recommended that the final regulations continue to 
allow cost of goods sold to be allocated under any reasonable method to 
provide flexibility to different taxpayers. Another comment agreed with 
the proposed regulations that cost of goods sold should be allocated 
between gross FDDEI and gross non-FDDEI \3\ regardless of whether any 
component of the costs was associated with activities undertaken in a 
prior tax year. That comment, however, recommended that for future 
periods taxpayers that recognized revenue under section 451 for advance 
payments should be permitted an election to create an imputed cost of 
goods sold deduction based upon the taxpayer's gross profit percentage 
for that particular product or service. The comment argued this 
election is needed because recognition of an advance payment as income 
without associated cost of goods sold might be required under section 
451 based upon certain facts and circumstances and the election would 
allow the taxpayer to avoid this distortive impact.
---------------------------------------------------------------------------

    \3\ The final regulations rename ``gross non-FDDEI'' as ``gross 
RDEI'' to clarify that the term includes only the residual of gross 
DEI that is not gross FDDEI, rather than all gross income (including 
income that is not gross DEI) that is not gross FDDEI. See Sec.  
1.250(b)-1(c)(14).
---------------------------------------------------------------------------

    Sections 451 and 461 provide the general rules on the timing of 
income recognition and taking a deduction into account, respectively. 
Nothing in section 250 suggests that Congress intended to change the 
scope of generally applicable income recognition rules. Therefore, the 
final regulations do not adopt the comment to permit an election to 
create an imputed cost of goods sold deduction in the context of 
advance payments with respect to section 250.

D. Expense Allocation

1. In General
    In calculating DEI under section 250(b)(3), a taxpayer must 
determine the deductions that are ``properly allocable'' to gross DEI. 
Proposed Sec.  1.250(b)-1(d)(2)(i) further provided that, for purposes 
of calculating FDDEI, a taxpayer must determine the deductions that are 
``properly allocable'' to gross FDDEI. Consistent with the rules for 
determining the foreign tax credit limitation under section 904 or 
qualified production activities income under former section 199, the 
proposed regulations provided that Sec. Sec.  1.861-8 through 1.861-14T 
and 1.861-17 apply for purposes of allocating deductions to gross DEI 
and gross FDDEI. Id. Several comments supported using these general 
apportionment rules.
2. Research and Experimentation Expenditures
    Under Sec.  1.861-17(b), an exclusive apportionment of research and 
experimentation (``R&E'') expenditures is made if activities 
representing more than 50 percent of the R&E expenditures were 
performed in a particular geographic location, such as the United 
States. After this initial exclusive apportionment, the remainder of 
the taxpayer's R&E expenditures are apportioned under either the sales 
or gross income methods under Sec.  1.861-17(c) and (d). Section 1.861-
17(e) provides rules for making a binding election to use either the 
sales or gross income method.
a. Exclusive Apportionment and Direct Apportionment
    The proposed regulations under section 250 specified that the 
exclusive apportionment rules in Sec.  1.861-17(b) did not apply for 
purposes of apportioning R&E expenses to gross DEI and gross FDDEI. See 
proposed Sec.  1.250(b)-1(d)(2)(i). Several comments requested that the 
final regulations allow taxpayers to use exclusive apportionment for 
purposes of determining FDII. One comment noted that the preamble to 
the proposed regulations does not justify the proposed regulations 
omitting the exclusive apportionment method in the FDII context. 
Another comment asserted that allowing exclusive apportionment would 
mitigate a significant disincentive for taxpayers to onshore intangible 
property into the United States. Other comments argued that allocating 
R&E expenses to FDDEI may discourage taxpayers from performing R&E 
activities in the United States.
    Several comments recommended allocating R&E expenditures based on 
an optional books and records method that could be used when there is a 
clear factual relationship between the R&E expenditures and a 
particular amount of income. These comments noted that some taxpayers 
are subject to regulatory oversight with respect to their contract 
pricing and costs, and therefore such taxpayers' books and records 
could be an accurate way of showing the relationship between R&E 
expenses and gross income.
    Several comments also requested that the final regulations adopt 
special rules for expenses that are market-restricted or market-
required (for example, expenses required only by the U.S. Food

[[Page 43047]]

and Drug Administration concerning the U.S. market), including where 
the legally mandated rule in Sec.  1.861-17(a)(4) would not apply. One 
comment noted that this rule could apply in situations where U.S. law 
limits the realization from certain research activities to the market 
in which the research is performed (such as export controls) and 
therefore the R&E expenditures would not be expected to generate gross 
income outside the United States.
    Several comments requested that if none of these recommendations 
for allocating R&E expenses are adopted, the final regulations should 
reserve on this provision pending the broader ongoing review of Sec.  
1.861-17 by the Treasury Department.
    In light of the issuance of proposed rules under Sec.  1.861-17 on 
December 17, 2019 (84 FR 69124) (the ``2019 FTC proposed 
regulations''), the final regulations remove the provision stating that 
the exclusive apportionment rules in Sec.  1.861-17(b) do not apply for 
purposes of apportioning R&E expenses to gross DEI and gross FDDEI, and 
generally do not provide special rules for applying Sec.  1.861-17 for 
purposes of section 250. Proposed Sec.  1.861-17 in the 2019 FTC 
proposed regulations provides that the exclusive apportionment rule 
applies only to section 904 as the operative section, and also proposes 
eliminating the special rule for legally mandated R&E. As recommended 
by comments to the proposed regulations under section 250, the Treasury 
Department and the IRS will consider the issues raised regarding the 
application of exclusive apportionment for purposes of section 250 as 
part of finalizing the 2019 FTC proposed regulations.
b. Use of Sales or Gross Income Method
    Several comments requested that the final regulations include an 
election to allocate R&E expenses under either the sales or gross 
income method. Comments also requested that taxpayers should be 
permitted to make this election annually to give taxpayers a longer 
period to assess the various new regimes that rely on Sec.  1.861-17 
such as section 250, and pending the finalization of the FDII 
regulations. Another comment suggested that the final regulations 
should provide that the provisions of Sec.  1.861-17(c)(3) (requiring 
sales to third parties by controlled foreign affiliates to be included) 
should not apply as it might artificially apportion more R&E expense 
against FDDEI.
    As described in the preamble to proposed Sec.  1.861-17 in the 2019 
FTC proposed regulations, the Treasury Department and the IRS are 
concerned that the gross income method could in some cases produce 
inappropriate results. See 84 FR 69124, 69129. As a result, the 2019 
FTC proposed regulations proposed to eliminate the optional gross 
income method described in Sec.  1.861-17(d) and require R&E 
expenditures in excess of the amount exclusively apportioned under 
Sec.  1.861-17(b) to be apportioned based on gross receipts. See 
proposed Sec.  1.861-17(d). Comments addressing the applicability of 
the gross income method will be addressed as part of finalizing the 
2019 FTC proposed regulations.
    Proposed Sec.  1.861-17(e)(3), published December 7, 2018 (83 FR 
63200), permitted taxpayers a one-time exception to what would 
otherwise be a five-year binding election period under Sec.  1.861-
17(e)(1) to use either the sales or the gross income method, in light 
of the many changes to the foreign tax credit rules made by the Act. 
Under proposed Sec.  1.861-17(e)(3), even if a taxpayer is subject to 
the binding election period, for the taxpayer's first taxable year 
beginning after December 31, 2017, the taxpayer may change its 
apportionment method without obtaining the Commissioner's consent. 
Comments to the proposed regulations under section 250 requested that 
this one-time exception be extended to at least a second tax year 
beginning after December 31, 2017, potentially at the election of the 
taxpayer, pending the Treasury Department's ongoing review of Sec.  
1.861-17. The final regulations under Sec.  1.861-17 issued on December 
17, 2019, provide an additional year for taxpayers to change their 
election of the sales or gross income method. See Sec.  1.861-17(e)(3).
3. Carryovers
    Comments requested additional clarification regarding whether 
taxpayers are required to apportion expenses incurred before the 
effective date of the proposed regulations. Multiple comments 
specifically asked for a clarification that taxpayers are not required 
to apportion NOLs incurred before the effective date of the proposed 
regulations or, in some cases, before the effective date of the Act, 
recommending that a clarification could be along the lines of Sec.  
1.199-4(c)(2)(ii) (providing that a deduction under section 172 for a 
net operating loss is not allocated or apportioned to domestic 
production gross receipts or gross income attributable to domestic 
production gross receipts).
    The final regulations address this comment by providing that the 
following provisions (which limit certain deductions and provide for 
the carryover of the amounts not currently allowed) do not apply when 
allocating and apportioning deductions to gross DEI or gross FDDEI of a 
taxpayer for a taxable year: Sections 163(j), 170(b)(2), 172, 246(b), 
and 250. See Sec.  1.250(b)-1(d)(2)(ii). The Treasury Department and 
the IRS considered a rule that would require expenses incurred in prior 
years, including in years before the effective date of the proposed 
regulations, to be allocated to gross DEI and gross FDDEI, but 
determined that the benefit of the theoretical precision of this 
approach would be outweighed by the burden on taxpayers and the IRS 
that would be associated with making retroactive determinations. 
Further, the approach taken in the final regulations is consistent with 
the premise that the section 250 deduction is calculated based on 
annual income and expenses.

E. Foreign-Derived Ratio

    The proposed regulations provided rules for determining a 
taxpayer's foreign-derived ratio, which is the ratio of FDDEI to DEI. 
See proposed Sec.  1.250(b)-1(c)(13). The preamble to the proposed 
regulations observed that as a result of expense apportionment or 
attribution of cost of goods sold to gross receipts, a taxpayer's FDDEI 
could exceed its DEI, thereby resulting in a foreign-derived ratio 
greater than one. The preamble noted that this result would be 
inconsistent with section 250(b)(4), which defines FDDEI as a subset of 
DEI, as it would lead to having FDII in excess of DII. Therefore, the 
proposed regulations clarified that the foreign-derived ratio cannot 
exceed one.
    Several comments requested that the final regulations allow the 
foreign-derived ratio to exceed one. The comments asserted that the 
foreign-derived ratio can in fact exceed one under the statute where 
the taxpayer has losses that cause its FDDEI to exceed its DEI, and 
that there is no evidence Congress intended to limit the foreign-
derived ratio to no greater than one. One of the comments asserted that 
FDDEI and DEI are defined by the statute and that the Treasury 
Department and the IRS do not have the authority to define FDDEI more 
narrowly than the statute does. Another comment argued that section 
250(a)(2) provides a separate taxable income limitation that limits the 
FDII deduction based on domestic losses. This comment further asserted 
that the foreign-derived ratio rule of the proposed regulations reduces 
a taxpayer's incentive for repatriating intangible property when the 
foreign income from these intangibles cannot be

[[Page 43048]]

used to offset domestic losses for purposes of applying section 250.
    One comment further suggested that the final regulations allow a 
taxpayer to elect to determine its FDII deduction, including the 
various elements of the determination such as DII, QBAI, and DTIR, 
based on specific product lines or business lines, as determined by the 
taxpayer. The comment asserted that such an approach would be analogous 
to other provisions that calculate taxable income separately for 
different subsets of income such as former section 199, the foreign tax 
credit limitation under section 904(d), separate limitation loss 
recapture rules in sections 904(f) and (g), and Sec. Sec.  1.994-1(c) 
and 1.994-2(b). The comment argued that such an approach to determining 
FDII is more consistent with the policy goal of reducing the tax 
incentive to locate intellectual property outside the United States, 
which the comment asserted would be frustrated if domestic losses 
reduce FDII-eligible income.
    The Treasury Department and the IRS do not agree that limiting the 
foreign-derived ratio to no greater than one is inconsistent with the 
plain meaning of section 250. Specifically, the approach recommended by 
the comments would be inconsistent with the statutory language of 
section 250(b)(4), which defines FDDEI as a subset of DEI, that is, 
``any deduction eligible income of such taxpayer which is derived in 
connection with'' certain transactions. Allowing the foreign-derived 
ratio to exceed one could also lead to anomalous results. For example, 
a cliff effect would arise whereby a taxpayer with significant FDDEI 
but only $1 of DEI would have a significant FDII deduction, whereas if 
it has $0 or less of DEI, then no FDII deduction would be allowed. This 
would also create further anomalous results and incentives with respect 
to section 163(j), which is determined taking into account the section 
250 deduction.
    In addition, nothing in section 250 provides for FDII to be 
calculated based on specific product lines or business lines, which 
would entail significant complexity for taxpayers and administrative 
burdens for the IRS. Instead, the statute is clear that the FDII 
deduction is calculated as an aggregate of all FDDEI transactions. 
Therefore, the final regulations do not adopt this comment.

F. Partnership Reporting Requirements

    The proposed regulations required partnership information reporting 
in order to administer section 250. See proposed Sec. Sec.  1.250(b)-
1(e)(2) and 1.6038-3(g)(4). One comment asserted that the partnership 
information reporting requirements of proposed Sec.  1.250(b)-1(e)(2) 
impose unnecessary administrative burdens on a partnership that 
reasonably believes it has no (direct or indirect) domestic corporate 
partners, even after the partnership has performed reasonable due 
diligence as to the identity of its partners and reasonably relied on 
information provided by the partners. The comment requested that the 
Treasury Department and IRS consider some form of relief from this 
reporting; the comment expressed the view that this limited reporting 
requirement would not prejudice the government's interest because the 
use of partnership items can only reduce the partner's tax liability. 
The comment further requested the addition of a reasonable cause 
exception (consistent with the penalty defenses available for the Form 
8865 penalties).
    The final regulations do not include a more limited reporting 
requirement because the Treasury Department and IRS are concerned that 
this might undermine accurate reporting at the partner level. In 
addition, the Treasury Department and IRS disagree with the comment's 
observation that reporting by the partnership of items under section 
250 could only reduce a partner's tax liability--for example, a 
domestic corporate partner might reduce its tax liability by failing to 
include partnership QBAI. As to the comment's request for a reasonable 
cause exception, generally applicable penalty exceptions already apply 
to the extent information relevant to FDII is not reported on the 
applicable form. See section 6698(a) for filing Form 1065, section 
6038(c)(4)(B) for filing Form 8865, and section 6724(a) for filing 
Schedule K-1 (Form 1065). For example, under Sec.  301.6724-1(a)(2)(ii) 
and (c)(6), a partnership may establish reasonable cause because a 
payee failed to provide information necessary for the partnership to 
comply (or because of incorrect information provided by the payee or 
any other person that the partnership relied on in good faith). 
However, the final regulations clarify the reporting rules for tiered-
partnership situations as well as provide guidance on certain 
computational aspects. See Sec.  1.250(b)-1(e)(2). Similar additions 
are made to the reporting rules with respect to controlled foreign 
partnerships. See Sec.  1.6038-3(g)(3).

V. Comments on and Revisions to Proposed Sec.  1.250(b)-2--Qualified 
Business Asset Investment

A. In General

    The proposed regulations provided general rules for determining the 
QBAI of a taxpayer for purposes of determining its DTIR, including 
defining QBAI, tangible property, and specified tangible property; 
rules regarding dual-use property; rules for determining adjusted 
basis; rules regarding short tax years; rules regarding property owned 
through a partnership; and an anti-avoidance rule. See proposed Sec.  
1.250(b)-2. Section 250(b)(2)(B) provides that QBAI, for purposes of 
section 250, is defined under section 951A(d), and is determined by 
substituting ``deduction eligible income'' for ``tested income'' and 
without regard to whether the corporation is a controlled foreign 
corporation (``CFC''). While the rules provided in Sec.  1.951A-3 for 
determining QBAI of a CFC for purposes of section 951A do not apply in 
determining QBAI for purposes of computing the deduction of a taxpayer 
under section 250 for its FDII, the proposed regulations under section 
250 provided a similar, but not identical, determination of QBAI for 
purposes of FDII.
    The section 951A final regulations made certain revisions and 
clarifications to the proposed regulations under that section 
(``section 951A proposed regulations''). See Sec.  1.951A-3. The 
preamble to the section 951A final regulations noted that, except as 
indicated with respect to the election to use a depreciation method 
other than the alternative depreciation system (``ADS'') for 
determining the adjusted basis in specified tangible property for 
assets placed in service before the enactment of section 951A (see part 
V.B of this Summary of Comments and Explanation of Revisions section), 
modifications similar to the revisions to proposed Sec.  1.951A-3 will 
be made to proposed Sec.  1.250(b)-2. These modifications generally 
clarify the QBAI computation with respect to dual-use property (Sec.  
1.250(b)-2(d)) and partnerships (Sec.  1.250(b)-2(g)). Accordingly, the 
final regulations make conforming changes to QBAI for purposes of FDII 
similar to the changes made to proposed Sec.  1.951A-3 in the section 
951A final regulations. See Sec.  1.250(b)-(2).

B. Determination of Basis Under ADS

    The proposed regulations provided that, for purposes of determining 
QBAI, the adjusted basis in specified tangible

[[Page 43049]]

property is determined by using ADS under section 168(g), and by 
allocating the depreciation deduction with respect to such property for 
the taxpayer's taxable year ratably to each day during the period in 
the taxable year to which such depreciation relates. See section 
951A(d)(3) \4\ and proposed Sec.  1.250(b)-2(e)(1). ADS applies to 
determine the adjusted basis in property for purposes of determining 
QBAI regardless of whether the property was placed in service before 
the enactment of section 250 or section 951A, or whether the basis in 
the property is determined under another depreciation method for other 
purposes of the Code. See section 951A(d)(3) and proposed Sec.  
1.250(b)-2(e).
---------------------------------------------------------------------------

    \4\ As enacted, section 951A(d) contains two paragraphs 
designated as paragraph (3). The section 951A(d)(3) discussed in 
this part V.B of the Summary of Comments and Explanation of 
Revisions section relates to the determination of the adjusted basis 
in property for purposes of calculating QBAI.
---------------------------------------------------------------------------

    A comment recommended that the final regulations for FDII should 
permit taxpayers the opportunity to follow U.S. GAAP for purposes of 
determining QBAI where the difference between U.S. GAAP and ADS is 
immaterial. The final regulations do not adopt this recommendation. 
Section 951A(d)(3) (and, by reference, section 250(b)(2)(B)) is clear 
that the adjusted basis in specified tangible property is determined 
using ADS under section 168(g). In addition, permitting taxpayers to 
elect to follow U.S. GAAP in the context of FDII will impose 
significant administrative burdens on the IRS to determine what would 
be immaterial and account for different depreciation methods to compute 
QBAI.

C. QBAI Anti-Avoidance Rule

    In order to prevent artificial decreases to the DTIR amount, the 
proposed regulations disregarded certain transfers of specified 
tangible property by a domestic corporation to a related party where 
the corporation continues to use the property in production of gross 
DEI. In particular, proposed Sec.  1.250(b)-2(h)(1) disregarded a 
transfer of specified tangible property by the taxpayer to a related 
party if, within a two-year period beginning one year before the 
transfer, the taxpayer leases the same or substantially similar 
property from a related party and such transfer and lease occur with a 
principal purpose of reducing the taxpayer's DTIR. In addition, a 
transfer or leaseback transaction was treated as per se undertaken for 
a principal purpose of reducing the transferor's DTIR if the transfer 
and leaseback each occur within a six-month span. See proposed Sec.  
1.250(b)-2(h)(3). Comments recommended that the final regulations 
contain a transition period for the QBAI anti-avoidance rule in 
proposed Sec.  1.250(b)-2(h)(3) for transactions entered into before 
the date that the proposed regulations were issued. The final 
regulations adopt this comment. See Sec.  1.250(b)-2(h)(5).
    Another comment recommended that a taxpayer be able to rebut the 
presumption that a transfer or leaseback transaction was undertaken for 
a principal purpose of reducing the transferor's DTIR if the transfer 
and leaseback each occurred within a six-month span. The final 
regulations do not adopt this recommendation because a transfer and 
lease of the same or similar property that occurs between related 
parties within six months does not materially change the economic risk 
of the parties and is unlikely to be motivated by non-tax reasons. In 
addition, permitting taxpayers to rebut the presumption that such a 
transaction was undertaken for a principal purpose of reducing the 
transferor's DTIR creates significant administrative burdens.

VI. Comments on and Revisions to Proposed Sec.  1.250(b)-3--FDDEI 
Transactions

    The proposed regulations provided that FDDEI is the excess of gross 
FDDEI over deductions properly allocable to gross FDDEI. See proposed 
Sec.  1.250(b)-1(c)(12). The proposed regulations defined gross FDDEI 
as the portion of a corporation's gross DEI that is derived from all of 
its ``FDDEI sales'' and ``FDDEI services.'' See proposed Sec.  
1.250(b)-1(c)(15). The proposed regulations defined ``sale'' to include 
a lease, license, exchange, or other disposition of property, including 
a transfer of property resulting in gain or an income inclusion under 
section 367. See proposed Sec.  1.250(b)-3(b)(7).

A. Definition of ``General Property''

1. Treatment of Commodities
    For purposes of determining what is a FDDEI sale (and relatedly, 
whether a sale is for a foreign use), the proposed regulations 
distinguished between ``general property'' and certain other types of 
property. The proposed regulations excluded any commodity (as defined 
in section 475(e)(2)(B) through (D)) from the definition of general 
property. See proposed Sec.  1.250(b)-3(b)(3). The proposed regulations 
did not exclude from the definition of general property a commodity 
described in section 475(e)(2)(A), and therefore, the sale of such a 
commodity may qualify as a FDDEI sale. A comment raised a concern that 
the sale of a physical commodity effected through certain derivative 
contracts (described in section 475(e)(2)(B) through (D)) might not be 
treated as a sale of general property under the proposed regulations. 
The comment recommended clarifying that the sale of a physical 
commodity in satisfaction of a forward contract is not excluded from 
the definition of general property.
    The Treasury Department and the IRS generally agree that a sale of 
a commodity such as an agricultural commodity or a natural resource 
should be a sale of general property whether it is sold pursuant to a 
spot contract or sold pursuant to a forward or option contract, other 
than a section 1256 contract or similar contract that is traded and 
cleared like a section 1256 contract. The sale of such a commodity 
through a futures or option contract that is a section 1256 contract or 
similar contract is not treated as a sale of general property because 
the interposition of a clearing organization as the counterparty to 
such contracts severs the connection between the original selling and 
buying parties to the contract such that no meaningful determination 
can be made whether the sale through such a contract is for a foreign 
use. The definition of ``general property'' in Sec.  1.250(b)-3(b)(10) 
is modified accordingly. The final regulations also clarify that 
financial instruments or similar assets traded through futures or 
similar contracts do not qualify as general property.
    The Treasury Department and the IRS are concerned, however, that a 
taxpayer could manipulate its FDDEI by selectively physically settling 
only its commodities forward or option contracts in which it has a 
gain. To prevent this manipulation, the final regulations provide that 
the sale of a commodity pursuant to a forward or option contract is 
treated as a sale of general property only to the extent that a 
taxpayer physically settled the contract pursuant to a consistent 
practice adopted for business purposes of determining whether to cash 
or physically settle such contracts under similar circumstances. See 
Sec.  1.250(b)-3(b)(10).
    The proposed regulations further provided that a sale of a security 
(as defined in section 475(c)(2)) or a commodity (as defined in section 
475(e)(2)(B) through (D)) is not a FDDEI sale. See proposed Sec.  
1.250(b)-4(f). This rule is no longer necessary because the final 
regulations exclude such property from the definition of general 
property.

[[Page 43050]]

2. Treatment of Interests in Partnerships
    The proposed regulations did not address the conditions under which 
the sale of a partnership interest that is not described in section 
475(c)(2) will satisfy the foreign use requirement. One comment 
suggested that when a taxpayer sells a partnership interest, a look-
through approach should apply such that the sale of a partnership 
interest would be considered a sale of the partner's proportionate 
share in the partnership's assets. As such, the sale of the partnership 
interest could be considered a sale of general property and would 
qualify as a FDDEI sale so long as the other relevant requirements of 
the regulations were met. The same comment noted an alternative 
approach that would preclude looking through to the underlying assets 
and instead would require the foreign purchaser to determine if the 
acquisition of the partnership interest is for a foreign use.
    The Treasury Department and the IRS have determined that, like an 
interest in a corporation (which is a security under section 
475(c)(2)(A) and therefore not general property under Sec.  1.250(b)-
3(b)(10)), interests in a partnership are not the type of property that 
can be subject to ``any use, consumption, or disposition'' outside the 
United States. Furthermore, a look-through approach would be 
inconsistent with the fact that title to the partnership's property 
does not change upon the sale of an interest in a partnership and also 
would be difficult to administer given that the underlying property 
that would be tested for foreign use is not actually being transferred. 
Accordingly, the final regulations provide that an interest in a 
partnership, as well as an interest in a trust or estate, is not 
general property. See Sec.  1.250(b)-3(b)(10).
3. Exclusion of Intangible Property
    Under the proposed regulations, the rules applicable to the 
determination of whether a sale of property is for a foreign use 
depends on whether the property sold is ``general property'' or 
``intangible property.'' See proposed Sec.  1.250(b)-4(d) and (e). The 
proposed regulations defined general property as property other than 
intangible property, a security (as defined in section 475(c)(2)), or a 
commodity (as defined in section 475(e)(2)(B) through (D)). See 
proposed Sec.  1.250(b)-3(b)(3). The proposed regulations defined 
intangible property by cross-reference to section 367(d)(4). See 
proposed Sec.  1.250(b)-3(b)(4).
    Two examples in the proposed regulations suggested that a limited 
use license of a copyrighted article is analyzed under the rules for 
sales of intangible property. See proposed Sec.  1.250(b)-
4(e)(4)(ii)(D) and (E) (Example 4 and 5). One comment recommended that 
if the distinction between sales of tangible and intangible property is 
maintained, then the final regulations should provide that software 
transactions involving the sale or lease of copyrighted articles are 
governed by the general property rules and not the intangible property 
rules.
    The final regulations make several changes in response to this 
comment. Consistent with the request in the comment, the definition of 
``intangible property'' for purposes of section 250 is clarified to not 
include a copyrighted article as defined in Sec.  1.861-18(c)(3). See 
Sec.  1.250(b)-3(b)(11). However, the rules for determining foreign use 
that apply to general property are not suitable for sales of digital 
content, including copyrighted articles, that are transferred 
electronically, because those rules focus on the physical transfer of 
property to end users. Therefore, the final regulations provide an 
additional rule for sales of general property that primarily contain 
digital content. See Sec.  1.250(b)-4(d)(1)(ii)(D). Under the final 
regulations, ``digital content'' is defined as a computer program or 
any other content in digital format. See Sec.  1.250(b)-3(b)(1). The 
determination of how a transfer of a copyrighted article is 
characterized (for example, as a sale or a service) for purposes of 
applying the final regulations is based on general U.S. tax principles, 
taking into account the regulations issued under section 861.\5\
---------------------------------------------------------------------------

    \5\ See proposed Sec.  1.861-18(a) (84 FR 40317) (adding section 
250 to the list of provisions to which Sec.  1.861-18 applies).
---------------------------------------------------------------------------

    Notwithstanding the final regulations' treatment of sales of 
copyrighted articles for purposes of determining foreign use, no 
inference is intended with respect to the treatment of sales of 
copyrighted articles under other sections of the Code. For example, the 
fact that a sale of a copyrighted article (or other property) is 
treated as a FDDEI sale does not necessarily mean that the income from 
the sale is foreign source under section 861.

B. Foreign Military Sales and Services

    The proposed regulations provided that for purposes of section 250 
a sale of property or a provision of service to the U.S. government 
that is governed by the Arms Export Control Act of 1976, as amended (22 
U.S.C. 2751 et. seq.), is treated as a sale of property or provision of 
a service to a foreign government, and therefore may qualify as a FDDEI 
transaction if the other requirements under proposed Sec. Sec.  
1.250(b)-3 through 1.250(b)-6 are satisfied. See proposed Sec.  
1.250(b)-3(c). The proposed regulations requested comments on 
identifying readily available documentation sufficient to demonstrate 
that a particular sale or service was made pursuant to the Arms Export 
Control Act.
    Several comments requested removal of the requirement in proposed 
Sec.  1.250(b)-3(c) that the resale or on-service to a foreign 
government or agency or instrumentality thereof must be ``on commercial 
terms.'' The comments asserted that this requirement was ambiguous and 
observed that the taxpayer would not necessarily have access to the 
contract between the U.S. government and the foreign counterparty and 
therefore could not necessarily evaluate the commerciality of such 
contract. The comments also objected to the requirement that the 
contract between the taxpayer and the U.S. government specifically 
refer to the resale or on-service to the foreign government, stating 
that the contract may not always specify this information but that the 
resale or on-service could be evidenced by the taxpayer's generally 
available records.
    In response to the preamble's request for comments on suitable 
documentation to demonstrate that a foreign military sale qualifies 
under this special rule, several comments noted that no one particular 
document will suffice to demonstrate that a given sale or service 
qualifies. Nevertheless, comments stated that ordinary course 
documentation should suffice to show that the sale or service 
qualifies. If the final regulations were to retain a list of particular 
documents required to demonstrate that a particular sale or service was 
made pursuant to the Arms Export Control Act, the comments suggested 
various types of documents that might be available but also stated that 
any list of these documents should be non-exclusive since any one 
document may not exist for a particular sale or service, and, in any 
event, the Department of Defense and the State Department modify their 
forms frequently. One comment asked for transitional relief for any 
pre-existing contracts, if the final regulations were to provide an 
exclusive list of required documentation. Another comment requested a 
presumption of foreign use in the context of foreign military sales 
based on the high likelihood that defense articles would satisfy 
foreign use--sales made pursuant to the Arms Export Control Act are 
limited to foreign strategic partners who intend to use

[[Page 43051]]

articles in a certain manner, such as, self-defense and internal 
security--and the low likelihood that a foreign person could use a 
defense article within the United States.
    In general, the final regulations adopt the comments. Section 
1.250(b)-3(c) does not include a requirement that the foreign military 
sale or service be ``on commercial terms'' or that the contract 
specifically refer to the resale or on-service to the foreign 
government. Instead, if a sale of property or a provision of a service 
is made pursuant to the Arms Export Control Act, then the sale of 
property or provision of a service is treated as a FDDEI sale or FDDEI 
service without needing to apply the general rules in Sec.  1.250(b)-4 
or Sec.  1.250(b)-5. See Sec.  1.250(b)-3(c). The final regulations 
also do not require any particular documentation to substantiate that a 
transaction qualifies under the rule in Sec.  1.250(b)-3(c). Taxpayers 
will continue to be required to substantiate under section 6001 that 
any foreign military sale or service qualifies for a section 250 
deduction.

C. Reliability of Documentation and Reason To Know Standard

    The proposed regulations provided that to establish that a 
recipient is a foreign person, property is for a foreign use, or a 
recipient of a general service is located outside the United States, 
the taxpayer must obtain specific types of documentation described in 
proposed Sec. Sec.  1.250(b)-4(c)(2), (d)(3), and (e)(3) and 1.250(b)-
5(d)(3) and (e)(3). The proposed regulations also provided that the 
seller or renderer must not know or have reason to know that the 
documentation is incorrect or unreliable. Proposed Sec.  1.250(b)-
3(d)(1). One comment requested that the final regulations provide more 
guidance and relevant examples regarding the scope of this rule, in 
particular what knowledge should be imputed across a large organization 
and how the standard should apply when relevant information is legally 
protected by data privacy laws.
    As described in part II of this Summary of Comments and Explanation 
of Revisions section, the final regulations replace the documentation 
requirements with substantiation rules that are more flexible with 
respect to the types of corroborating evidence that may be used. The 
knowledge or reason to know standard is retained in Sec. Sec.  
1.250(b)-3(f)(3) (treatment of certain loss transactions), 1.250(b)-
4(c)(1) (foreign person requirement), (d)(1)(iii)(C) (general property 
incorporated into a product as a component) and (d)(2)(ii)(C)(2) (sale 
of intangible property consisting of a manufacturing method or process 
to a foreign unrelated party), and 1.250(b)-5(d)(1) (general services 
provided to consumers). In response to comments, the final regulations 
provide additional detail regarding the application of the reason to 
know standard in these sections. The final regulations generally 
provide that a taxpayer has reason to know that a transaction fails to 
satisfy a substantive requirement if the information that the taxpayer 
receives as part of the sales process contains information that 
indicates that the substantive requirement is not met and, after making 
reasonable efforts, the taxpayer cannot establish that the substantive 
requirement is met. See Sec. Sec.  1.250(b)-3(f)(3), 1.250(b)-4(c)(1), 
(d)(1)(iii)(C) and (d)(2)(ii)(C)(2), and Sec.  1.250(b)-5(d)(1).

D. Sales or Services to a Partnership

    For purposes of determining a taxpayer's FDII attributable to sales 
of property or services to a partnership, the proposed regulations 
adopted an entity approach to partnerships. See proposed Sec.  
1.250(b)-3(g)(1). One comment suggested that if a seller of a good has 
a greater than 10 percent ownership interest in the recipient domestic 
partnership, the final regulations should also permit aggregate 
treatment of the partnership for this limited purpose. The comment 
observed that the proposed regulations do not permit sales to a 
domestic partnership to qualify as a FDDEI sale because a domestic 
partnership is not a foreign person under proposed Sec.  1.250(b)-
3(b)(2). According to the comment, in certain industries, customers 
request ``teaming arrangements'' that require bidders to form a single 
domestic bidding entity that will govern the relationship between the 
members of the team, but most of the work is performed by the partners, 
under subcontract from the partnership. The comment recommended that 
the practice of joint bidding should not disqualify the activity for 
FDII purposes.
    With respect to a taxpayer's sales of property to a partnership, 
one comment suggested that the final regulations consider alternatives 
to a pure entity approach. The comment outlined two other approaches to 
determine if a sale to a partnership qualifies as a FDDEI sale based on 
whether the partnership is predominantly engaged in foreign business or 
a pure aggregate approach to treat the partnership as a foreign person 
to the extent of its ownership by direct or indirect foreign partners. 
With respect to a partnership engaged in multiple lines of business, 
each business could be viewed as a separate person for FDII purposes. 
While the comment did not support an aggregate approach or advocate a 
specific approach, the comment noted that the Treasury Department and 
the IRS should balance legislative intent, administrative burden, and 
precision.
    The final regulations do not adopt these comments. The statute is 
clear that in the case of sales of property, the sale must be to a 
person that is not a United States person, and a domestic partnership 
is a United States person. See part VII.B of this Summary of Comments 
and Explanation of Revisions section. In addition, requiring taxpayers 
to trace the ownership, potentially through multiple tiers, of third-
party partnership recipients presents significant administrative 
hurdles. If, alternatively, this regime were elective, it would create 
the potential for abuse or uneven results for similarly situated 
taxpayers.

E. Treatment of Certain Loss Transactions

    The proposed regulations provided that if a seller or renderer 
knows or has reason to know that property is sold to a foreign person 
for a foreign use or a general service is provided to a person located 
outside the United States, but the seller or renderer does not satisfy 
the documentation requirements applicable to such sale or service, the 
sale of property or provision of a service is nonetheless deemed a 
FDDEI transaction if treating the sale or service as a FDDEI 
transaction would reduce a taxpayer's FDDEI. See proposed Sec.  
1.250(b)-3(f). One comment requested a clarification that taking the 
FDII deduction should be considered an elective action and that this 
rule does not impact such an election.
    As described in part II of this Summary of Comments and Explanation 
of Revisions section, in response to comments, the final regulations 
adopt a more flexible approach to the FDII-specific documentation rules 
and instead provide specific substantiation requirements for certain 
elements of the regulations. Accordingly, the rule with respect to loss 
transactions is revised so that it only applies to transactions for 
which there is a specific substantiation requirement. See Sec.  
1.250(b)-3(f)(3)(i). However, the fact that Sec.  1.250(b)-3(f)(3) has 
been narrowed in the final regulations does not mean that the allowed 
FDII deduction can be determined on a transaction-by-transaction basis. 
As provided in the final regulations, FDII is determined on a single 
aggregate basis, not on a

[[Page 43052]]

transaction-by-transaction basis. See Sec.  1.250(b)-1.
    The final regulations also clarify that for purposes of the loss 
transaction rule, whether a taxpayer has reason to know that a sale of 
property is to a foreign person for a foreign use, or that a general 
service is provided to a business recipient located outside the United 
States, depends on the information received as part of the sales 
process. If the information received as part of the sales process 
contains information that indicates that a sale is to a foreign person 
for a foreign use or that a general service is to a business recipient 
located outside the United States, the requisite reason to know is 
present unless the taxpayer can prove otherwise. See Sec.  1.250(b)-
3(f)(3)(ii). With respect to sales, the final regulations provide a 
non-exhaustive list of information that indicates that a recipient is a 
foreign person or that the sale is for a foreign use, such as a foreign 
address or phone number. While not all sales to a foreign person are 
for a foreign use (nor are all sales for a foreign use made to foreign 
persons), the final regulations use the same indicia for both 
requirements because a foreign person is more likely to make a purchase 
for a foreign use compared to a U.S. person. With respect to general 
services, information that indicates that a recipient is a business 
recipient include indicia of a business status, such as ``LLC'' or 
``Company,'' or similar indicia under applicable law, in its name. 
Information that indicates that a business recipient is located outside 
the United States includes, but is not limited to, a foreign phone 
number, billing address, and evidence that the business was formed or 
is managed outside the United States. These rules can also apply in the 
case of sales made by related parties where the foreign related party 
is treated as the seller and the unrelated party transaction is being 
analyzed. See Sec.  1.250(b)-6(c)(2).
    The final regulations do not include a rule specifying that a 
taxpayer may choose not to claim a FDII deduction. Whether an allowable 
deduction must be claimed is governed by general tax principles and 
rules on whether such deduction can be elective is beyond the scope of 
these regulations.

F. Predominant Character Rule

    The proposed regulations provided that if a transaction includes 
both a sale component and a service component, the transaction is 
classified according to the overall predominant character of the 
transaction for purposes of determining whether the transaction is 
subject to the FDDEI sales rules of proposed Sec.  1.250(b)-4 or the 
FDDEI services rules of proposed Sec.  1.250(b)-5. See proposed Sec.  
1.250(b)-3(e). A comment expressed support for the predominant 
character rule for transactions that contain both sale and service 
components in general but also suggested that the final regulations 
allow taxpayers to elect to follow U.S. GAAP accounting, which may in 
certain circumstances require the disaggregation of the sale and 
service components of a single transaction.
    For purposes of simplicity and to avoid the need for complex 
apportionment rules, Sec.  1.250(b)-3(d) provides a rule to determine 
the predominant character of the transaction when a transaction has 
multiple elements, such as a sale of general property and a service or 
sale of general property and sale of intangible property. The Treasury 
Department and the IRS have determined that an elective rule that 
allows for disaggregation would create significant complexity for 
taxpayers and be difficult for the IRS to administer, and could lead to 
whipsaw for the IRS as taxpayers elect to disaggregate when it 
increases the FDII deduction but not otherwise. Accordingly, the final 
regulations do not adopt the comment to include an election to follow 
U.S. GAAP to disaggregate a single transaction.

VII. Comments on and Revisions to Proposed Sec.  1.250(b)-4--FDDEI 
Sales

    Section 250(b)(4)(A) provides that FDDEI includes income from 
property the taxpayer sells to any person who is not a U.S. person and 
that the taxpayer establishes to the satisfaction of the Secretary is 
for a foreign use. Accordingly, the proposed regulations defined a 
FDDEI sale as a sale of property to a foreign person for a foreign use. 
See proposed Sec.  1.250(b)-4(b).

A. End User Requirement

    The proposed regulations provided that a sale of intangible 
property is for a foreign use to the extent the intangible property 
generates revenue from exploitation outside the United States, which is 
generally determined based on the location of end users purchasing 
products for which the intangible property was used in development, 
manufacture, sale, or distribution. See proposed Sec.  1.250(b)-
4(e)(2)(i).
    Several comments requested that the final regulations clarify the 
definition of an ``end user.'' One comment recommended that an ``end 
user'' be defined as any consumer or business recipient that purchases 
a finished good for its own use or consumption (not for resale or 
further manufacture, assembly, or other processing). Another 
recommended that the finished good manufacturer or original equipment 
manufacturer, rather than the ultimate customer of the manufacturer, be 
treated as the end user.
    The final regulations generally adopt the comment that the end user 
should be the consumer that purchases the property for its own 
consumption. See Sec.  1.250(b)-3(b)(2). Further, as discussed in part 
VII.C.1 of this Summary of Comments and Explanation of Revisions 
section, the concept of an end user is also incorporated into the rules 
for determining whether a sale of general property, in addition to 
intangible property, is for a foreign use. See Sec.  1.250-4(d). In 
this way, to the extent possible, the final regulations harmonize the 
rules for sales of general property and intangible property.
    Section 1.250(b)-3(b)(2) defines the ``end user'' as the person 
that ultimately uses the property, and that a person who acquires 
property for resale or otherwise as an intermediary is not an end user. 
The definition of end user is modified for intangible property used in 
connection with the sale of general property, provision of services, 
sale of a manufacturing method or process intangible property, and for 
research and development as provided in Sec.  1.250(b)-4(d)(2)(ii).
    The final regulations do not adopt the comments that in all cases a 
finished goods manufacturer may be an end user. However, as described 
in part VII.C.7 of this Summary of Comments and Explanation of 
Revisions section, the final regulations continue to provide that sales 
of general property for manufacturing, assembly, or other processing 
outside the United States are sales for a foreign use. See Sec.  
1.250(b)-4(d)(1)(iii). In addition, as described in part VII.D.4 of 
this Summary of Comments and Explanation of Revisions section, an 
unrelated manufacturer (such as an original equipment manufacturer) 
that uses intangible property that consists of a manufacturing method 
or process, as provided in Sec.  1.250(b)-4(d)(2)(ii)(C), is treated as 
the end user if it has purchased (or licensed) the manufacturing method 
or process intangible property from an unrelated party.

B. Foreign Person

    The proposed regulations provided that a recipient is treated as a 
foreign person only if the seller obtains documentation of the 
recipient's foreign status and does not know or have reason to know 
that the recipient is not a foreign person. See proposed Sec.  
1.250(b)-4(c)(1). The proposed regulations

[[Page 43053]]

provided several types of permissible documentation for this purpose, 
such as a written statement by the recipient indicating that the 
recipient is a foreign person. See proposed Sec.  1.250(b)-4(c)(2)(i).
    As explained in part II of this Summary of Comments and Explanation 
of Revisions section, in response to comments, the final regulations 
remove the specific documentation requirements with respect to certain 
requirements, including the foreign person requirement, and further 
identify the substantive standards by which taxpayers must meet the 
requirements of the FDII regime. To address situations in which 
taxpayers may not be able to determine whether the recipient is a 
foreign person within the meaning of section 7701(a)(1), the final 
regulations provide that the sale of property is presumed made to a 
recipient that is a foreign person if the sale is as described in one 
of four categories: (1) Foreign retail sales; (2) sales of general 
property that are delivered to an address outside the United States; 
(3) in the case of general property that is not sold in a foreign 
retail sale or delivered overseas, the billing address of the recipient 
is outside the United States; or (4) in the case of sales of intangible 
property, the billing address of the recipient is outside the United 
States. See Sec.  1.250(b)-4(c)(2)(i) through (iv). The presumption 
does not apply if the seller knows or has reason to know that the sale 
is to a recipient other than a foreign person. See Sec.  1.250(b)-
4(c)(1). The final regulations also specify that a seller has reason to 
know that a sale is to a recipient other than a foreign person if the 
information received as part of the sales process contains information 
that indicates that the recipient is not a foreign person and the 
seller fails to obtain evidence establishing that the recipient is in 
fact a foreign person. See Sec.  1.250(b)-4(c)(1). Information that 
indicates that a recipient is not a foreign person includes, but is not 
limited to, a United States phone number, billing address, shipping 
address, or place of residence; and, with respect to an entity, 
evidence that the entity is incorporated, formed, or managed in the 
United States. Id.
    One comment requested that the final regulations include exceptions 
similar to the foreign military sales rule in the proposed regulations 
for other sales or licenses of property through an intermediate 
domestic person. The comment asserted that, for various business 
reasons including historic relationships with unrelated parties and 
efficiencies from entering into global deals to sell property to 
unrelated parties, certain U.S. manufacturers sell products to another 
U.S. entity, even though that intermediary never actually takes 
possession, and the product is immediately resold to a foreign person 
and used outside the United States. In the licensing context, a U.S. 
taxpayer may enter a global licensing deal with another U.S. entity 
whereby this intermediary is granted the authority to sub-license the 
intangible property to its foreign affiliates. While in both cases the 
transactions could potentially be restructured so that the taxpayer 
enters into the transactions with a foreign person that is related to 
the U.S. intermediary, the comment suggested that unrelated 
counterparties could demand compensation for any restructuring. The 
comment also noted that the title to section 250(b)(5)(B) references 
rules for ``[p]roperty or services provided to domestic 
intermediaries,'' suggesting that Congress contemplated situations 
where sales to a U.S. intermediary could be treated as a sale to a non-
U.S. person, although the rule itself does not reference domestic 
intermediaries.
    As explained in the preamble to the proposed regulations, section 
250(b)(4)(A)(i) requires that a sale of property (which includes 
licenses of intangible property) be made to a person who is not a 
United States person. This requirement ensures that only the domestic 
corporation that makes the final sale to a foreign person can claim a 
section 250 deduction for a FDDEI sale (rather than allowing the 
benefit to multiple unrelated domestic corporations that all 
participate in a sale). Furthermore, the Treasury Department and the 
IRS do not agree that the heading to section 250(b)(5)(B) implies an 
exception to the requirement in section 250(b)(4)(A)(i) that the sale 
be to a foreign person. The rule in section 250(b)(5)(B)(i) refers only 
to other ``persons'' and is not limited to domestic persons. In 
contrast, the Treasury Department and the IRS have determined that it 
is necessary and appropriate to provide a special rule for military 
sales in recognition that sales pursuant to the Arms Export Control Act 
are required to be made to the U.S. government, but are in effect sales 
to a foreign government. Therefore, the comment is not adopted.

C. Foreign Use of General Property

1. Determination of Foreign Use in General
    The proposed regulations provided that the sale of general property 
is for a foreign use if either the property is not subject to domestic 
use within three years of delivery of the property or the property is 
subject to manufacture, assembly, or other processing outside the 
United States before any domestic use of the property. See proposed 
Sec.  1.250(b)-4(d)(2)(i). Domestic use was defined in the proposed 
regulations as the use, consumption, or disposition of property within 
the United States, including manufacture, assembly, or other processing 
within the United States. See proposed Sec.  1.250(b)-4(d)(2)(ii). In 
order to establish that general property is for a foreign use, the 
seller must generally obtain certain documentation with respect to the 
sale, such as proof of shipment of the property to a foreign address, 
and the seller cannot know or have reason to know that the property is 
not for a foreign use. See proposed Sec.  1.250(b)-4(d)(1) and (3).
    Several comments noted that the definition of foreign use combined 
with the narrow documentation requirements make it difficult for 
taxpayers to satisfy the foreign use requirement. Several comments 
interpreted the proposed regulations as requiring taxpayers to 
determine whether general property that was sold would actually be 
subject to a domestic use within three years of the date of delivery. 
Other comments similarly expressed confusion regarding the obligation 
imposed on taxpayers to determine whether there was a reason to know 
that property would be subject to a domestic use. One comment requested 
that the Treasury Department and the IRS treat certain types of sales, 
such as foreign retail sales at a physical store even where the 
consumer might ultimately use the property within the United States, as 
sales for foreign use.
    As explained in part II of this Summary of Comments and Explanation 
of Revisions section, in response to comments on documentation, the 
final regulations take a more flexible approach to documentation and 
provide specific substantiation requirements for certain transactions 
(described in part VII.C.9 of this Summary of Comments and Explanation 
of Revisions section).
    In addition, with respect to the requirement of ``foreign use'' for 
sales of general property, the final regulations clarify the meaning of 
that term to provide that it generally means the sale (or eventual 
sale) of the property to end users outside the United States or the 
sale of the property to a person that subjects the property to 
manufacture, assembly, or other processing outside the United States. 
See Sec.  1.250(b)-4(d)(1)(ii) and (iii). Consistent with the 
recommendations from comments, the Treasury Department and the IRS have 
determined that a more flexible

[[Page 43054]]

definition of foreign use of general property that accounts for the 
possibility of some limited domestic use is more reasonable for 
taxpayers to apply and for the IRS to administer. Accordingly, the 
final regulations eliminate the requirement that the taxpayer have no 
``reason to know'' of some domestic use for sales of general property. 
As described in part VII.C.2 through 8 of this Summary of Comments and 
Explanation of Revisions section, the final regulations generally 
provide that the sale of general property is for a foreign use if the 
seller determines that such sale is to an end user described in one of 
five categories. See Sec.  1.250(b)-4(d)(1)(ii)(A)-(F).
2. Delivery of Property Outside the United States
    The first category of sales that are for a foreign use is sales to 
a recipient that are delivered by a freight forwarder or carrier to an 
end user if the end user receives delivery of the general property 
outside the United States. See Sec.  1.250(b)-4(d)(1)(ii)(A). The 
Treasury Department and the IRS have determined that, in general, if an 
end user receives delivery of general property outside the United 
States, the general property will be ``for a foreign use'' as 
contemplated by section 250(b)(4)(A)(ii) and additional detail 
regarding the actual use of the property is unnecessary. However, it 
would be inappropriate to treat these sales as FDDEI sales if the 
seller and buyer arrange for general property to be delivered to a 
location outside the United States only to be redelivered for use or 
consumption into the United States with a principal purpose of causing 
what would otherwise not be a FDDEI sale to be treated as a FDDEI sale. 
Therefore, Sec.  1.250-4(b)(1)(ii)(A) provides an anti-abuse rule to 
address these concerns.
3. Location of Property Outside the United States
    The second category of sales that are for a foreign use is sales of 
general property to an end user where the property is already located 
outside the United States, and includes foreign retail sales. See Sec.  
1.250(b)-4(d)(1)(ii)(B). In general, sales of general property from a 
foreign retail sale will be used outside the United States. While it 
may be possible that some end users will purchase property in a foreign 
retail store and use it solely within the United States, the Treasury 
Department and the IRS have determined that requiring a determination 
of the actual use of these sales would be unnecessarily burdensome.
4. Resale of Property Outside the United States
    The third category of sales for a foreign use is sales to a 
recipient such as a distributor or retailer that will resell the 
general property, if the seller determines that the general property 
will ultimately be sold to end users outside the United States. See 
Sec.  1.250(b)-4(d)(1)(ii)(C). This category is intended to apply to 
sales to distributors and retailers, but may also apply to other sales 
to foreign persons for resale. In addition, the final regulations 
provide that for purposes of this rule, the seller must substantiate 
the portion of sales to end users outside the United States under the 
rules described in parts II and VII.C.9 of this Summary of Comments and 
Explanation of Revisions section.
    The proposed regulations contained alternative documentation 
requirements for a sale of multiple items of general property that 
because of their fungible nature are difficult to specifically trace to 
a location of use (fungible mass). See proposed Sec.  1.250(b)-
4(d)(3)(iii). Under the proposed regulations, a seller establishes 
foreign use of a fungible mass through market research, including 
statistical sampling, economic modeling and other similar methods. Id. 
The proposed regulations also provided that if a seller establishes 
that 90 percent or more of a fungible mass is for a foreign use, the 
entire fungible mass is treated as for a foreign use and if the seller 
cannot establish that 10 percent or more of the sale of a fungible mass 
is for a foreign use, then no part of the fungible mass is treated as 
for a foreign use. Id.
    One comment stated that the fungible mass rules created overly 
stringent documentation requirements that were unnecessary, 
impractical, and unreliable because a U.S. seller would need to perform 
market research in order to meet the 90 percent threshold to qualify 
for foreign use. Conversely, the comment noted that a U.S. seller that 
could not meet the 10 percent threshold through market research could 
see their deduction eliminated in its entirety. The comment suggested 
instead a rebuttable presumption that fungible mass property sold 
outside the United States is for a foreign use unless a taxpayer knows 
or has reason to know that a material amount will be used within the 
United States.
    In response to the comment, the final regulations eliminate the 10 
percent and 90 percent thresholds and apply a proportionate rule. See 
Sec.  1.250(b)-4(d)(1)(ii)(C). Under this rule, in the case of a sale 
of a fungible mass of general property, if a portion of the property 
sold is not for a foreign use, the seller may rely on the proportion of 
the recipient's resales of fungible mass to end users outside the 
United States to determine its proportion of ultimate sales to end 
users outside the United States. Id. In addition, the Treasury 
Department and the IRS have determined that prescribing specific 
methods such as market research, statistical sampling, economic 
modeling, and other similar methods to determine foreign use from the 
sale of a fungible mass of general property (or a sale of any general 
property) is unnecessary given the more flexible approach to 
documentation. It should be noted that market research or information 
from public data, such as general internet searches of secondary 
sources, is generally not a source of reliable information. In 
contrast, statistical sampling, economic modeling, or market research 
based on the taxpayer's own data will be more reliable.
5. Electronic Transfer of Digital Content Outside the United States
    The fourth category of sales for a foreign use is for sales of 
digital content that are transferred electronically. Sales of digital 
content transferred in a physical medium are for a foreign use if 
described in one of the first three categories. The final regulations 
provide that digital content that is transferred electronically is for 
a foreign use if it is sold to a recipient that is an end user that 
downloads, installs, receives, or accesses the digital content on the 
end user's device outside the United States. See Sec.  1.250(b)-
4(d)(1)(ii)(D). However, if this information is unavailable, such as 
where the device's internet Protocol address (``IP address'') is not 
available or does not serve as a reliable proxy for the end user's 
location (for example, using a business headquarters' IP address when 
it has employees located both within and outside the United States who 
use the digital content), then the sale is for a foreign use if made to 
an end user with a foreign billing address, but only if the gross 
receipts from all sales with respect to the end user (which may be a 
business) are in the aggregate less than $50,000.
6. International Transportation Property
    The fifth category of sales for a foreign use is sales of 
international transportation property. The proposed regulations 
provided a special rule for determining whether transportation property 
like aircraft, railroad rolling stock, vessels, motor vehicles or 
similar property that travels internationally is

[[Page 43055]]

sold for foreign use and therefore constitutes a FDDEI sale. See 
proposed Sec.  1.250(b)-4(d)(2)(iv). Under this rule, such 
transportation property is sold for foreign use only if during the 
three-year period from the date of delivery of the property the 
property is located outside the United States more than 50 percent of 
the time and more than 50 percent of the miles traversed in the use of 
such property will be traversed outside the United States. The seller 
can establish that these criteria are satisfied by obtaining a written 
statement from the recipient that the property is anticipated to 
satisfy these tests over the requisite three-year period. See proposed 
Sec.  1.250(b)-4(d)(3)(i)(A). With respect to air transportation, the 
proposed regulations provided that, for purposes of the above tests, 
international transportation property is deemed to be within the United 
States at all times during which it is engaged in transport between any 
two points within the United States, except where the transport 
constitutes uninterrupted international air transportation within the 
meaning of section 4262(c)(3) and the regulations under that section. 
See proposed Sec.  1.250(b)-4(d)(2)(iv).
    One comment suggested supplementing these tests with a rebuttable 
presumption that any foreign-registered aircraft sold to a foreign 
person is for foreign use. The comment observes that ``cabotage rules'' 
significantly restrict the use of foreign registered aircraft within 
the United States such that a foreign registered aircraft cannot travel 
between two points in the United States unless the route is part of a 
through trip on the way to, or coming from, a foreign destination. The 
comment further noted that the ability of foreign persons to register 
aircraft in the United States is restricted. Therefore, the comment 
proposed that a document evidencing foreign registration of an aircraft 
to a foreign person should suffice to establish foreign use.
    Other comments suggested changes to the thresholds in the foreign 
use tests in the proposed regulations. Several comments suggested 
reducing the thresholds from 50 percent to 20 percent and making these 
tests disjunctive. Another comment would retain the 50 percent 
threshold but eliminate the three-year period so that the foreign use 
test would only have to be satisfied as of the filing date of the FDII 
return, and that the taxpayer be permitted to elect annually to 
bifurcate income from foreign and domestic use based on the percentage 
of actual time spent or miles traversed outside and inside the United 
States. A different comment suggested reducing the three-year period to 
one year after the date of delivery.
    The Treasury Department and the IRS generally agree with the 
comment that place of registration is appropriate as evidence of 
``use.'' Therefore, the final regulations provide that international 
transportation property used for compensation or hire is considered for 
a foreign use if it is sold to an end user that registers the property 
with a foreign jurisdiction. See Sec.  1.250(b)-4(d)(1)(ii)(E). The 
final regulations provide that other international transportation 
property is considered for a foreign use if sold to an end user that 
registers the property with a foreign jurisdiction and the property is 
hangared or primarily stored outside the United States. See Sec.  
1.250(b)-4(d)(1)(ii)(F). This rule reflects the fact that many 
recipients of international transportation property will not be further 
using the property for the provision of international transportation 
services. As a result, the property will be primarily used in the place 
it is registered or otherwise hangared or stored. Even if such property 
enters the United States, because it originated in a different country, 
the use should not be considered domestic use because the international 
transportation property will generally be located outside the United 
States. As a result, the Treasury Department and the IRS have 
determined that there is no need to determine the amount of time or 
miles that such property is inside or outside the United States.
    Finally, one comment suggested expanding the definition of 
transportation property to include parts of transportation property 
like engines, tires, electronic equipment and spare parts, even if such 
parts would not otherwise satisfy the foreign use tests for general 
property. The comment expressed concern that the sale of parts that 
were included within international transportation property could fail 
the foreign use test for general property because the parts may enter 
the United States as part of the transportation property. At the same 
time, such parts would be ineligible for the special rules for 
international transportation property. The comment suggested expanding 
the definition of transportation property to include additional parts, 
even if such parts would not otherwise satisfy the foreign use tests 
for general property.
    This comment is not adopted. Such a rule would be administratively 
burdensome and could lead to inconsistency through the application of 
two sets of rules to the same transaction and property. Furthermore, 
the Treasury Department and the IRS have determined that the concerns 
that were the basis for the comment are generally addressed through the 
adoption of the new general rules with respect to general property and 
international transportation property. In particular, parts that are 
used outside the United States by an end user, including when 
incorporated into transportation property through manufacturing, 
assembly or other processing, would generally be considered for a 
foreign use under the general test for general property. As described 
in part VII.C.1 of this Summary of Comments and Explanation of 
Revisions section, this is the case even if there is the possibility of 
some domestic use of the property.
7. Manufacturing, Assembly, or Other Processing Outside the United 
States
    As described in part VII.C.1 of this Summary of Comments and 
Explanation of Revisions section, the proposed regulations provided 
that the sale of general property is for a foreign use if either the 
property is not subject to domestic use within three years of delivery 
of the property or the property is subject to manufacture, assembly, or 
other processing outside the United States before any domestic use of 
the property. See proposed Sec.  1.250(b)-4(d)(2)(i). Under the 
proposed regulations, general property is subject to manufacturing, 
assembly, or other processing only if it meets either of the following 
two tests: (1) There is a physical and material change to the property, 
or (2) the property is incorporated as a component into a second 
product. See proposed Sec.  1.250(b)-4(d)(2)(iii)(A).
    The proposed regulations clarified that a physical and material 
change does not include ``minor assembly, packaging, or labeling.'' See 
proposed Sec.  1.250(b)-4(d)(2)(iii)(B). Whether property has undergone 
a physical and material change (as opposed to minor assembly, 
packaging, or labeling) is determined based on all the relevant facts 
and circumstances. The proposed regulations provided that general 
property is incorporated as a component into a second product only if 
the fair market value of the property when it is delivered to the 
recipient constitutes no more than 20 percent of the fair market value 
of the second product, determined when the second product is completed. 
See proposed Sec.  1.250(b)-4(d)(2)(iii)(C). For purposes of this rule, 
the proposed regulations included an aggregation rule providing that if 
the seller sells multiple items of property that are incorporated into 
the second product, all of the property sold by the seller that is

[[Page 43056]]

incorporated into the second product is treated as a single item of 
property.
    Several comments recommended that the final regulations provide 
more flexibility in satisfying the manufacturing, assembly, or other 
processing rule, especially in the context of sales to foreign 
unrelated parties where information to establish the two distinct tests 
may not be readily available. Several comments suggested that the 
``physical and material change'' test should be satisfied where general 
property is subject to processing or manufacturing activities that are 
substantial in nature and that are generally considered to constitute 
manufacturing or production of a substantially different product. Other 
comments suggested that the final regulations could provide for such a 
``substantial in nature'' rule as a third test in addition to the 
``physical and material change'' and component tests. Comments also 
recommended a rebuttable presumption where a taxpayer could show that 
the physical and material change test had been met through reasonable 
documentation created in the ordinary course of its business. In 
addition, these comments suggested that general property sold to an 
unrelated party can be presumed to be sold for use, consumption, or 
disposition in the country of destination of the property sold, unless 
the taxpayer knows, or has reason to know otherwise.
    With respect to the component test, comments suggested the 20 
percent threshold should function as a safe harbor similar to the safe 
harbor under the subpart F components manufacturing rule in Sec.  
1.954-3(a)(4)(iii). Another comment suggested the addition of a facts 
and circumstances test. Citing concerns with lack of readily available 
information, comments further suggested allowing taxpayers to satisfy 
the 20 percent threshold through market research or other methods 
similar to the fungible mass rule. Another comment suggested the 20 
percent threshold was too low and should be increased to 50 percent. In 
the case of sales of multiple components by the same seller, comments 
suggested that the sales should not be integrated unless actual 
knowledge exists as to where the products will be incorporated (such as 
knowledge that the product will be included in the same second product 
or the nature of the component compels inclusion into the second 
product).
    Comments also noted similarities and differences with the 
manufacturing, assembly, or other processing requirement under FDII and 
the manufacturing rules under subpart F. In particular, comments 
pointed out that in the subpart F context, the rules address parties 
under common control where information is more readily available, while 
in the FDII context, information may not be available. A CFC's foreign 
base company sales income does not include income of a CFC derived in 
connection with the sale of personal property manufactured, produced, 
or constructed by such corporation. Notably, Treasury regulations 
provide two special manufacturing rules, often referred to as, the 
``substantial transformation'' test and the ``component parts'' test. 
See Sec.  1.954-3(a)(4)(ii) and (iii). Under the first test, if 
property is ``substantially transformed'' by the CFC before sale, the 
property sold is considered manufactured, produced, or constructed by 
the selling corporation. Under the second test, a sale of property is 
treated as the sale of a manufactured product, rather than the sale of 
component parts, if the assembly or conversion of the component parts 
into the final product by the selling corporation involves activities 
that are substantial in nature and generally considered to constitute 
the manufacture, production, or construction of property. A CFC is 
deemed to have manufactured the product if its conversion costs 
represent 20 percent or more of the total cost of goods sold.
    In response to comments, the final regulations make several changes 
to the rule for manufacturing, assembly, and other processing. The 
final regulations clarify that general property is subject to a 
physical and material change if it is substantially transformed and is 
distinguishable from and cannot be readily returned to its original 
state. See Sec.  1.250(b)-4(d)(1)(iii)(B). The final regulations also 
provide a separate substantive rule for the component test and retain 
the 20 percent threshold as a safe harbor. See Sec.  1.250(b)-
4(d)(1)(iii)(C). Under this substantive rule, general property is a 
component incorporated into another product if the incorporation of the 
general property into another product involves activities that are 
substantial in nature and generally considered to constitute the 
manufacture, assembly, or other processing of property based on all the 
relevant facts and circumstances. Id. The final regulations also 
clarify that general property is not considered a component 
incorporated into another product if it is subject only to packaging, 
repackaging, labeling, or minor assembly operations. See id. While the 
structure and some of the mechanics of the rule share similarities with 
the subpart F manufacturing component parts test, the rule is different 
in terms of purpose and substance.
    Finally, in response to comments, the final regulations revise the 
safe harbor in the component test by specifying that the comparison 
should be between the fair market value of the property sold by the 
taxpayer and the fair market value of the final finished goods sold to 
consumers. See Sec.  1.250(b)-4(d)(1)(iii)(C). Because some general 
property could be incorporated into several different finished goods, 
the final regulations provide that a reliable estimate of the fair 
market value of the finished good could include the average fair market 
value of a representative range of the finished goods that could 
incorporate the component. An example of this is provided in Sec.  
1.250(b)-4(d)(1)(v)(B)(1) (Example 1). The final regulations also 
modify the aggregation rule so that it applies only if the seller sells 
the property to the buyer and knows or has reason to know that the 
components will be incorporated into a single item of property (for 
example, where multiple components are sold as a kit). The final 
regulations specify that a seller has reason to know that the 
components will be incorporated into a single item of property if the 
information received as part of the sales process contains information 
that indicates that the components will be included in the same second 
product or the nature of the components compels inclusion into the 
second product. See Sec.  1.250(b)-4(d)(1)(iii)(C).
8. Manufacturing, Assembly, or Other Processing in the United States
    Section 250(b)(5)(B)(i) provides that if a seller sells property to 
another person (other than a related party) for further manufacture or 
other modification within the United States, the property is not 
treated as sold for a foreign use even if such other person 
subsequently uses such property for a foreign use. Section 
250(b)(5)(B)(i) could apply in the case of a sale directly to a person 
that is a foreign person if the property is subject to further 
manufacture or other modification in the United States after the sale 
but before the property is delivered to the end user.
    As described in the preamble to the proposed regulations, the 
proposed regulations did not contain specific rules corresponding to 
section 250(b)(5)(B)(i) because that rule is encompassed within the 
general rules relating to FDDEI sales in the proposed regulations. The 
proposed regulations generally provided that general property is not 
for a foreign use if the property

[[Page 43057]]

is subject to a domestic use, which includes manufacture, assembly, or 
other processing within the United States. See proposed Sec.  1.250(b)-
4(d)(2)(i) and (ii)(B).
    Because the final regulations no longer define ``foreign use'' by 
reference to whether the property is subject to a domestic use, the 
rule in section 250(b)(5)(B)(i) is no longer encompassed within the 
general rules in the regulations relating to FDDEI sales. Accordingly, 
the final regulations include a rule that provides that if the seller 
sells general property to a recipient (other than a related party, for 
which separate rules apply) for manufacturing, assembly, or other 
processing within the United States, such property is not sold for a 
foreign use even if the requirements for foreign use are subsequently 
satisfied. See Sec.  1.250(b)-4(d)(1)(iv). For consistency, the final 
regulations cross reference the rules described in part VII.C.7 of this 
Summary of Comments and Explanation of Revisions section for the 
meaning of ``manufacturing, assembly, or other processing.''
9. Specific Substantiation for Foreign Use of General Property
    The final regulations specifically require a taxpayer to 
substantiate foreign use for general property for sales of general 
property to resellers and manufacturers. See Sec.  1.250(b)-4(d)(3)(ii) 
and (iii). In the case of sales to resellers, a taxpayer must maintain 
and provide credible evidence upon request that the general property 
will ultimately be sold to end users located outside the United States. 
See part VII.C.4 of this Summary of Comments and Explanation of 
Revisions section. This requirement is satisfied if the taxpayer 
maintains evidence of foreign use such as the following: a binding 
contract that limits sales to outside of the United States, proof that 
the general property is suited only for a foreign market, or proof that 
the shipping costs would be prohibitively expensive if sold back to the 
United States. See Sec.  1.250(b)-4(d)(3)(ii)(A)-(C). Certain 
information from the recipient or a taxpayer with corroborating 
evidence that credibly supports the information will also suffice. See 
Sec.  1.250(b)-4(d)(3)(ii)(D)-(E). With respect to manufacturing 
outside the United States, the substantiation requirements are met if a 
taxpayer maintains proof that the property is typically not sold to end 
users without being subject to manufacture, assembly or other 
processing, obtains credible information from a recipient, or, provides 
a statement containing certain information with corroborating evidence. 
See Sec.  1.250(b)-4(d)(3)(iii).

D. Foreign Use of Intangible Property

1. In General
    The proposed regulations provided that a sale of intangible 
property (which includes a license or any transfer of such property in 
which gain or income is recognized under section 367) is for a foreign 
use to the extent revenue is earned from exploiting the intangible 
property outside the United States. See proposed Sec.  1.250(b)-
4(e)(1). Where the revenue is considered earned is generally determined 
based on the location of the end user. See proposed Sec.  1.250(b)-
4(e)(2). The seller of the intangible property must satisfy certain 
documentation requirements showing foreign use and have no knowledge, 
or reason to know, that the portion of the sale of the intangible 
property for which the seller establishes foreign use is not for 
foreign use. The proposed regulations also provided rules to determine 
foreign use for the sale of intangible property to a foreign person in 
exchange for periodic payments or a lump sum payment. See proposed 
Sec.  1.250(b)-4(e)(2).
2. Substantiating Foreign Use of Intangible Property
    Several comments recommended changes to the documentation rules. In 
response to those comments, and as explained in part II of this Summary 
of Comments and Explanation of Revisions section, the final regulations 
adopt a more flexible approach to documentation, but require a taxpayer 
to specifically substantiate foreign use for sales of intangible 
property. See Sec.  1.250(b)-4(d)(3)(iv). A taxpayer must maintain and 
provide credible evidence upon request that a sale of intangible 
property will be used to earn revenue from end users located outside 
the United States. A taxpayer may satisfy the substantiation 
requirement by maintaining certain items as specified in the final 
regulations. See Sec.  1.250(b)-4(d)(3)(iv). For example, a binding 
contract providing that the intangible property can be exploited solely 
outside the United States would generally satisfy the substantiation 
requirements demonstrating foreign use of the intangible property. See 
Sec.  1.250(b)-4(d)(3)(iv)(A). Certain information from the recipient 
obtained or created in the ordinary course of business or corroborating 
evidence maintained by the taxpayer that credibly supports the 
information may also suffice. See Sec.  1.250(b)-4(d)(3)(iv)(B)-(C).
3. Determining Foreign Use of Intangible Property
    Comments suggested that sales with respect to intangible property 
be divided into several subcategories. One comment suggested dividing 
intangibles into production and marketing categories, with income from 
sales of production intangibles used in the development or manufacture 
of products outside the United States being FDDEI sales regardless of 
the location of the end user, and income from sales of marketing 
intangibles analyzed based on the location of the end user. Another 
comment suggested three subcategories of intangible sales: (i) Sales of 
manufacturing intangibles to foreign unrelated parties, which would be 
considered for a foreign use if manufacturing occurs outside the United 
States; (ii) sales of manufacturing intangibles to related parties, 
which would be considered for a foreign use if the end product is sold 
to a foreign person for foreign use; and (iii) sales of marketing 
intangibles, which would be considered for a foreign use if the end 
user purchases the resulting product outside the United States.
    Consistent with the proposed regulations, the final regulations 
provide that foreign use of intangible property is determined based on 
revenue earned from end users located within versus outside the United 
States. See Sec.  1.250(b)-4(d)(2)(i). The focus on the location of end 
users is derived from the requirement in section 250(b)(5)(A) that 
sales for a foreign use require ``use'' or ``consumption'' outside the 
United States and the end user is the person that ultimately consumes 
or uses the intangible property. In the case of legally protected 
intangible property (such as patents or trademarks), the location in 
which legal rights to the intangible property are granted and exploited 
generally determines the location of the end users. Therefore, for 
example, in the case of intangible property such as patents that 
provide rights only for markets outside the United States, the end 
users will generally be located solely outside the United States. In 
the case of intangible property that allows for worldwide exploitation 
(or intangible property that is not legally protected), a more specific 
determination of end users will generally be necessary to determine the 
portion of intangible property income that is for a foreign use versus 
not for a foreign use.
    In response to the comments received, the final regulations provide 
more detailed guidance on determining where

[[Page 43058]]

revenue is earned from end users of the intangible property, including 
rules for intangible property embedded in general property or used in 
connection with the sale of general property, intangible property used 
to provide services, and intangible property used in research and 
development. See Sec.  1.250(b)-4(d)(2)(ii). The final regulations also 
include rules for determining revenue earned from sales of a 
manufacturing method or process, which is similar to the separate rule 
for ``production intangibles'' or ``manufacturing intangibles'' that 
was suggested by comments.
    Revenue is generally earned from intangible property used to 
manufacture products or provide services through sales of such products 
or services, or from limited use licenses of the intangible property, 
whether those sales, services, or limited use licenses are executed by 
an owner, licensee, or sub-licensee of the intangible property. Until 
revenue is earned from sales, services, or limited-use licenses to the 
end user that ultimately consumes the property or receives the service, 
the intangible property is generally not ``exploited.'' Consistent with 
this view, the final regulations generally place the location of use of 
the intangible property with the location of the end user, which is 
generally the person who ultimately uses the general property in which 
the intangible property is embedded or associated with, or, if the 
intangible property is used to provide a service, the service 
recipient. See Sec.  1.250(b)-4(d)(2)(ii)(A) and (B). These rules 
provide the same determination of location of end user for sales or 
licenses of intangible property used in research and development. See 
Sec.  1.250(b)-4(d)(2)(ii)(D).
4. Intangible Property Used in Manufacturing
    The preamble to the proposed regulations requested comments 
regarding whether to adopt a rule for intangible property similar to 
proposed Sec.  1.250(b)-4(d)(2)(i)(B) (treating a sale of general 
property as for a foreign use if the property is subject to 
manufacturing, assembly, or other processing outside the United 
States). Several comments supported a rule that treats the sale of 
intangible property as for a foreign use where intangibles are used in 
manufacturing that takes place outside the United States. Some of the 
comments also suggested that footnote 1522 of the Conference Report to 
the Act supported this position because that footnote did not specify 
that its application is limited to only tangible property that is 
subject to manufacturing, assembling, or other processing outside the 
United States.\6\
---------------------------------------------------------------------------

    \6\ See H. Rept. 115-466, at 625, fn. 1522 (2017) (Conf. Rept.) 
(``If property is sold by a taxpayer to a person who is not a U.S. 
person, and after such sale the property is subject to manufacture, 
assembly, or other processing (including the incorporation of such 
property, as a component, into a second product by means of 
production, manufacture, or assembly) outside the United States by 
such person, then the property is for a foreign use.'').
---------------------------------------------------------------------------

    Based on comments received, the final regulations provide a special 
rule for sales to a foreign unrelated party of a manufacturing method 
or process or for know-how used to put the manufacturing method or 
process to use in manufacturing (the ``manufacturing method or process 
rule''). See Sec.  1.250(b)-4(d)(2)(ii)(C). The final regulations 
provide that when this rule applies, then the foreign unrelated party 
is treated as an end user located outside the United States, unless the 
seller knows or has reason to know that the manufacturing method or 
process will be used in the United States, in which case the foreign 
unrelated party is treated as an end user located within the United 
States. For purposes of this rule, reason to know is determined based 
on the information received from the recipient during the sales 
process. See Sec.  1.250(b)-4(d)(2)(ii)(C)(1).
    The manufacturing method or process rule does not apply to sales or 
licenses of a manufacturing method or process to an unrelated foreign 
party for purposes of manufacturing products for or on behalf of the 
seller of the manufacturing method or process or any of the seller's 
affiliates. See Sec.  1.250(b)-4(d)(2)(ii)(C)(2). Applying the 
manufacturing method or process rule to determine the end user with 
respect to such an arrangement, such as a contract or toll 
manufacturing arrangement, is not appropriate because the seller or 
related party to the seller is using the manufacturing method or 
process in manufacturing for itself. Such use by the seller is 
effectively a circular transfer of the intangible property back to the 
seller. However, the sale of the manufactured products by the seller of 
the manufacturing method or process or the seller's affiliates can 
still qualify as a FDDEI sale under other provisions such as Sec.  
1.250(b)-4(d)(1)(ii).
    The manufacturing method or process rule applies only to certain 
types of intangibles that are used in the manufacturing process. The 
distinction between the types of intangibles that qualify for this rule 
and other types of intangibles that may be used by manufacturers is 
based on a distinction between use of a patented method or process and 
use of other types of patented items. In all other cases, the foreign 
use of intangible property is determined based on revenue earned from 
end users located within versus outside the United States.
    The manufacturing method or process rule applies only to sales to 
unrelated parties (including sales made through related parties that 
ultimately result in a sale of the manufacturing method or process to 
an unrelated party). Section 250(b)(5)(C) provides that sales to 
related parties are treated as for a foreign use only if the property 
is ultimately sold or used in connection with property that is sold to 
an unrelated party who is not a United States person. While Sec.  
1.250(b)-6(c) gives effect to this rule by providing special rules for 
sales of general property to related parties (which apply in the case 
of sales of property to related parties for further manufacturing), 
those rules do not apply to sales of intangible property. Under the 
proposed regulations, a related party rule was not needed for sales of 
intangible property, including property consisting of a manufacturing 
method or process, because the proposed regulations generally provided 
that intangible property used in the manufacture of a product is 
treated as exploited at the location of the end user when the product 
is sold to the end user. Proposed Sec.  1.250(b)-4(e)(2)(i). Under the 
final regulations, limiting the manufacturing method or process rule to 
unrelated party sales serves the purpose of ensuring that such sales 
are FDDEI sales only to the extent contemplated by section 
250(b)(5)(C). For example, if the taxpayer sells to a foreign related 
party a manufacturing method used to produce general property, then the 
sale of the manufacturing method is for a foreign use to the extent 
that the foreign related party's sales of the general property are for 
a foreign use under the rules applicable to sales of general property. 
See Sec.  1.250(b)-4(d)(2)(ii)(A). This result is generally consistent 
with the result if the related party sale had instead been of general 
property that was used in manufacturing.
5. Bundled Intangible Property
    One comment requested that where a taxpayer licenses a bundle of 
intangibles, it should be allowed to elect the application of the 
potentially applicable rules based either on the predominant feature of 
the bundle or using any reasonable method. The Treasury Department and 
the IRS recognize that intangible property is sometimes sold or 
licensed as a bundle, such as the license of patents, copyrights, 
trademarks, tradenames, and

[[Page 43059]]

know-how in a single transaction, without specifying the amount of 
payment required for each item of intangible property. The final 
regulations provide for a predominant character determination when a 
transaction has multiple elements, such as a service and sale or a sale 
of general property and intangible property, to determine whether to 
apply the provisions for sales of general property, sales of intangible 
property, or the provision of services. See Sec.  1.250(b)-3(d).
    In the case of a sale or license of bundled intangible property, 
the final regulations will generally base the location of exploitation 
on the location of the end user who ultimately uses the general 
property in which the intangible property is embedded or associated 
with, or, if the intangible property is used to provide a service, the 
location of the service recipient. See Sec.  1.250(b)-4(d)(2)(ii)(A)-
(B), (D). Only in an unrelated party transaction involving the 
manufacturing method or process rule will the end user location be 
determined differently than a transaction involving intangible property 
used with general property, services, or research and development. 
However, the manufacturing method or process rule does not determine 
the location of the end user of other intangible property bundled with 
the manufacturing method or process. As a result, the final regulations 
do not provide for an election to treat or characterize the sale or 
license of bundled intangible property that includes manufacturing 
method or process intangibles as well as other intangible property as 
falling entirely within one of the categories of intangible property 
specified in Sec.  1.250(b)-4(d)(2).
6. Treatment of Product Intangibles as Components
    One comment suggested that the final regulations include a rule 
that would treat certain ``product intangibles'' as a component of the 
finished product and provide a rule that is analogous to the rule for 
sales of general property that is incorporated as a component of 
another product outside the United States. See Sec.  1.250(b)-
4(d)(1)(iii)(A) and (C). The final regulations do not adopt this 
comment. Intangible property has no physical properties, and therefore 
cannot be incorporated into a finished good or otherwise be a 
``component'' of the finished good in the same way as items of general 
property that are considered to be components. See section 367(d)(4) 
(defining intangible property). For example, a patent on an article of 
manufacture is not a component of the finished product protected by the 
patent. Similarly, while a trademark design may be placed on a 
component of a finished product, the trademark itself is not a 
component of the finished product. Therefore, the final regulations do 
not provide a component rule for the sale or license of intangible 
property. Instead, the general rule that use is determined based on 
where the intangible property is exploited applies to these types of 
sales.
7. Intangible Property Used To Enhance Other Intangible Property
    One comment discussed intangibles that are sold to an unrelated 
foreign person who enhances the intangible (for example, by adapting it 
to local markets) or uses the intangible property to develop other 
intangible property and subsequently sells such enhanced or newly 
created intangible property outside the United States. In these 
situations, the comment recommended that the sale of the original 
intangible property should be presumed to be for foreign use if the 
location of the research and development is outside the United States 
and the recipient is unrelated to the original seller, and suggested 
that footnote 1522 of the Conference Report supports such a rule.
    The final regulations do not adopt the comment. As discussed in 
part VII.D.3 of this Summary of Comments and Explanation of Revisions 
section, revenue is generally earned from intangible property used to 
manufacture products or provide services through sales of such products 
or services, or from limited use licenses of the intangible property, 
whether those sales, services, or limited use licenses are executed by 
an owner, licensee, or sub-licensee of the intangible property. Until 
revenue is earned from sales, services, or limited-use licenses to the 
end user that ultimately consumes the property or receives the service, 
the intangible property is generally not ``exploited.'' Although the 
final regulations provide a limited exception from this end user 
requirement for intangible property that consists of a manufacturing 
method or process (see part VII.D.4 of this Summary of Comments and 
Explanation of Revisions section), no exception is included for 
intangible property used to enhance or create other intangible 
property. The Treasury Department and the IRS have determined that the 
activities described in the comment do not constitute ``use'' by end 
users but rather are intermediate steps in the development of the 
intangible property before being exploited and used. In addition, 
nothing in the text of section 250 or footnote 1522 of the Conference 
Report suggests that a different definition of foreign use should apply 
in the case of research and development.
    However, in response to comments, the final regulations clarify the 
rule for sales of intangible property used to develop other intangible 
property or to modify existing intangible property. See Sec.  1.250(b)-
4(d)(2)(ii)(D). In such a case, the end user of the intangible property 
(primary IP) used to develop other intangible property or to modify 
existing intangible property (secondary IP) is the end user of the 
property in which the secondary IP is embedded. If the secondary IP is 
used to provide a service, the end user is the unrelated party 
recipient. If the secondary IP qualifies as a manufacturing method or 
process (as described in part VII.D.4 of this Summary of Comments and 
Explanation of Revisions section), then the rules applicable to sales 
of a manufacturing method or process apply to determine if the sale of 
the secondary IP is for a foreign use. See Sec.  1.250(b)-
4(d)(2)(ii)(C).
8. Intangible Property Used To Provide Services
    One comment noted that intangible property may be sold to 
recipients that provide services, rather than solely to recipients that 
manufacture and sell goods, and that the proposed regulations did not 
specifically address the sale of intangible property used to provide 
services. For such sales, the comment recommended that the intangible 
property be treated as exploited in the locations in which the 
recipient receives legal rights to the intangible property under the 
terms of the contract or other applicable law. Another comment 
recommended that for sales of intangible property to unrelated persons 
for use in the provision of services, the sales should be presumed to 
be for foreign use if the services will be performed outside the United 
States without regard to the location of the person or persons 
receiving such services.
    Revenue may be earned from intangible property through the 
provision of services, but until that revenue is earned, the intangible 
property is generally not used or ``exploited.'' Consistent with this 
view, the final regulations generally place the location of use of the 
intangible property with the location of the end user, which in the 
case of intangible property used to provide a service, is the service 
recipient. See Sec.  1.250(b)-4(d)(2). These rules are generally 
consistent with the location in which legal rights to the intangible 
property

[[Page 43060]]

are granted and exploited, with exploitation generally being located 
where the end user ultimately consumes the property or the services the 
intangible property is used to provide. See Sec.  1.250(b)-4(d)(2)(i). 
The rules in Sec.  1.250(b)-5 for FDDEI services generally apply for 
purposes of determining the location of the end user. Therefore, for 
example, the location of the end user of intangible property that is 
used to provide advertising services is determined based on the 
location of the individuals viewing the advertisements. See Sec.  
1.250(b)-5(e)(2)(ii).
    However, the regulations do not provide a presumption that a sale 
to a foreign unrelated party that uses that intangible property to 
provide services outside the United States is presumed to be for 
foreign use. Such a presumption could produce results that would be 
inconsistent with the general approach for determining the location of 
use of intangible property by reference to the location of exploitation 
(which, in the case of intangible property used to provide services, is 
generally the location of the person or persons receiving such 
services), and the Treasury Department and the IRS have determined that 
a departure is not warranted in this case.
9. Determination of Revenue
    The proposed regulations provided that when intangible property is 
sold in exchange for periodic payments, the extent to which the sale 
qualifies for a foreign use is made annually based on actual revenue 
earned by the recipient. Proposed Sec.  1.250(b)-4(e)(2)(ii). In the 
case of a sale of intangible property in exchange for a lump sum 
payment, the extent to which the sale qualifies for foreign use is 
determined based on the ratio of total net present value the seller 
would have reasonably expected to earn from exploiting the intangible 
property outside the United States to total net present value the 
seller reasonably expected to earn from exploiting the intangible 
property worldwide. Proposed Sec.  1.250(b)-4(e)(2)(iii). However, for 
purposes of satisfying the documentation requirements, the proposed 
regulations provided that in the case of sales in exchange for periodic 
payments that are not contingent on the revenue or profit of a foreign 
unrelated party, a taxpayer may establish the extent to which a sale of 
intangible property is for a foreign use using the principles 
applicable to sales in exchange for a lump sum payment, except that the 
taxpayer must make projections on an annual basis. See proposed Sec.  
1.250(b)-4(d)(3)(ii). This rule recognized that if the recipient of the 
intangible property makes periodic payments that are not contingent on 
the recipient's sales or revenue, the recipient may not be willing to 
provide information about the end users of the intangible property.
a. Periodic Payments
    Like the proposed regulations, the final regulations provide that 
for periodic payments (such as annual royalty payments or fixed 
installment payments) in exchange for rights to intangible property, 
other than intangible property consisting of a manufacturing method or 
process that is sold to a foreign unrelated party, taxpayers may 
estimate revenue earned by unrelated party recipients from any use of 
the intangible property based on the principles for determining revenue 
from lump sum sales, if actual revenue earned by the foreign party 
cannot be obtained after reasonable efforts. See Sec.  1.250(b)-
4(d)(2)(iii)(A). While the proposed regulations required estimated 
revenue to be determined on an annual basis when a taxpayer relies on 
this rule, the final regulations eliminate this requirement. The 
Treasury Department and the IRS have determined that when estimated 
revenue earned by unrelated party recipients must be used, information 
available at the time of the sale will be more reliable than 
information available subsequently. In addition, eliminating the 
requirement to determine estimated revenue annually reduces the 
administrative burden on the taxpayer. See Sec.  1.250(b)-
4(d)(2)(iii)(A).
b. Lump Sum Payments
    One comment recommended that the seller be allowed to use revenue 
the recipient (rather than the seller) earns or expects to earn from 
use of the intangible property to determine the extent to which a sale 
of intangible property in exchange for a lump sum payment qualifies for 
foreign use because using the recipient's expected or actual revenue is 
more accurate for determining foreign use. The comment acknowledges the 
administrative difficulty inherent in determining foreign use in the 
case of sales of intangible property for a lump sum payment and in 
obtaining actual or expected revenue data from the recipient.
    In response to the comment, the final regulations allow taxpayers 
to use net present values using reliable inputs, which may include net 
present values of revenue that the recipient expected to earn from the 
exploitation of the intangible property within and outside the United 
States if the seller obtained such revenue data from the recipient near 
the time of the sale and such revenue data was used to negotiate the 
lump sum price paid for the intangible property. See Sec.  1.250(b)-
4(d)(2)(iii)(B). In determining whether such inputs are reliable, the 
extent to which the inputs are used by the parties to determine the 
sales price agreed to between the seller and a foreign unrelated party 
purchasing the intangible property will be a factor. The final 
regulations do not allow for use of actual revenue earned by the 
recipient from the use of the intangible property in a lump sum sale 
because actual revenue earned by the recipient for all the years the 
recipient uses the intangible property will not be known when the 
seller files its tax return for the tax year in which the sale of the 
intangible property occurred.
c. Payments for Manufacturing Method or Process
    With respect to sales to a foreign unrelated party of intangible 
property consisting of a manufacturing method or process, the final 
regulations provide that the revenue earned from the end user is equal 
to the amount received from the recipient in exchange for the 
manufacturing method or process. See Sec.  1.250(b)-4(d)(2)(iii)(C). In 
the case of a bundled sale of intangible property consisting of a 
manufacturing method or process and other intangible property, the 
value of the manufacturing method or process relative to the total 
value of the intangible property must be determined using the 
principles of section 482.

E. Treatment of Certain Hedging Transactions

    Several comments recommended that gain or loss from certain hedging 
transactions with respect to commodities be considered gain or loss 
from sales of general property. In support, the comments noted that the 
Federal income tax treatment of certain hedging transactions (for 
example, character and timing) corresponds to the treatment of the 
underlying physical transaction. Comments noted that these rules exist, 
in part, because the combined value of the hedging transaction and the 
underlying physical transaction generally reflects a taxpayer's true 
economic exposure to the underlying physical commodity. Consistent with 
that approach and rationale, these comments recommended a similar 
approach for purposes of determining FDDEI sales income.
    The Treasury Department and the IRS agree that certain hedging 
transactions

[[Page 43061]]

should be treated in a manner that is similar to the treatment of the 
commodities hedged by those transactions. Furthermore, the Treasury 
Department and the IRS have determined that the adjustment for 
qualified hedging transactions should apply to all general property, 
rather than only commodities. Hedges of property other than commodities 
have the same economic effect as hedges of commodities, such that the 
rationale for determining FDDEI sales income from hedges by reference 
to hedges of commodities applies equally to other types of property. 
Accordingly, the final regulations generally provide that a 
corporation's or partnership's gross income resulting from FDDEI sales 
of general property is adjusted by reference to certain hedging 
transactions. See Sec.  1.250(b)-4(f). The hedging transaction must 
meet the requirements of Sec.  1.1221-2, including the identification 
requirement under Sec.  1.1221-2(f), the transaction must hedge price 
risk or currency fluctuation with respect to ordinary property, and the 
property being hedged must be general property that is sold in a FDDEI 
sale. The Treasury Department and the IRS are considering issuing more 
detailed guidance on hedging transactions in the form of future 
proposed regulations. Comments are requested on this topic.

VIII. Comments on and Revisions to Proposed Sec.  1.250(b)-5--FDDEI 
Services

    Section 250(b)(4)(B) provides that FDDEI includes income from 
services provided by a domestic corporation to any person, or with 
respect to property, not located within the United States. Section 250 
does not prescribe rules for determining whether a person or property 
is ``not located within the United States.'' Accordingly, proposed 
Sec.  1.250(b)-5 provided rules for determining whether a service is 
provided to a person, or with respect to property, located outside the 
United States.

A. Categories of Services

    The proposed regulations separated all services into five mutually 
exclusive and comprehensive categories: general services provided to 
consumers, general services provided to business recipients, proximate 
services, property services, and transportation services. See proposed 
Sec.  1.250(b)-5(b). Whether a service is a FDDEI service is determined 
under the rules relevant to the applicable category.
    One comment requested that the final regulations address how 
``digital services'' are treated and classified under the FDDEI 
services regulations, although no recommendation was provided. Another 
comment requested more guidance on the application of the rules for 
general services to business recipients in the software-as-a-service 
context.
    In response to these comments, the final regulations provide 
additional guidance, as described in parts VIII.B.1 and VIII.B.2.c of 
this Summary of Comments and Explanation of Revisions section, with 
respect to services that are ``electronically supplied.'' Services that 
are provided electronically typically will be categorized as general 
services because they will not meet the definitions of proximate 
services, property services, or transportation services. To provide 
additional guidance for determining the location of the recipients of 
services that are electronically supplied, the final regulations create 
a new category of general services defined as ``electronically supplied 
services,'' which includes general services (other than advertising 
services, described in the following sentence) that are delivered over 
the internet or an electronic network. See Sec.  1.250(b)-5(c)(5). In 
addition, the final regulations create a new subcategory of general 
services for advertising services, including advertising services to 
display content via the internet, and provide additional guidance with 
respect to these services as described in part VIII.B.2.c of this 
Summary of Comments and Explanation of Revisions section. See Sec.  
1.250(b)-5(c)(1).

B. General Services

1. General Services Provided to Consumers
    The proposed regulations provided that a consumer is located where 
the consumer resides when the service is provided and required 
documentation to establish the place of residence. See proposed Sec.  
1.250(b)-5(d)(2) and (3). Special rules for small transactions or small 
taxpayers allowed the taxpayer to establish the consumer's location 
using the taxpayer's billing address for the consumer. See proposed 
Sec.  1.250(b)-5(d)(3)(ii).
    Comments suggested that rather than limiting taxpayers to a finite 
list of documentation, the rules should allow taxpayers to support the 
status of the consumer as a person located outside the United States 
using documentation that is collected in the ordinary course of the 
taxpayer's trade or business.
    As discussed in part II of this Summary of Comments and Explanation 
of Revisions section, the final regulations adopt a more flexible 
approach to documentation requirements compared to the proposed 
regulations. While the final regulations include specific 
substantiation requirements for certain elements of the regulations, no 
such rules are provided for general services to consumers. Furthermore, 
to minimize the burden associated with determining the residence of 
consumers, the final regulations provide that if the renderer does not 
have (or cannot after reasonable efforts obtain) the consumer's 
location of residence when the service is provided, the consumer of a 
general service is treated as residing outside the United States if the 
consumer's billing address is outside of the United States. See Sec.  
1.250(b)-5(d)(1). However, this rule does not apply if the renderer 
knows or has reason to know that the consumer does not reside outside 
the United States. The final regulations clarify that ``reason to 
know'' is determined based only on whether the information received as 
part of the provision of the service contains information that 
indicates that the consumer resides in the United States. Because this 
rule applies to all services provided to consumers (with the 
modification for electronically supplied services described in the next 
paragraph), the final regulations do not provide a special rule for 
small transactions or small taxpayers.
    With respect to electronically supplied services that are provided 
to consumers, the final regulations provide that the consumer is deemed 
to reside at the location of the device used to receive the service, 
which may be an IP address, if available. However, if the renderer 
cannot determine the location of that device after reasonable efforts, 
the general rule based on billing address applies, subject to the 
renderer not knowing or having reason to know that the consumer does 
not reside outside the United States.
2. General Services Provided to Business Recipients
    The proposed regulations determined the location of a business 
recipient based on the location of its operations, and the operations 
of any related party of the recipient, that receive a benefit (as 
defined in Sec.  1.482-9(l)(3)) from such service. See proposed Sec.  
1.250(b)-5(e)(2) and (4). The proposed regulations provided that a 
service is generally provided to a business recipient located outside 
the United States to the extent that the renderer's gross income from 
providing the service is allocated to the business recipient's 
operations outside the United States. See proposed Sec.  1.250(b)-
5(e)(2)(i). Where the service

[[Page 43062]]

confers a benefit on the operations of the business recipient in 
specific locations, the proposed regulations provided that gross income 
of the renderer is allocated based on the location of the operations in 
specific locations that receive the benefit. See proposed Sec.  
1.250(b)-5(e)(2)(i)(A). Where a service confers a benefit on the 
recipient's business as a whole, or where reliable information about 
the particular portion of the operations that specifically receive a 
benefit from the service is unavailable, the proposed regulations 
provided that the service is deemed to confer a benefit on all of the 
business recipient's operations. See proposed Sec.  1.250(b)-
5(e)(2)(i)(A). For purposes of this rule, a business recipient is 
treated as having operations in any location where it maintains an 
office or other fixed place of business. See proposed Sec.  1.250(b)-
5(e)(2)(ii). The proposed regulations also required a taxpayer to 
obtain documentation sufficient to establish the location of a business 
recipient's operations that benefit from the service. See proposed 
Sec.  1.250(b)-5(e)(1) and (3). Under the proposed regulations, special 
rules for small transactions or small taxpayers allowed the taxpayer to 
establish the consumer's location using the taxpayer's billing address 
for the consumer. See proposed Sec.  1.250(b)-5(e)(3)(ii).
a. Operations of a Business Recipient of General Services
    Several comments requested clarification regarding the definition 
of a business recipient's operations. Some comments requested that the 
rule be expanded to include operations performed outside of the 
locations where the business recipient maintains an office or other 
fixed place of business. For example, where business recipients operate 
satellites or vessels, the comment suggested that business recipients 
should be treated as having operations at the location of the satellite 
or vessel.
    The location of a business recipient's operations that benefit from 
a general service is based on the geographical location where the 
business recipient's activities are regular and continuous and is not 
based on the current location of mobile property such as satellites or 
vessels. Moreover, as noted in the next paragraph, the final 
regulations clarify that an office or other fixed place of business is 
a fixed facility through which the business recipient engages in a 
trade or business. See Sec.  1.250(b)-5(e)(3)(i). In the case of 
services performed with respect to a satellite, the location of the 
business recipient that receives services with respect to the satellite 
is based on where the business recipient remotely performs activities 
with respect to the satellite (which could be within the United States 
or in a foreign country), rather than in space. In addition, services 
performed with respect to a vessel owned by a business recipient may 
qualify as proximate services or property services, depending on the 
nature of the services. Therefore, no further changes to the 
regulations are necessary to respond to the comment.
    One comment requested further clarification of the term ``fixed 
place of business,'' such as whether it has the same meaning as it does 
for section 864(c) purposes. The comment did not specify whether using 
the meaning that the term has for section 864(c) purposes would be 
appropriate. However, the Treasury Department and the IRS have 
determined that it would not be appropriate to adopt the definition 
that applies for purposes of section 864(c). Because the final 
regulations define a business recipient as including all related 
parties of the recipient, whereas section 864(c) applies on a taxpayer-
by-taxpayer basis, adopting the definition of an office or other fixed 
place of business that is in Sec.  1.864-7 would cause confusion. 
However, the final regulations clarify that an office or other fixed 
place of business is a fixed facility, that is, a place, site, 
structure, or other similar facility, through which the business 
recipient engages in a trade or business. See Sec.  1.250(b)-
5(e)(3)(i). In addition, the final regulations provide that for 
purposes of determining the location of the business recipient, the 
renderer may make reasonable assumptions based on the information 
available to it. The Treasury Department and the IRS recognize that 
taxpayers may not be able to obtain precise information about unrelated 
business recipients; therefore, the final regulations allow taxpayers 
to make reliable assumptions based on the information available to 
them. See id.
    One comment requested guidance on how to determine the location of 
operations of a business recipient that does not have an office or 
fixed place of business. As an example, this could occur when the 
business recipient is a partnership that does not itself have any 
offices or employees but is managed by one or more of its partners. The 
comment suggested that in these circumstances, the final regulations 
presume that the business recipient has operations where it is formed 
or incorporated.
    To address this comment, the final regulations provide that if the 
business recipient does not have an identifiable office or fixed place 
of business (including the office of a principal manager or managing 
owner), the business recipient is deemed to be located at its primary 
billing address. See Sec.  1.250(b)-5(e)(3)(iii). The Treasury 
Department and the IRS considered using place of formation or place of 
incorporation, but determined that a business recipient's billing 
address is generally available to the renderer and often bears a closer 
connection to the business recipient's location of actual operations.
    Finally, for the sake of concision, the final regulations expand 
the definition of a ``business recipient'' to include all related 
parties (as defined in Sec.  1.250(b)-1(c)(19)) of the recipient. 
Compare Sec.  1.250(b)-5(c)(3) with proposed Sec.  1.250(b)-5(e)(4) 
(the latter providing, in a separate paragraph, that a reference to a 
business recipient includes a reference to any related party of the 
business recipient). However, to avoid circularity in circumstances 
where the business recipient is a related party of the taxpayer, in 
these circumstances, the term ``business recipient'' does not include 
the taxpayer. See Sec.  1.250(b)-5(c)(3).
b. The Meaning of ``Benefit''
    One comment expressed concern that the proposed regulations' 
reliance on the principles of Sec.  1.482-9(l)(3), which explains when 
an activity is considered to provide a ``benefit'' to a recipient, 
would be difficult to apply outside the related party context because 
the renderer may not have the information necessary to perform a 
detailed analysis of the recipient's operations. The comment suggests 
that transfer pricing standards should not be applied to evaluate 
transactions for purposes of section 250. The comment suggested that 
the term ``benefit'' should retain the reference to Sec.  1.482-
9(l)(3), but that the regulations should include a presumption that a 
general service provided to a foreign person benefits operations 
located outside the United States.
    The Treasury Department and the IRS do not intend that the 
reference to Sec.  1.482-9(l)(3) in the definition of ``benefit'' be 
interpreted as suggesting that taxpayers are required to perform a 
transfer pricing-like analysis of the recipient's operations. Rather, 
the reference is intended to clarify, using a concept that is based on 
existing tax principles, that a service confers a benefit on operations 
of a recipient only if an uncontrolled party with similar operations 
would pay for the service under comparable circumstances. For example, 
if a service benefits particular operations of a business recipient so

[[Page 43063]]

indirectly or remotely that an unrelated party with similar operations 
would not pay for the service, the service does not confer a benefit on 
those operations. See Sec.  1.482-9(l)(3)(ii). Accordingly, the final 
regulations retain the reference to Sec.  1.482-9(l)(3) in defining 
``benefit.''
    One comment also requested clarification regarding the types of 
benefits that must be considered in determining the location of the 
business recipient of a general service. The comment gives the example 
of a U.S. financial advisor providing advice to a foreign parent that 
is expected to increase the value of the foreign parent's publicly 
traded stock, which would also benefit any U.S. subsidiaries by making 
their equity-based compensation more valuable. The implication of the 
comment is that it is unclear whether the U.S. subsidiaries receive a 
compensable benefit from the service provided because their employees 
are also shareholders of the foreign parent.
    As noted, the reference to Sec.  1.482-9(l)(3) in the definition of 
``benefit'' is intended to provide clarity on the meaning of 
``benefit'' using a concept that is based on existing tax principles. 
As described in the previous paragraph, under Sec.  1.482-9(l)(3)(ii), 
an activity is not considered to provide a ``benefit'' within the 
meaning of Sec.  1.482-9(l)(3) if the benefit to the recipient is ``so 
indirect or remote'' that the recipient would not be willing to pay an 
uncontrolled party to perform a similar activity. Accordingly, in fact 
patterns such as the one described in the comment (where the service 
potentially confers a benefit on a related party of the recipient if 
the employees of the related party are also shareholders of the 
recipient), taxpayers must determine whether a related party with 
employees that are shareholders of a company would generally pay a 
financial advisor to provide advice to the company or whether the 
benefit to the related party is too indirect or remote. Section 1.482-
9(l) provides comprehensive guidance, including twenty-one examples, to 
assist taxpayers in understanding when an activity is considered to 
confer a benefit on a party other than the direct recipient. 
Accordingly, the comment is not adopted.
c. Determining the Locations of the Business Recipient's Operations 
That Benefit From General Services
    Several comments addressed the proposed regulations' rule for 
determining the location of the recipient of general services that 
benefits from the service. See proposed Sec.  1.250(b)-5(e)(2). One 
comment suggested that the final regulations include language included 
in the preamble to the proposed regulations stating that for purposes 
of this rule, ``the location of residence, incorporation, or formation 
of a business recipient is not relevant.'' The final regulations adopt 
this comment. See Sec.  1.250(b)-5(e)(1).
    Several comments indicated that it would be difficult, if not 
impossible, for taxpayers to obtain information regarding which of a 
business recipient's locations benefits from a service. While the 
proposed regulations allowed taxpayers in these circumstances to assume 
that the services will benefit all of the business recipient's 
operations ratably, several comments suggested that this simplification 
was not sufficient. Several comments stated that these difficulties 
could be alleviated by making the transition rule in proposed Sec.  
1.250-1(b) permanent or by making the rules applicable to small 
businesses and small transactions available to all taxpayers. Several 
comments requested that the final regulations incorporate certain 
presumptions to simplify the rule, such as a presumption that any 
operations of the service recipient that are not known to be (or 
identifiable as) within the United States are presumed foreign or that 
services provided to a foreign person are presumed to benefit 
operations located outside the United States.
    The final regulations retain the same general approach as the 
proposed regulations for determining the location of the business 
recipient, with some revisions for concision, by providing that a 
service is provided to a business recipient located outside the United 
States to the extent that the service confers a benefit on operations 
of the business recipient that are located outside the United States. 
See Sec.  1.250(b)-5(e)(1). Like the proposed regulations, the final 
regulations provide that the determination of which operations of the 
business recipient benefit from a general service is made under the 
principles of Sec.  1.482-9. Further, the final regulations clarify 
that in applying these principles, (1) the taxpayer, (2) the portions 
of the business recipient's operations within the United States (if 
any) that may benefit from the general service, and (3) the portions of 
the business recipient's operations outside the United States that may 
benefit from the general service, are treated as if they are each one 
or more controlled taxpayers.
    For purposes of applying the principles of Sec.  1.482-9, the final 
regulations provide taxpayers with flexibility to determine the extent 
to which a business recipient's operations within or outside of the 
United States are treated as one or more separate controlled taxpayers, 
given that taxpayers generally will not have complete information 
regarding the operations of the business recipient. Any reasonable 
method can be used for determining the set and scope of business 
recipient operations that are treated as separate controlled taxpayers, 
for example, by segregating the operations on a per entity or per 
country basis, or by aggregating all of the business recipient's 
operations outside the United States as one controlled taxpayer. For 
example, if a business recipient has operations in the United States, 
Country X, and Country Y, all of which may benefit from the taxpayer's 
services, the business recipient's operations in the United States, 
Country X, and Country Y may each be treated as separate controlled 
taxpayers. Alternatively, the business recipient's operations in the 
United States, and the business recipient's combined operations in 
Country X and Country Y, could be treated as two separate controlled 
taxpayers. The amount of the benefit conferred on each of the business 
recipient's operations is determined under the principles of Sec.  
1.482-9(k).
    To simplify the rule, the final regulations remove the provision 
stating that if a service benefits all of the business recipient's 
operations, gross income of the renderer is allocated ratably to all of 
the business locations of the recipient, as that provision was 
redundant of the general rule. The final regulations also remove the 
provision that gross income of the renderer is allocated ratably to all 
of the business locations of the recipient if the renderer is unable to 
obtain reliable information regarding the specific locations of the 
operations of the business recipient to which a benefit is conferred. 
The Treasury Department and the IRS have determined that it would be 
inappropriate to allow a deduction that is not based on reliable 
information.
    Comments also suggested that the final regulations should define 
foreign operations by negation such that a service is considered 
provided to a business recipient outside the United States if that 
service is not provided to a business recipient inside the United 
States. These comments asserted that this would allow mobile activity 
performed in outer space, international airspace, or international 
water to qualify as FDDEI services. The Treasury Department and the IRS 
have determined that evidence that services do not benefit a business 
recipient's operations within the United States is

[[Page 43064]]

equivalent to demonstrating that the service benefits operations 
outside the United States. Therefore, no changes to the regulations are 
necessary. However, as explained in part VIII.B.2.a of this Summary of 
Comments and Explanation of Revisions section, the location of a 
business recipient's operations is determined based on whether its 
activities are regular and continuous in a particular geographical 
location, which generally would not include activities in outer space 
or international space, but may include international water (for 
example, in the case of a drilling rig).
    Several comments requested clarity on how to determine the location 
of operations that benefit from general services in the case of 
services that are electronically supplied. In response, the final 
regulations modify the general rule for determining the location of the 
business recipient of electronically supplied services and advertising 
services so that location will be determined based on information that 
will generally be available to renderers of those types of services. 
See Sec.  1.250(b)-5(e)(2)(ii) and (iii).
    Advertising services are different from other general services: The 
renderer will generally be able to determine where the advertisements 
are viewed because the renderer controls where the advertisements are 
displayed. The Treasury Department and the IRS have determined that 
where the advertisement is viewed serves as a reliable proxy for the 
locations of the business recipient that benefit from the service. 
Generally, it will be in the business recipient's best interest to 
advertise its products or services in the locations where it does 
business. Therefore, the final regulations provide that with respect to 
advertising services, the operations of the business recipient that 
benefit from the advertising service are deemed to be located where the 
advertisements are viewed by individuals. See Sec.  1.250(b)-
5(e)(2)(ii). The final regulations further provide that if advertising 
services are displayed via the internet, the advertising services are 
viewed at the location of the device on which the advertisements are 
viewed. See id. For this purpose, the IP address may be used to 
establish the location of that device. See id. The final regulations 
also include a new example for advertising services. See Sec.  
1.250(b)-5(e)(5)(ii)(C) (Example 3).
    Electronically supplied services are also different from other 
general services because the renderer will generally be able to 
determine where the service is accessed by using the recipient's IP 
address or through other means. The Treasury Department and the IRS 
have determined that the point of access serves as a reliable proxy for 
where the business recipient receives the benefit of the service. 
Therefore, the final regulations provide that with respect to 
electronically supplied services provided to a business recipient, the 
operations of the business recipient that benefit from the general 
service are deemed to be located where the general service is accessed. 
See Sec.  1.250(b)-5(e)(2)(iii). The final regulations also provide 
that if the location where the business recipient accesses the 
electronically supplied service is unavailable (such as where the 
location of access cannot be reliably determined using the location of 
the IP address of the device used to receive the service), and the 
gross receipts from all services with respect to the business recipient 
(or any related party to the business recipient) are in the aggregate 
less than $50,000, the operations of the business recipient that 
benefit from the general service provided by the renderer are deemed to 
be located at the recipient's billing address. Id. The final 
regulations also include new examples for electronically supplied 
services. See Sec.  1.250(b)-5(e)(5)(ii)(E) and (F) (Example 5 and 6).
d. Substantiating General Services Provided to Business Recipients
    As discussed in part II of this Summary of Comments and Explanation 
of Revisions section, the final regulations replace the documentation 
requirements with new substantiation requirements for certain 
transactions, including general services provided to business 
recipients. The final regulations provide that a general service 
provided to a business recipient is a FDDEI service only if the 
taxpayer maintains sufficient substantiation to support its 
determination of the extent to which the service benefits a business 
recipient's operations outside the United States. See Sec.  1.250(b)-
5(e)(4). A taxpayer satisfies this requirement by either obtaining 
credible evidence establishing the extent to which operations of the 
business recipient benefit from the service or preparing a statement 
that supports its determination with corroborating evidence. See Sec.  
1.250(b)-5(e)(4). The final regulations explain that the determination 
of the portion of the service that will benefit the business 
recipient's operations located outside the United States may be based 
on evidence obtained from the business recipient, such as statements 
made by the recipient regarding the need for the service or data on the 
sales of the business recipient's operations, or the taxpayer's own 
records, such as time spent working with the business recipient's 
different offices. See Sec.  1.250(b)-5(e)(4)(ii).
    As explained in part VII.C.4 of this Summary of Comments and 
Explanation of Revisions section, the Treasury Department and the IRS 
have determined that it is unnecessary to delineate which specific 
methods satisfy substantiation. If the taxpayer substantiates its 
determination with evidence provided by the business recipient, the 
final regulations do not specify what information must be included in 
the statement beyond requiring that it must establish the extent to 
which the service benefits operations located outside the United 
States. See Sec.  1.250(b)-5(e)(4)(i). The Treasury Department and the 
IRS understand that service recipients may not be willing to provide 
information about their business to taxpayers. Accordingly, the final 
regulations do not require the evidence to specify which of a business 
recipient's locations benefit from a service (for example, the business 
recipient's European operations rather than its Asian operations), just 
the portion of the service that benefits operations outside the United 
States generally.

C. Proximate Services

    The proposed regulations provided that the provision of a proximate 
service to a recipient located outside the United States is a FDDEI 
service. See proposed Sec.  1.250(b)-5(f). The proposed regulations 
defined a proximate service as a service, other than a property service 
or transportation service, substantially all of which is performed in 
the physical presence of the recipient or, in the case of a business 
recipient, its employees. See proposed Sec.  1.250(b)-5(c)(6).
    Comments requested that the final regulations expand the definition 
of a proximate service in proposed Sec.  1.250(b)-5(c)(6) to include 
services performed in the physical presence of additional persons 
working for a business recipient, including that business's own 
employees, the employees of a related party of the recipient, or the 
recipient's contract workers or agents. In response to these comments, 
the final regulations expand the definition of a proximate service to 
provide that it means a service, other than a property service or a 
transportation service, provided to a recipient, but only if 
substantially all of the service is performed in the physical presence 
of the recipient or persons working for the recipient such as

[[Page 43065]]

employees, contractors, or agents. See Sec.  1.250(b)-5(c)(8).
    Comments also recommended that the final regulations provide that 
income received for the provision of proximate services, which must be 
performed outside the United States to qualify as a FDDEI service, is 
not treated as foreign branch income for purposes of section 250. The 
comments explained that taxpayers providing such services may 
potentially be deemed to operate a branch in the country in which the 
service occurs. The comments asserted that it is contrary to the 
purpose of section 250 for income from a FDDEI service (a proximate 
service provided outside the United States) to be excluded from FDDEI 
because the income is also foreign branch income. The comments made 
similar arguments with respect to property services, and one comment 
suggested that this concern applies to all services.
    As explained in part IV.B of this Summary of Comments and 
Explanation of Revisions section, in response to comments, the final 
regulations confirm that there is one consistent definition of foreign 
branch income in both Sec. Sec.  1.250(b)-1(c)(11) and 1.904-4(f)(2). 
The fact that the regulations under section 250 otherwise would treat 
certain income as eligible for FDII is irrelevant for purposes of 
determining whether the income is foreign branch income under section 
904(d)(2)(J). Further, as acknowledged by the comments, providing a 
proximate service (or any other service) outside the United States does 
not necessarily create a foreign branch; therefore, not all income from 
proximate services performed outside the United States will be foreign 
branch income. Accordingly, the final regulations do not adopt these 
comments.

D. Property Services

    The proposed regulations provided that a property service is a 
FDDEI service if it is provided with respect to tangible property 
located outside the United States, but only if the property is located 
outside the United States for the duration of the period the service is 
performed. See proposed Sec.  1.250(b)-5(g).
1. Qualification of Property Services as FDDEI Services
    Several comments recommended that the final regulations remove the 
mutually exclusive categories of services in proposed Sec.  1.250(b)-
5(b) because, according to the comments, they are inconsistent with 
section 250(b)(4)(B), which treats as FDDEI services those provided to 
any person, or with respect to property, not located within the United 
States. Comments asserted that the statute is disjunctive and requires 
that a service with respect to property gives rise to FDDEI if the 
service is provided to a person located outside the United States, 
regardless of the location of the serviced property.
    The final regulations do not adopt these comments. Section 
250(b)(4)(B) refers to persons and property disjunctively, which 
indicates that Congress intended for there to be a category of services 
provided with respect to persons located outside the United States that 
would be FDDEI services and a separate category of services provided 
with respect to property located outside the United States that would 
be FDDEI services. The proposed regulations gave effect to this intent. 
The statute and legislative history are ambiguous, however, as to 
whether Congress intended for all services provided with respect to 
persons located outside the United States and all services provided 
with respect to property located outside the United States to be 
included within the scope of the statute.
    The Treasury Department and the IRS have determined that property 
services must be provided with respect to property located outside the 
United States in order to qualify as FDDEI services. The purpose of the 
section 250 deduction is to help neutralize the role that tax 
considerations play when a taxpayer chooses the location of intangible 
income attributable to foreign-market activity, that is, whether to 
earn such income through its U.S.-based operations or through its CFCs. 
See Senate Committee on the Budget, 115th Cong., ``Reconciliation 
Recommendations Pursuant to H. Con. Res. 71,'' at 375 (Comm. Print 
2017). Providing a FDII deduction for all property services performed 
in the United States with respect to property with owners located 
outside the United States, regardless of the property's connection to 
foreign markets, would not further that purpose. Furthermore, even if 
the statute required that property services provided to any person 
located outside the United States could qualify as FDDEI services, the 
statute does not specify how to determine the location of such person. 
In the case of property services, the Treasury Department and the IRS 
have determined that basing the location of such person on the location 
of the property that the person owns is most consistent with the nature 
of a property service and the location of the benefit that is being 
provided. Therefore, even under the comment's alternative reading of 
section 250(b)(4)(B), the Treasury Department and the IRS have 
determined that property services should be limited to those services 
provided to property located outside the United States.
    However, in recognition of the fact that some property services 
performed within the United States may nonetheless be connected to 
foreign markets, as discussed in part VIII.D.2 of this Summary of 
Comments and Explanation of Revisions section, the final regulations 
expand the circumstances under which property services may qualify as 
FDDEI services notwithstanding the fact that the services are performed 
in the United States.
    Several comments suggested that the final regulations clarify that 
the property services rules apply only to services that the taxpayer 
provides with respect to completed property that is in use by the 
property's owner, and thus, that manufacturing-related services (such 
as toll manufacturing) are not property services, but rather general 
services. The comments suggested that if manufacturing services are 
treated as property services, manufacturing services performed in the 
United States will never give rise to FDDEI even if the sale of the 
same property to a foreign person for a foreign use would have been a 
FDDEI sale. In response to the comments, the final regulations specify 
that manufacturing services are property services but allow property 
services performed in the United States to qualify as FDDEI services 
under some circumstances. See Sec.  1.250(b)-5(c)(7) and (g)(2). These 
changes are described in part VIII.D.2 of this Summary of Comments and 
Explanation of Revisions section. Taken together, these changes allow 
manufacturing services performed in the United States to be FDDEI 
services in some circumstances.
    In addition, one comment suggested that the definition of 
``property service'' should be modified to remove the condition that 
only tangible property can be the subject of a property service. The 
comment states that services can be provided with respect to intangible 
property located outside the United States, and notes that the statute 
does not distinguish between services provided with respect to tangible 
and intangible property. The final regulations do not adopt this 
recommendation. Intangible property cannot be ``located'' outside the 
United States given that intangible property, by definition, does not 
have physical properties. Accordingly, the Treasury Department and the 
IRS determined that the general services rules, which look to the 
location of the recipient, are a more

[[Page 43066]]

appropriate framework for analyzing these types of services.
2. Services Provided With Respect to Property Temporarily Located in 
the United States
    The proposed regulations provided that a property service is a 
FDDEI service only if the tangible property with respect to which the 
service is performed is located outside the United States for the 
duration of the period of performance, but requested comments regarding 
the treatment of property that is located in the United States only 
temporarily.
    Comments requested that the final regulations provide that a 
property service is still a FDDEI service in part (or in full) if the 
property enters the United States temporarily while the services are 
performed, and included various recommendations for a safe harbor, 
including treating a property service as a FDDEI service if the 
property is present in the United States for a particular period while 
the property is out of commercial service. Some comments also requested 
that the types of property services that are FDDEI services should be 
expanded to include toll manufacturing arrangements for foreign 
persons. The comments pointed out that section 250(b)(4)(B) does not 
specify when property must be located outside the United States. The 
comments suggested that a special rule for property temporarily in the 
United States would be consistent with Congress's objective in enacting 
section 250, which they assert was to incentivize taxpayers to serve 
the foreign market. In addition, one comment asserted that the proposed 
regulations penalize a seller for entering into a services arrangement 
(such as toll manufacturing) instead of a sales arrangement.
    The final regulations generally adopt the comments. The Treasury 
Department and the IRS agree that in certain circumstances, treating 
property services as FDDEI services is appropriate even if the service 
is provided within the United States. Accordingly, the final 
regulations include an exception for property services performed with 
respect to property that is temporarily located in the United States 
and treats those services as being provided with respect to tangible 
property located outside the United States if several conditions are 
satisfied. See Sec.  1.250(b)-5(g)(2). Those conditions are that the 
property must be temporarily located in the United States for the 
purpose of receiving the property service; after the completion of the 
service, the property will be primarily hangared, docked, stored, or 
used outside the United States; the property is not used to generate 
revenue in the United States at any point during the duration of the 
service; and the property is owned by a foreign person that resides or 
primarily operates outside the United States.

E. Transportation Services

    The proposed regulations provided that the provision of a 
transportation service is a FDDEI service if both the origin and the 
destination of the service are outside the United States. See proposed 
Sec.  1.250(b)-5(h). Where either the origin or destination (but not 
both) are outside the United States, then 50 percent of the 
transportation service is considered a FDDEI service. The proposed 
regulations defined a transportation service as a service to transport 
a person or property using aircraft, railroad rolling stock, vessel, 
motor vehicle, or any similar mode of transportation. See proposed 
Sec.  1.250(b)-5(c)(7).
    Comments requested that the final regulations include elections 
with respect to cross-border transportation services, including an 
election for taxpayers to choose either (i) the 50-percent FDDEI 
treatment provided in the proposed regulations, or (ii) a bifurcation 
method under which the FDDEI treatment of income from the service is 
based on actual time or mileage, or (iii) a predominant location method 
in which all of the income from the service is FDDEI if the taxpayer 
can demonstrate that more than 50-percent of the services were provided 
to a person or with respect to property outside the United States on a 
mileage basis. A comment also requested clarification on whether 
intermediate domestic stops can be disregarded for purposes of 
determining the origin and destination of a transportation service.
    The final regulations retain the rule in the proposed regulations. 
See Sec.  1.250(b)-5(h). The Treasury Department and the IRS have 
determined that the primary benefit of the service relates to servicing 
the origin or destination market. A 50/50 allocation rule thus provides 
a simpler and more administrable rule for reflecting the value of each 
market when the origin or destination is in the United States. In 
addition, the Treasury Department and the IRS have determined that an 
elective rule that allows different taxpayers to choose the rule most 
favorable to their business models would result in inconsistent 
treatment of similarly situated taxpayers and lead to whipsaw for the 
IRS. In addition, the rule in the proposed regulations is clear that 
only the locations of the origin and destination, and not intermediate 
stops, are relevant to the determination. Accordingly, the final 
regulations do not adopt these comments. However, the final regulations 
clarify that freight forwarding and similar services are included 
within the definition of ``transportation services.'' See Sec.  
1.250(b)-5(c)(9).

IX. Comments on and Revisions to Proposed Sec.  1.250(b)-6--Related 
Party Transactions

    In the case of a sale of general property or a provision of a 
general service to a related party, proposed Sec.  1.250(b)-6 provided 
additional requirements that must be satisfied for the transaction to 
qualify as a FDDEI sale or FDDEI service. These requirements must be 
satisfied in addition to the general requirements that apply to such 
sales and services as provided in proposed Sec. Sec.  1.250(b)-3 
through 1.250(b)-5.

A. Related Party Sales

1. Amended Return Requirement
    The proposed regulations provided two distinct rules for 
determining whether a sale of property to a related party (related 
party sale) is a FDDEI transaction. One rule applied when the related 
party resells the purchased property in an unrelated party transaction, 
either without modification or where the related party incorporates the 
purchased property as a component of property that is then resold in an 
unrelated transaction. See proposed Sec.  1.250(b)-6(c)(1)(i). A 
different rule applied when the related party uses the property in an 
unrelated transaction, either in connection with the sale of altogether 
different property or to provide a service. See proposed Sec.  
1.250(b)-6(c)(1)(ii).
    The rule for resales in proposed Sec.  1.250(b)-6(c)(1)(i) required 
that an unrelated party transaction actually occur before the taxpayer 
can treat the original sale to the related party as a FDDEI 
transaction. If an unrelated party transaction has not occurred by the 
filing date of the return that includes the original sale (FDII filing 
date), the taxpayer cannot immediately treat the sale to the related 
party as a FDDEI transaction. Instead, in the subsequent year when the 
unrelated party transaction occurs, the taxpayer can file an amended 
return for the tax year of the original related party sale treating 
that sale as a FDDEI transaction and determine its modified FDII 
benefit accordingly, assuming the period of

[[Page 43067]]

limitations provided by section 6511 remains open when the unrelated 
party transaction occurs.
    In contrast to the resale rule of proposed Sec.  1.250(b)-
6(c)(1)(i), where a related party uses the property in an unrelated 
party transaction (rather than resells that property), the taxpayer was 
permitted under proposed Sec.  1.250(b)-6(c)(1)(ii) to treat that 
related party sale as a FDDEI transaction so long as the taxpayer 
reasonably expected, as of the FDII filing date, that one or more 
unrelated party transactions will occur with respect to the property 
sold to the related party and that more than 80 percent of the revenue 
earned by the foreign related party will be earned from such unrelated 
party transaction or transactions.
    Several comments noted administrative difficulties with the amended 
return requirement for resale transactions in proposed Sec.  1.250(b)-
6(c)(1)(i). Many comments questioned the requirement of filing an 
amended return, arguing that it was administratively burdensome (for 
taxpayers, the IRS, and even state tax authorities) to file or process 
multiple amended returns. Some comments noted that because of long 
production or sales cycles, an unrelated party transaction will often 
not occur by the FDII filing date and might not occur until after the 
period of limitations under section 6511 has closed so taxpayers would 
no longer have the ability to treat the related party sale as a FDDEI 
transaction. Other comments observed that a taxpayer cannot always 
trace whether any particular sale to a related party leads to a 
particular unrelated party transaction given that taxpayers often sell 
products of a fungible nature or rely on accounting systems that track 
inventory flows broadly rather than specifically identifying 
transactions item by item. For such taxpayers, it would be impractical 
to require tracing, whether at the FDII filing date or any other time.
    The preamble to the proposed regulations invited comments on the 
procedure for amending returns or suggestions for other alternatives 
for accounting for information relating to foreign use acquired only 
after the filing of a corporation's original return. In response, 
several comments suggested allowing taxpayers to treat the sale to a 
related party as a FDDEI transaction in the year the related party sale 
occurred and, if an unrelated party transaction did not in fact occur 
in a later year, the taxpayer could adjust its FDDEI in that later year 
to recapture the FDII benefit it should not have claimed. Other 
comments responded with a range of other alternatives to the amended 
return requirement such as an election to defer the FDII benefit until 
the tax year of the unrelated party transaction or a carryforward 
mechanism for the amount of the original FDII benefit to the later year 
when the unrelated party transaction occurs (which would be based on 
the FDII that would have been available in the year of the related 
party sale and could either take the form of a deduction or a credit in 
the year of the unrelated transaction).
    Some comments pointed out the different treatment of related party 
sales and the related party use rules of proposed Sec.  1.250(b)-
6(c)(1)(ii). Under the related party use rules, a taxpayer could treat 
a sale to a related party as a FDDEI transaction so long as the 
taxpayer reasonably expected that an unrelated party transaction would 
later occur, which would alleviate the administrative burdens of the 
amended return requirement. Under this approach, a taxpayer need not 
wait until the subsequent unrelated party transaction actually occurred 
to claim a FDII benefit in the year of the original sale. One comment 
noted that because the U.S. parent controls the process and all the 
sellers are related, the taxpayers would generally be in a position to 
know what products would be sold to foreign unrelated buyers for 
foreign use. Comments suggested similar treatment for both related 
party sales and related party use.
    Comments further provided suggestions for how a taxpayer could 
demonstrate it had a reasonable expectation as of the FDII filing date 
that an unrelated party transaction would occur. Several comments 
requested the ability to use market research such as inventory 
turnover, statistical sampling, economic modelling or other similar 
methods, with one comment suggesting that the fungible mass rule in 
proposed Sec.  1.250(b)-4(d)(3)(iii) also be adopted in this context. 
One comment suggested that an unrelated party transaction exists 
whenever the product sold is specifically designed for a foreign market 
or can only be used outside of the United States. Another noted that in 
some cases the related party buyer is contractually obligated to sell 
products only to unrelated foreign parties. Comments also noted that 
past practice could inform the reasonable expectation of unrelated 
party transactions.
    The Treasury Department and the IRS agree with the concerns 
expressed by the comments about the administrative burdens that the 
amended return requirement can cause for both taxpayers and tax 
administrators. Therefore, the final regulations modify the resale rule 
in proposed Sec.  1.250(b)-6(c)(1)(i) to allow a taxpayer to treat a 
sale to a related party as a FDDEI transaction in the tax year of the 
related party sale provided that an unrelated party transaction has 
occurred or will occur in the ordinary course of business with respect 
to the property sold to the related party, whether the property is a 
completed product or a component of a different product. The unrelated 
party sale can occur at any time in the future so that taxpayers with 
long production or sales cycles are not unduly prevented from claiming 
FDII benefits based on the period of limitations for filing an amended 
return under section 6511. The condition that the unrelated party 
transaction must be in the ordinary course of business is intended to 
exclude situations in which the resale is tangential to the business of 
the taxpayer and related party (for example, if the taxpayer sells a 
machine to a related party for the related party's consumption, and the 
machine is later sold by the related party for scrap or recycling).
    The final regulations also remove the requirement that the FDII 
filing date is determinative with respect to related party sales and 
use of property in an unrelated party transaction. Taxpayers that 
engage in related party transactions should generally be able to obtain 
information after the FDII filing date that will confirm whether a 
related party sale is in fact a FDDEI sale or service. A rule that 
depends on the FDII filing date would create uncertainty during 
examinations if the FDII filing date is inconsistent with actual post-
FDII filing date transactions. Therefore, if in fact, an unrelated 
party transaction does not actually occur in a future year, the related 
party sale would not be a FDDEI sale. This could also apply to related 
party services where a substantially similar service that occurs in a 
future year should be taken into account. See part IX.B.1. of this 
Summary of Comments and Explanation of Revisions section.
    The final regulations also include guidance on how a taxpayer can 
demonstrate that an unrelated party sale will later occur. Taxpayers 
can rely on contractual restrictions or historical practices indicating 
that the related party only sells products to unrelated foreign 
customers. Moreover, if the design of a product indicates that it is 
destined only for foreign customers, taxpayers can establish that an 
unrelated party sale will occur with respect to that product.
    In light of the more flexible approach to demonstrate that an 
unrelated party

[[Page 43068]]

transaction will occur, the final regulations do not include a de 
minimis rule such as treating the entire fungible mass of sales as for 
a foreign use if a seller obtains documentation establishing that 90 
percent or more of the fungible mass is for a foreign use (or 
conversely, no portion of the fungible mass is treated as for a foreign 
use if the seller does not obtain documentation establishing that 10 
percent or more of the fungible mass is for a foreign use) as explained 
in part VII.C.4 of this Summary of Comments and Explanation of 
Revisions section.
2. Intermediate Sales to a U.S. Related Party Before Eventual Sale to 
an Unrelated Party
    The proposed regulations provided that for purposes of determining 
whether a related party sale is for a foreign use, all foreign related 
parties of the seller are treated as if they were a single foreign 
related party. Proposed Sec.  1.250(b)-6(c)(3). This rule gave effect 
to section 250(b)(5)(C)(i)(I) (providing that a sale to a foreign 
related party may be for a foreign use if the property is ultimately 
sold by ``a'' foreign party to a foreign unrelated party) and allowed a 
sale to a foreign related party to be a FDDEI sale even if the property 
is resold to one or more other foreign related parties before the sale 
to an unrelated foreign person.
    One comment requested that the final regulations clarify how the 
related party resale rule operates when the foreign related party buyer 
purchases a semi-finished product from the U.S. parent (or another 
domestic related party), finishes that product, and resells it to the 
U.S. parent (or another domestic related party) for ultimate sale to an 
unrelated person for a foreign use. The comment requested that the 
related party sale rule should apply notwithstanding the intermediate 
sale so long as the taxpayer can substantiate the ultimate sale of 
property to the unrelated foreign party. The comment argued that such a 
clarification would eliminate unwarranted disparate treatment for U.S. 
companies that engage in multiple related-party sales as compared to 
those that engage in just one step.
    The Treasury Department and the IRS generally agree with this 
comment and have modified Sec.  1.250(b)-6(c)(3) to provide that a U.S. 
person (either the seller itself or another U.S. person that is a 
related party of the seller) is treated as part of a single foreign 
related party. This rule only applies for purposes of determining 
whether the related party sale is for a foreign use; it does not modify 
or eliminate the requirement that a seller must sell property to a 
foreign person for the sale to be a FDDEI sale. However, the Treasury 
Department and the IRS are concerned that U.S. persons that are members 
of the same modified affiliated group, but not members of a 
consolidated group, could use this rule to avoid the requirement that a 
sale be made to a foreign person by inserting a foreign person, such as 
a foreign partnership, as an intermediary in the sale from one U.S. 
person to another U.S. person. The Treasury Department and the IRS have 
determined that it would be inappropriate to use the related party 
sales rules to expand the types of sales that are eligible to be 
treated as FDDEI sales in this way. Therefore, the rule does not treat 
a U.S. person as related to the seller if the U.S. person is not 
related to the seller under the 80 percent or more standard for vote or 
value in section 1504(a). See Sec.  1.250(b)-6(c)(3).
3. Rule for Use of Property in an Unrelated Party Transaction
    For transactions other than the resale of purchased property, such 
as where the foreign related party uses the purchased property to 
produce other property that is sold in unrelated party transactions, or 
where the foreign related party uses the property in the provision of a 
service in an unrelated party transaction, the proposed regulations 
provided that the sale of property does not qualify as a FDDEI sale 
unless, as of the FDII filing date, the seller reasonably expects that 
more than 80 percent of the revenue earned by the foreign related party 
from the use of the property in all transactions will be earned from 
unrelated party transactions that are FDDEI transactions (determined 
without regard to the documentation requirements in Sec.  1.250(b)-4 or 
Sec.  1.250(b)-5). See proposed Sec.  1.250(b)-6(c)(1)(ii). One comment 
expressed concern with the 80 percent rule of the proposed regulations 
creating a cliff effect whereby a taxpayer would derive no FDII benefit 
if its revenues fell below this threshold. That comment suggested 
either lowering the threshold or replacing it with a sliding scale upon 
a certain minimum level of revenues. It also noted that it is unclear 
how revenue should be measured for purposes of this 80 percent rule, 
such as whether it should be based on the price of all sales to end 
user customers and whether it should just include sales to unrelated 
customers or also related party sales.
    The Treasury Department and the IRS agree with the comment that the 
related party sale and related party use rules should have similar 
standards. To make this rule consistent with the standard in Sec.  
1.250(b)-6(c)(1)(i), the final regulations modify the rule to require 
that one or more unrelated party transactions occurs with respect to 
the property. The Treasury Department and the IRS expect that taxpayers 
have sufficient control over the supply chain involving controlled 
transactions to make this determination. In addition, to eliminate the 
potential cliff effect described in the comment, the final regulations 
remove the 80 percent rule and instead require the seller in the 
related party transaction to allocate the buyer's revenues ratably 
between related and unrelated party transactions based on revenues 
reasonably expected to be earned as of the FDII filing date. The final 
regulations also adopt the suggested clarification that revenue should 
be measured for this purpose based on the price of all transactions 
with unrelated parties.
    Other comments requested clarifications and relevant examples 
concerning the definition of a component under proposed Sec.  1.250(b)-
6(b)(5)(ii) and how a component can be distinguished from a sale of 
property for use in connection with property sold to an unrelated party 
under proposed Sec.  1.250(b)-6(b)(5)(iii). Several comments noted that 
the preamble to the proposed regulations stated that the component rule 
of proposed Sec.  1.250(b)-4(d)(2)(iii)(C) did not apply for purposes 
of determining what is a component for purposes of proposed Sec.  
1.250(b)-6(b)(5)(ii) and requested that this clarification be included 
in the text of the final regulations. In response to the comments, the 
final regulations remove the reference to ``component'' in Sec.  
1.250(b)-6(b)(5)(ii) and replace it with ``constituent part'' to avoid 
any implication that the component rule of Sec.  1.250(b)-
4(d)(1)(iii)(C) may apply. Further, the final regulations modify the 
rule for a related party use transaction in Sec.  1.250(b)-6(b)(3)(iii) 
to clarify that it does not include transactions in which the purchased 
property is a constituent part of the product sold, to eliminate any 
potential overlap with Sec.  1.250(b)-6(b)(5)(ii). Lastly, the final 
regulations modify the example in Sec.  1.250(b)-6(c)(4) to clarify 
that property that is used in connection with a sale to an unrelated 
party means property that is not a constituent part of the product that 
is ultimately sold.

B. Related Party Services

1. In General
    The proposed regulations generally provided that a provision of a 
general service to a business recipient that is a

[[Page 43069]]

related party qualifies as a FDDEI service only if the service is not 
substantially similar to a service provided by the related party to 
persons located within the United States. See proposed Sec.  1.250(b)-
6(d)(1). One comment noted that, unlike the related party sales rule, 
the related party services rules of proposed Sec.  1.250(b)-6(d) did 
not specify whether the substantially similar service needs to be 
provided before the FDII filing date for the rule to apply. The comment 
recommended a rule that is consistent with the related party sales 
rules. It suggested that the final regulations provide that the service 
to the related party is treated as a FDDEI transaction in the year 
provided to the related party if the substantially similar service test 
was not implicated in that year, but that taxpayers should be required 
to amend that return to reverse the FDII benefit if a substantially 
similar service occurs in a later year.
    As discussed in part IX.A.1. of this Summary of Comments and 
Explanation of Revisions section, the final regulations eliminate the 
amended return requirement for related party sales and allow such sales 
to be FDDEI sales as long as an unrelated party transaction will occur. 
Accordingly, the final regulations do not adopt the suggestion to treat 
a service as not being subject to the substantially similar service 
test as long as there is no substantially similar service in the year 
of the related party transaction. However, the Treasury Department and 
the IRS agree with the recommendation that the related party sales and 
services rules should be made consistent with respect to the timing 
element of the unrelated transaction. Therefore, the final regulations 
provide that a related party service is a FDDEI service only if the 
related party service is not substantially similar to a service that 
has been or will be provided by the related party to a person located 
within the United States. The fact that a substantially similar service 
will occur in a future year does not prevent that substantially similar 
service from being considered in the determination of whether a related 
party service is a FDDEI service.
2. Clarifications Related to Benefit and Price Tests
    Under the proposed regulations, a service provided by a renderer to 
a related party is ``substantially similar'' to a service provided by 
the related party to a person located within the United States if the 
renderer's service (or ``related party service'') is used by the 
related party to provide a service to a person located within the 
United States and either the ``benefit test'' of proposed Sec.  
1.250(b)-6(d)(2)(i) or the ``price test'' of proposed Sec.  1.250(b)-
6(d)(2)(ii) is satisfied. The benefit test is satisfied if 60 percent 
or more of the benefits conferred by the related party service are to 
persons located within the United States. See proposed Sec.  1.250(b)-
6(d)(2)(i). Under the price test, a service provided by a renderer to a 
related party is ``substantially similar'' to a service provided by the 
related party to a person located within the United States if the 
renderer's service is used by the related party to provide a service to 
a person located within the United States and 60 percent or more of the 
price that persons located within the United States pay for the service 
provided by the related party is attributable to the renderer's 
service. See proposed Sec.  1.250(b)-6(d)(2)(ii).
    One comment supported these bright line tests for substantially 
similar services as practicable but asserted it would be burdensome for 
taxpayers to have to apply both tests, and therefore requested that the 
final regulations only retain the price test, or alternatively should 
apply the tests conjunctively so that only if both tests are met is a 
service considered substantially similar to a service provided by a 
related party to a person in the United States.
    The Treasury Department and the IRS have determined that these two 
tests consider distinct factors, both of which are relevant, and 
therefore the final regulations do not adopt the suggestion that the 
benefit test be eliminated or that the tests be made conjunctive. Both 
tests address concerns with ``round tripping'' arrangements where the 
provision of services primarily benefits persons within the United 
States, but a related party located outside the United States is 
interposed in order to qualify the initial transaction as a FDDEI 
transaction. While the two tests may overlap, they also serve different 
purposes and address different concerns. One example that implicates 
the benefit test is when a related party bundles its own services that 
provide minimal benefit to persons located outside the United States 
with other services that primarily benefit persons located within the 
United States. The price test addresses situations such as when a 
taxpayer provides a broad range of services to a related party located 
outside the United States but one component of the service is provided 
unchanged to persons located within the United States and this is 
reflected in the price charged to the U.S. customer compared to the 
price charged to the related party. Consequently, in the absence of the 
price test, a related party service that satisfies the benefit test 
could qualify as a FDDEI transaction even if the related party service 
accounts for 60 percent or more of the total price charged to customers 
located within the United States. However, the final regulations 
clarify that the benefit test is met only if 60 percent or more of the 
benefits conferred by the related party service are directly used by 
the related party to confer benefits on consumers or business 
recipients within the United States. See Sec.  1.250(b)-6(d)(2)(i). For 
example, if a business recipient located in the United States hires the 
related party to provide a consulting service, and the related party 
hires the taxpayer to perform research that is used by the related 
party in performing the consulting service, the related party will have 
directly used the taxpayer's research in performing the consulting 
service for the business recipient located within the United States. 
Services provided to the related party that will only indirectly 
benefit the related party's service recipients (generally, when the 
related party's service recipients would not be willing to pay for the 
related party service) are not ``substantially similar'' to the 
services provided by the related party. See Sec.  1.482-9(l)(3)(ii) for 
an explanation of indirect or remote benefits.
    Proposed Sec.  1.250(b)-6(d)(3) provided that for purposes of 
applying the price and benefit tests, the location of a consumer or 
business recipient with respect to a related party service is 
determined under the principles that apply to FDDEI services. One 
comment requested the addition of a clarifying sentence to proposed 
Sec.  1.250(b)-6(d)(3) indicating that the benefits conferred and price 
paid for the related party service that is provided to persons located 
in the United States must be allocated based on the locations of the 
business recipients that benefit from these services provided by the 
related party. In response to this comment, the final regulations 
clarify that if the related party provides a service to a business 
recipient, the business recipient is treated as a person located within 
the United States to the extent that the service confers a benefit on 
the business recipient's operations located within the United States. 
The price paid to the related party is allocated proportionally based 
on the locations of the business recipient that benefit from the 
services provided by the related party. See Sec.  1.250(b)-6(d)(3)(i). 
The final regulations also clarify that for purposes of applying the 
price test, if the benefits conferred by the related party service

[[Page 43070]]

are to persons located in the United States and outside the United 
States, the price paid by the related party for the related party 
service is allocated proportionally based on the locations of the 
business recipient that benefit from the services provided by the 
related party. See Sec.  1.250(b)-6(d)(3)(ii). In addition, the 
examples have been revised to clarify the application of the rules. See 
Sec.  1.250(b)-6(d)(4).

X. Comments on and Revisions to Proposed Sec.  1.962-1

    Proposed Sec.  1.962-1(b)(1)(i) allowed individuals making an 
election under section 962 to take into account the deduction for GILTI 
under section 250. Specifically, proposed Sec.  1.962-1(b)(1)(i)(A)(2) 
provided that ``taxable income'' for purposes of section 962 includes 
GILTI inclusions, and proposed Sec.  1.962-1(b)(1)(i)(B)(3) specified 
that the section 250 deduction for GILTI is permitted as a deduction to 
arrive at ``taxable income.'' The final regulations retain these rules 
without change.
    One comment noted that the reference to section 960(a)(1) in Sec.  
1.962-1(b)(2) was obsolete after the revisions to section 960 made by 
the Act, and that the regulations lacked any reference to foreign tax 
credits with respect to GILTI inclusions. The Treasury Department and 
the IRS agree with this comment. Accordingly, Sec.  1.962-1(a)(2), 
(b)(2), and (c) have been updated to replace obsolete cross-references 
to section 960(a)(1) with cross-references to section 960(a); Sec.  
1.962-1(b)(2) has been updated to clarify that foreign tax credits with 
respect to GILTI inclusions under section 960(d) are available to 
individuals making section 962 elections (subject to the limitations of 
section 904(c) and 904(d)(1)(A)); and Sec.  1.962-1(c) has been updated 
to provide a revised example illustrating the application of Sec.  
1.962-1. The limitation on the section 11(c) surtax exemption (repealed 
in 1978 \7\) provided in Sec.  1.962-1(b)(1)(ii) has also been struck 
from Sec.  1.962-1.
---------------------------------------------------------------------------

    \7\ Public Law 95-600, 92 Stat. 2763 (1978).
---------------------------------------------------------------------------

    Finally, the Treasury Department and the IRS understand that there 
is uncertainty regarding the situations in which individuals may make a 
section 962 election on an amended return. The Treasury Department and 
the IRS are considering issuing further guidance under section 962. 
Until further guidance on this issue is published, individuals may make 
an otherwise valid section 962 election on an amended return for the 
2018 tax year and subsequent years, regardless of circumstance, 
provided the interests of the government are not prejudiced by the 
delay, as described in Sec.  301.9100-3(c). For example, the interests 
of the government could be prejudiced when a section 962 election is 
made on an amended return resulting in an overpayment in a year for 
which the period to file a claim for refund is open under section 6511 
and simultaneously increasing the amount of U.S. tax due in years for 
which the assessment period under section 6501 has expired.

XI. Comments on and Revisions to Proposed Sec. Sec.  1.1502-12, 1.1502-
13, and 1.1502-50--Consolidated Section 250

    Proposed Sec.  1.1502-50 provided that the section 250 deduction of 
a member of a consolidated group (member) is determined by reference to 
the relevant items of all members of the same consolidated group 
(single-entity treatment). Single-entity treatment ensures that the 
aggregate amount of section 250 deductions allowed to members 
appropriately reflects the income, expenses, gains, losses, and 
property of the consolidated group as a whole. To effectuate single-
entity treatment, proposed Sec.  1.1502-50 aggregated the DEI, FDDEI, 
DTIR, and GILTI of all members, the amounts of which are used to 
calculate an overall deduction amount for the consolidated group. See 
proposed Sec.  1.1502-50(e) (providing definitions). The aggregate 
deduction amount for the consolidated group is then allocated among the 
members on the basis of their respective contributions to consolidated 
FDDEI and consolidated GILTI. See proposed Sec.  1.1502-50(b).

A. Single-Entity Treatment

    Two comments addressed the computation of a member's section 250 
deduction. The comments generally supported single-entity treatment. 
However, one comment recommended permitting a taxpayer to elect out of 
single-entity treatment with respect to the section 250 deduction 
attributable to GILTI. The comment expressed concern about applying the 
taxable income limitation in section 250(a)(2) to companies with pre-
Act NOLs while also arguing that the NOLs of a consolidated group 
should not affect the section 250 deduction attributable to GILTI of a 
member that has not contributed to the NOLs. The Treasury Department 
and the IRS decline to adopt this recommendation because single-entity 
treatment ensures that a consolidated group's income tax liability is 
clearly reflected, as required by section 1502. Permitting taxpayers to 
elect out of single-entity treatment would incentivize inappropriate 
planning with respect to the location of CFCs within the consolidated 
group and undermine the policy behind the enactment of section 250.

B. Life-Nonlife Consolidated Groups

    The second comment raised concerns that the proposed regulations 
may be incompatible with the rules and framework of Sec.  1.1502-47 for 
life-nonlife consolidated groups. The comment asserted that single-
entity treatment could result in an inappropriate permanent 
disallowance of the section 250 deduction in a life-nonlife 
consolidated group if the allocation of the section 250 deduction among 
members is made on a subgroup basis. The comment recommended applying 
the section 250 deduction based on the life-nonlife consolidated 
group's consolidated taxable income, rather than taking the deduction 
into account at the subgroup-level. Under the comment's recommended 
approach, the section 250 deduction would be treated as a consolidated 
deduction to determine whether it can be used against consolidated 
taxable income before being allocated to a member. The Treasury 
Department and the IRS are studying these concerns and request comments 
on this topic.

C. Qualified Business Asset Investment

    Proposed Sec.  1.1502-50(c)(1) provided that, for purposes of 
determining a member's QBAI, the basis of specified tangible property 
does not include an amount equal to any gain or loss realized with 
respect to such property by another member in an intercompany 
transaction, whether or not such gain or loss is deferred. This rule 
was intended to negate the impact (whether positive or negative) of an 
intercompany sale of property on the computation of DII, in accordance 
with single-entity treatment. However, in most relevant cases, once an 
intercompany item has been included in income, there are real, external 
consequences to the group. For example, if gain has been included in 
consolidated taxable income (and in the tax system), the group should 
take the associated increase in tax basis into account. Therefore, 
these final regulations limit the application of the rule negating the 
impact of intercompany sales of property to the period during which the 
intercompany gain or loss remains deferred under Sec.  1.1502-13. See 
Sec.  1.1502-50(c)(1)(i).
    The Treasury Department and the IRS are also concerned that single-
entity treatment is not achieved in certain intercompany transactions 
involving the transfer of a partnership interest if such

[[Page 43071]]

transfers result in an increase or decrease in the basis of specified 
tangible property under section 743(b) and thus impact the computation 
of DII. The final regulations therefore provide that a member's 
partner-specific QBAI basis includes a basis adjustment under section 
743(b) resulting from an intercompany transaction only when, and to the 
extent, gain or loss, if any, is recognized in the transaction and no 
longer deferred under Sec.  1.1502-13. See Sec.  1.1502-50(c)(1)(ii).

XII. Applicability Dates

    As proposed, proposed Sec. Sec.  1.250(a)-1 through 1.250(b)-6 
would apply to taxable years ending on or after March 4, 2019. However, 
the proposed regulations also provided that, for taxable years 
beginning on or before March 4, 2019, taxpayers may use any reasonable 
documentation maintained in the ordinary course of the taxpayer's 
business that establishes that a recipient is a foreign person, 
property is for a foreign use (within the meaning of proposed Sec.  
1.250(b)-4(d) and (e)), or a recipient of a general service is located 
outside the United States (within the meaning of proposed Sec.  
1.250(b)-5(d)(2) and (e)(2)), as applicable, in lieu of the 
documentation required in proposed Sec. Sec.  1.250(b)-4(c)(2), (d)(3), 
and (e)(3) and 1.250(b)-5(d)(3) and (e)(3), provided that such 
documentation meets the reliability requirements described in proposed 
Sec.  1.250(b)-3(d). The proposed regulations also provided that 
taxpayers may rely on proposed Sec. Sec.  1.250(a)-1 through 1.250(b)-6 
for taxable years ending before March 4, 2019.
    The final regulations modify the applicability dates in proposed 
Sec. Sec.  1.250(a)-1 through 1.250(b)-6 as follows. Except for Sec.  
1.250(b)-2(h), the rules in Sec. Sec.  1.250(a)-1 through 1.250(b)-6 
apply to taxable years beginning on or after January 1, 2021. Section 
1.250(b)-2(h), which contains an anti-abuse rule for certain transfers 
of property, applies to taxable years ending on or after March 4, 2019, 
consistent with the applicability date in the proposed regulations. 
See, however, part V.C of this Summary of Comments and Explanation of 
Revisions section for a transition rule relating to transfers that 
occur before March 4, 2019.
    However, taxpayers may choose to apply the final regulations to 
taxable years beginning before January 1, 2021, provided that they 
apply the final regulations in their entirety (other than the special 
substantiation requirements in Sec.  1.250(b)-3(f) and the applicable 
provisions in Sec.  1.250(b)-4(d)(3) or Sec.  1.250(b)-5(e)(4)). See 
section 7805(b)(7). Taxpayers will be required to substantiate under 
section 6001 that any sale or service qualifies for a section 250 
deduction. Alternatively, taxpayers may rely on proposed Sec. Sec.  
1.250(a)-1 through 1.250(b)-6 in their entirety for taxable years 
beginning before January 1, 2021, except that taxpayers relying on the 
proposed regulations may rely on the transition rule for documentation 
for all taxable years beginning before January 1, 2021 (rather than 
only for taxable years beginning on or before March 4, 2019). See also 
part II of this Summary of Comments and Explanation of Revisions 
section.
    Section 1.962-1(b)(1)(i)(B)(3), which allows individuals making an 
election under section 962 to take into account the section 250 
deduction, applies to taxable years of a foreign corporation ending on 
or after March 4, 2019, and with respect to a U.S. person, for the 
taxable year in which or with which such taxable year of the foreign 
corporation ends.
    Proposed Sec.  1.962-1(b)(1)(i)(A)(2), which updated the 
regulations to conform to the enactment of section 951A by providing 
that ``taxable income'' for purposes of section 962 includes GILTI 
inclusions, is proposed to apply beginning with the last taxable year 
of a foreign corporation beginning before January 1, 2018, and with 
respect to a U.S. person, for the taxable year in which or with which 
such taxable year of the foreign corporation ends. The final 
regulations provide that Sec.  1.962-1(b)(1)(i)(A)(2) applies to 
taxable years of a foreign corporation ending on or after March 4, 
2019, and with respect to a U.S. person, for the taxable year in which 
or with which such taxable year of the foreign corporation ends. Under 
section 951A(f)(1)(A), GILTI inclusions are treated in the same manner 
as amounts included under section 951(a)(1)(A) for purposes of section 
962. Accordingly, individuals making an election under section 962 were 
required to include GILTI in ``taxable income'' for purposes of section 
962 irrespective of this update to the regulations.
    Section 1.962-1(a)(2), (b)(1)(ii), (b)(2)(i) through (iii), and 
(c), which update obsolete cross-references to former section 
960(a)(1), strike the section 11(c) surtax exemption limitation, update 
rules on the allowance of foreign tax credits to individuals making an 
election under section 962 (including with respect to the carryback and 
carryover of such credits), and provide an updated example illustrating 
the application of Sec.  1.962-1, apply to taxable years of a foreign 
corporation ending on or after July 15, 2020, and with respect to a 
U.S. person, for the taxable year in which or with which such taxable 
year of the foreign corporation ends. With respect to foreign tax 
credits, section 960(d) provides domestic corporations (which includes 
individuals making an election under section 962) a credit for taxes 
attributable to tested income, and section 904(c) and 904(d)(1)(A) 
prohibit taxpayers from carrying back or carrying over any excess 
foreign taxes attributable to tested income as a credit in their first 
preceding taxable years and in any of their first 10 succeeding taxable 
years. Accordingly, individuals making an election under section 962 
that claimed foreign tax credits attributable to tested income were 
subject to the limitations of sections 960(d), 904(c), and 904(d)(1)(A) 
irrespective of the updates to the regulations.
    One comment requested clarification that proposed Sec.  1.962-1 can 
be applied for taxable years beginning in 2018. With respect to taxable 
years before the relevant final regulations are applicable, the final 
regulations provide that taxpayers may choose to apply the provisions 
of Sec.  1.962-1(a)(2), (b)(1)(i)(A)(2), (b)(1)(i)(B)(3), (b)(1)(ii), 
(b)(2)(i) through (iii), and (c) for taxable years of a foreign 
corporation beginning on or after January 1, 2018, and with respect to 
a U.S. person, for the taxable year in which or with which such taxable 
year of the foreign corporation ends.
    Proposed Sec.  1.1502-50 was proposed to apply to consolidated 
return years ending on or after July 15, 2020. The final regulations 
provide that Sec.  1.1502-50 applies to consolidated return years 
beginning on or after January 1, 2021. Taxpayers that choose to apply 
the final regulations under Sec. Sec.  1.250(a)-1 through 1.250(b)-6 to 
taxable years beginning before January 1, 2021, must also apply the 
provisions in Sec.  1.1502-50 to such years. Similarly, taxpayers that 
rely on proposed Sec. Sec.  1.250(a)-1 through 1.250(b)-6 for taxable 
years beginning before January 1, 2021, must also follow proposed Sec.  
1.1502-50.
    Proposed Sec. Sec.  1.6038-2(f)(15) and 1.6038A-2(b)(5)(iv) are 
proposed to apply with respect to information for annual accounting 
periods beginning on or after March 4, 2019. See sections 6038(a)(3) 
and 7805(b)(1)(B). Proposed Sec.  1.6038-3(g)(4) is proposed to apply 
to taxable years of a foreign partnership beginning on or after March 
4, 2019. See section 7805(b)(1)(B). No changes were made to the 
proposed applicability date in the final regulations.

[[Page 43072]]

XIII. Comment Regarding Special Analyses

    One comment asserted that in issuing the proposed regulations, the 
Treasury Department and the IRS did not comply with Executive Orders 
12866 and 13563 because the costs and benefits analysis required under 
the executive orders did not quantify the burden imposed by the 
documentation requirements for larger business entities that were 
ineligible for the small business and small transaction exceptions.
    The Treasury Department and the IRS complied with the applicable 
requirements under Executive Orders 12866 and 13563 when issuing the 
proposed regulations. See 84 FR 8188, Special Analyses section. In 
addition, an economic analysis of the impact of the substantiation 
requirements of the final regulations is contained in part I.C.1.a.i of 
the Special Analyses section. As required by the Regulatory Flexibility 
Act, an analysis of the impact of the final regulations on small 
businesses is contained in part III of the Special Analyses section.

Special Analyses

I. Regulatory Planning and Review--Economic Analysis

    Executive Orders 13771, 13563, and 12866 direct agencies to assess 
costs and benefits of available regulatory alternatives and, if 
regulation is necessary, to select regulatory approaches that maximize 
net benefits (including potential economic, environmental, public 
health and safety effects, distributive impacts, and equity). Executive 
Order 13563 emphasizes the importance of quantifying both costs and 
benefits, of reducing costs, of harmonizing rules, and of promoting 
flexibility. For purposes of Executive Order 13771, this final rule is 
regulatory.
    These final regulations have been designated as subject to review 
under Executive Order 12866 pursuant to the Memorandum of Agreement 
(April 11, 2018) between the Treasury Department and the Office of 
Management and Budget (OMB) regarding review of tax regulations. The 
Office of Information and Regulatory Affairs (OIRA) has designated the 
final rulemaking as significant under section 1(c) of the Memorandum of 
Agreement. Accordingly, OMB has reviewed the final regulations.

A. Background

    The Tax Cuts and Jobs Act (the ``Act'') introduced new section 250 
of the Internal Revenue Code, which provides a deduction for (1) a 
portion of profits attributable to U.S. activities that serve foreign 
markets and (2) a portion of profits of controlled foreign corporations 
(``CFCs''). The deduction has the effect of reducing the role that U.S. 
tax considerations play in a domestic corporation's decision about 
whether to service foreign markets directly or through a CFC, and also 
of protecting the U.S. tax base against base erosion incentives created 
by the new participation exemption system established under section 
245A.\8\
---------------------------------------------------------------------------

    \8\ See Senate Explanation, at 370 (``[O]ffering similar . . . 
rates for intangible income derived from markets, whether through 
U.S.-based operations or through CFCs, reduces or eliminates the tax 
incentive to locate or move intangible income abroad, thereby 
limiting one margin where the Code distorts business investment 
decisions.'').
---------------------------------------------------------------------------

    At the most basic level, the section 250 deduction is available to 
domestic corporations with respect to their ``excess return'' (that is, 
their return in excess of a fixed return on tangible assets) derived 
from serving foreign markets. This deduction results in a lower 
effective rate of U.S. tax on the corporations' foreign-derived 
intangible income (``FDII'') and global intangible low-taxed income 
(``GILTI''). FDII is the portion of the ``excess return'' derived from 
serving foreign markets directly from the United States, while GILTI is 
the portion of the ``excess return'' derived through foreign 
affiliates. FDII and GILTI are calculated based on formulas set out in 
sections 250 and 951A, respectively. For taxable years between 2018 and 
2025, section 250 generally allows a deduction equal to the sum of 37.5 
percent of the corporation's FDII plus 50 percent of its GILTI 
(thereafter, these deductions are reduced to 21.875 percent and 37.5 
percent, respectively). These deduction rates are intended to produce 
comparable tax rates on income earned from serving foreign markets, 
regardless of whether such income is earned directly by a domestic 
corporation or by its CFCs.\9\
---------------------------------------------------------------------------

    \9\ See Joint Comm. on Taxation, General Explanation of Public 
Law 115-97, at 377-383.
---------------------------------------------------------------------------

    On March 6, 2019, the Treasury Department and the IRS published 
proposed regulations relating to section 250 (``proposed 
regulations'').

B. Need for Final Regulations

    Regulations are needed to aid taxpayers in determining the amount 
of their section 250 deduction. The final regulations are also needed 
to respond to comments received on the proposed regulations.

C. Baseline

    The economic analysis that follows compares the final regulations 
to a no-action baseline reflecting anticipated Federal income tax-
related behavior in the absence of the final regulations. This no-
action baseline reflects the current environment including the existing 
international tax regulations pursuant to the Act, prior to any 
amendment by the final regulations.

D. Economic Analysis

    The final regulations provide certainty and clarity to taxpayers 
regarding the section 250 deduction. In the absence of such guidance, 
the chance that different taxpayers would interpret the statute 
differently would be exacerbated. Similarly situated taxpayers might 
interpret the statutory rules pertaining to the treatment of particular 
sales or services differently, with one taxpayer pursuing a sale that 
another taxpayer might decline to make because of different 
interpretations of how the income would be treated under section 250. 
If this second taxpayer's activity were more profitable, an economic 
loss is generated. Such situations are more likely to arise in the 
absence of guidance. While no guidance can curtail all differential or 
inaccurate interpretations of the statute, the final regulations 
significantly mitigate the chance for differential or inaccurate 
interpretations and thereby increase economic efficiency.
    The Treasury Department and the IRS expect that in the absence of 
this guidance taxpayers would undertake fewer eligible sales and 
services. Thus, the final regulations will generally enhance sales and 
services across certain eligible activities relative to the no-action 
baseline. Because of the scale of U.S. economic activity generally 
associated with foreign use (independent of any specific definition of 
foreign use) and because of the general responsiveness of economic 
activity to effective tax rates, which may be affected by the section 
250 deduction, we project that the final regulations will have annual 
economic effects greater than $100 million (2020 dollars) relative to 
the no-action baseline.
    The Treasury Department and the IRS have not made quantitative 
estimates of the effects of these final regulations on the volume of 
eligible sales and services or on the overall size or composition of 
U.S. economic activity relative to the no-action baseline or regulatory 
alternatives. The Treasury Department and the IRS have not undertaken 
these estimates because we do not have sufficiently detailed data or 
models for: (i) The costs to taxpayers of establishing that particular 
transactions are eligible for the section 250 deduction

[[Page 43073]]

(``substantiation requirements'') under various standards of 
substantiation; (ii) the effect of differences in substantiation 
requirements on economic activity, including both activities that are 
eligible for the section 250 deduction and activities not eligible for 
the section 250 deduction under the final regulations versus regulatory 
alternatives; and (iii) the economic effects of other clarifications in 
the final regulations, including the treatment of military sales, 
relative to the no-action baseline and regulatory alternatives. Each of 
these items would be needed to provide sufficiently precise estimates 
of the effects of these final regulations.
    The Treasury Department and the IRS project that as many as 350,000 
taxpayers may be potentially affected by the final regulations. This 
estimate is based on International Trade Administration (``ITA'') 
statistics of the number of companies engaged in export activities.\10\ 
No data derived from tax forms were available to provide an estimate of 
potentially affected taxpayers because the section 250 deduction is new 
and the transactions that would now give rise to a section 250 
deduction were not previously separately reported on tax forms. No 
comments were received on estimates of the number of affected taxpayers 
provided in the proposed regulations. The Treasury Department and the 
IRS plan to include estimates of the number of affected taxpayers in 
analysis of any future regulatory guidance when possible.
---------------------------------------------------------------------------

    \10\ ITA data was accessed at http://tse.export.gov/EDB/SelectReports.aspx?DATA=ExporterDB in December, 2018.
---------------------------------------------------------------------------

    The economic effects of major provisions of these final regulations 
are discussed qualitatively in Part I.C and are separately categorized 
depending on whether the provisions have been significantly revised 
from the proposed regulations or are largely unchanged from the 
proposed regulations.
    The Treasury Department and the IRS solicit comments on the 
economic effects of the regulations.
1. Economic Effects of Provisions Substantially Revised From the 2019 
Section 250 Proposed Regulations
a. Documentation Requirements
    The statute provides a section 250 deduction for certain income 
derived by the taxpayer from serving foreign markets but it does not 
provide detail regarding what it means to ``serve foreign markets'' or 
how to document that fact. Many of the calculations needed for the 
section 250 deduction are based on Foreign Derived Deduction Eligible 
Income (FDDEI), which is certain income derived from sales of property 
to foreign persons for ``foreign use'' and from the provision of 
services to persons, or with respect to property, located outside the 
United States. The statute is likewise silent on the meaning of 
``foreign use.''
    The proposed regulations defined terms and prescribed specific 
documents that taxpayers were required to hold to establish that such 
income was derived from serving foreign markets. Comments to the 
proposed regulations, however, noted that the documentation 
requirements were prohibitively burdensome because, contrary to the 
original understanding of the Treasury Department and the IRS, 
taxpayers frequently do not have ready access to those types of 
documentation. Therefore, comments argued, the proposed regulations 
frequently created compliance costs that were high relative to the 
value of the deduction. In addition, comments explained that for 
taxpayers that enter into long term contracts, it was difficult to 
simultaneously satisfy the proposed regulations' requirements that the 
documentation be obtained by the FDII filing date and also that it be 
obtained no earlier than one year before the date of the sale or the 
service. Commenters also noted that the Regulatory Flexibility Act 
analysis for the proposed regulations provide an estimate of the 
compliance burden for small entities but did not provide a comparable 
estimate for larger entities, which could have had a considerably 
higher burden.
    Because of these difficulties, the Treasury Department and the IRS 
adopt a different approach in the final regulations for the 
substantiation of foreign use for purposes of the section 250 
deduction. This approach is described in sections 3.a.i-3.a.iii. For 
each of the items in 3.a.i-3.a.iii, the approach in the final 
regulations is significantly more flexible than the specific 
documentation requirements in the proposed regulations.
    The Treasury Department and the IRS have determined that the 
substantiation requirements in the final regulations provide a 
reasonable balance of compliance costs and the administrative burden of 
ensuring that the transactions are consistent with the intent and 
purpose of the statute.
i. General Substantiation Versus Specific Substantiation
    The statute generally provides a section 250 deduction for income 
that is for foreign use and specifies that the Secretary should issue 
regulations to specify how foreign use should be substantiated for 
purposes of tax administration. To address the substantiation issue, 
the Treasury Department and the IRS considered: (i) Which types of 
transactions should be subject (only) to the general substantiation 
rules that apply to all deductions, versus requiring specific 
substantiation, and (ii) for those transactions for which more specific 
substantiation will be required, what forms specific substantiation 
should take.
    The final regulations specify that for many types of sales and 
services, eligibility for the section 250 deduction is subject only to 
the general requirement under the Code that eligibility for deductions 
must be supported by sufficient substantiation, including through the 
use of available business records. The final regulations provide 
substantiation requirements that are generally similar to the 
substantiation requirements for other types of deductions, which helps 
standardize deduction-related benefits in the Code and thereby 
minimizes the risk of unintended complications across provisions of the 
Code.
    The Treasury Department and the IRS considered allowing general 
substantiation for all types of transactions. However, the Treasury 
Department and the IRS determined that certain types of transactions 
pose a higher risk of being treated as eligible transactions (FDDEI 
transactions) without the taxpayer having generated revenue from 
serving foreign markets. For these certain transactions, the final 
regulations provide specific substantiation requirements. These 
requirements involve either (i) a specific document, (ii) information 
from the recipient obtained or created in the ordinary course of 
business, or (iii) a taxpayer statement with corroborating evidence 
(where the taxpayer chooses the form of corroborating evidence). In 
general, these requirements are substantially more flexible than the 
documentation requirements set forth in the proposed regulations 
because they allow taxpayers to choose the method of substantiation 
among a set of options and because this set includes options that are 
less onerous than in the proposed regulations. In addition, to further 
reduce compliance burdens relative to the proposed regulations, and in 
response to comments, the final regulations remove the requirement in 
the proposed regulations that the substantiating documents must be 
obtained no earlier than one year before the date of the sale or 
service.
    The main categories of transactions for which specific 
substantiation is

[[Page 43074]]

required are: (i) Sales of intangible property; (ii) sales of general 
property to resellers and manufacturers; and (iii) the provision of 
general services to business recipients. These types of transactions 
generally have a higher potential for mischaracterization than other 
transactions for which general substantiation is required; for example, 
intangible property is often used both within and without of the United 
States, and without some specific substantiation documenting its use, 
the foreign portion could easily be overstated. Similarly, if a U.S. 
person sells a finished good to a foreign reseller, the final 
regulations require the taxpayer to provide evidence that the reseller 
will not immediately sell the property back into the United States; 
otherwise, the taxpayer could claim the section 250 deduction for what 
is effectively a sale for domestic use. The Treasury Department and the 
IRS have determined that this latter activity would not be consistent 
with the intent and purpose of the statute. In addition, in the case of 
general services (such as consulting or accounting services) provided 
to a business recipient that is an integrated multinational company 
with operations within and outside the United States, without 
substantiation the IRS would have difficulty verifying the extent to 
which the business recipient's operations outside the United States 
benefited from the service. Thus, the Treasury final regulations impose 
more thorough substantiation requirements for such types of 
transactions.
    The specific substantiation requirements provide that a taxpayer 
may substantiate that a sale of general property to a distributor is 
for a foreign use by maintaining proof that property is specifically 
designed, labeled, or adapted for a foreign market or proof that the 
cost of shipping the property back to the United States relative to the 
value of the property makes it impractical that the property will be 
resold in the United States. Furthermore, in recognition of the fact 
that some taxpayers may not be able to substantiate their deductions 
with information already available to them, the specific substantiation 
requirements do not apply to taxpayer years beginning before January 1, 
2021. In addition, the specific substantiation requirements do not 
apply to businesses with less than $25 million in gross receipts.
    The Treasury Department and the IRS do not have readily available 
data or models to provide sufficiently precise estimates of the 
difference in compliance costs for these provisions between the final 
regulations and regulatory alternatives such as the proposed 
regulations.
ii. Removal of Specific References to Market Research
    The proposed regulations contained specific rules regarding 
appropriate methods of documenting foreign use for: (i) Fungible mass 
property and (ii) general services provided to a business recipient 
located outside the United States. In particular, the proposed 
regulations provided that a seller could establish certain foreign use 
through market research, including statistical sampling, economic 
modeling and other similar methods. In light of the more flexible and 
less prescriptive approach to documentation generally taken by the 
final regulations relative to the proposed regulations, the Treasury 
Department and the IRS have determined that prescribing specific 
methods (such as market research) for determining the use of these 
types of property is not necessary and have further determined that 
general market research based on secondary sources could be misleading 
in this circumstance.
    The Treasury Department and the IRS do not have readily available 
data or models to provide sufficiently precise estimates of the 
difference in compliance costs for these items between the final 
regulations and regulatory alternatives such as the proposed 
regulations.
iii. Digital Content, Electronically Supplied Services, and Advertising 
Services
    The final regulations also clarify how to establish foreign use for 
sales of digital content and how to establish a recipient's location 
outside of the United States with respect to electronically supplied 
services and advertising services. As noted in comments, the proposed 
regulations did not clearly explain how foreign use should be 
established for transfers of copyrighted articles that are delivered 
electronically rather than on a physical medium. To clarify the 
treatment of these sales, the final regulations specify that a sale of 
a copyrighted article is evaluated under the general property rules 
rather than the rules for foreign use of intangible property regardless 
of how the copyrighted article is transferred. In addition, the final 
regulations provide new rules for establishing whether a sale of 
digital content, which may include a sale of a copyrighted article, is 
for a foreign use. The final regulations define ``digital content'' as 
a computer program or any other content in digital format. A sale of 
general property that primarily contains digital content is generally a 
FDDEI sale if the end user downloads or accesses the content on a 
device located outside the United States.
    In response to comments, the final regulations provide two new 
subcategories of general services and provide more detailed guidance 
regarding how to establish the location of recipients of these 
services. First, the final regulations also provide a new subcategory 
of general services for electronically supplied services. An 
electronically supplied service is a general service (other than an 
advertising service) that is delivered primarily over the internet or 
an electronic network. As in the case of a digital content sale, an 
electronically supplied service qualifies for the section 250 deduction 
if the recipient accesses the service from a location outside the 
United States. Thus, under the final regulations, the structure of 
otherwise similar transactions (the sale of digital content and the 
provision of an electronically supplied service) should generally not 
affect whether the transaction qualifies for the section 250 deduction. 
Second, the final regulations provide a new subcategory of general 
services for advertising services. The final regulations assign the 
location of the recipient of advertising services at the location where 
the advertisements are viewed, since that location serves as a reliable 
proxy for the location of the business recipient that benefits from the 
service.
    The Treasury Department and the IRS project that because taxpayers 
typically know where digital content, electronically supplied services, 
and advertising services are accessed or viewed, these provisions will 
reduce taxpayer compliance costs relative to the proposed regulations.
    The Treasury Department and the IRS do not have readily available 
data or models to provide sufficiently precise estimates of the 
difference in compliance costs for these items, between the final 
regulations and regulatory alternatives such as the proposed 
regulations.
b. Foreign Military Sales
    Section 250 conditions eligibility on sales being made to a foreign 
person and services being provided to a person located outside the 
United States but does not include specific rules applicable to foreign 
military sales or services. This silence may lead to inefficient 
decisions by taxpayers because many sales of military equipment and 
services by U.S. defense contractors to foreign governments are

[[Page 43075]]

structured (pursuant to the Arms Export Control Act) as sales and 
services provided to the U.S. government. The equipment or services are 
then sold or provided by the U.S. government to the foreign government; 
in effect, the contractor is selling goods and services to a foreign 
person but the sale is technically made to the U.S. government. The 
Treasury Department and the IRS recognize that the statute is unclear 
as to whether such sales and services can qualify for the section 250 
deduction.
    The Treasury Department and the IRS considered several options for 
treating these sales and services. One option was not addressing this 
issue in the final regulations. This option was rejected because the 
Treasury Department and the IRS determined that it would perpetuate 
uncertainty about the application of section 250 to foreign military 
sales and services made through the U.S. government and could thus 
result in inefficient economic activity if some taxpayers took the 
position that these sales and services qualify for a section 250 
deduction but other similarly-situated taxpayers took the position that 
they do not qualify. Furthermore, to the extent that some taxpayers 
took the position that these sales and services do not qualify, their 
economic decisions would be inefficient when evaluated under the intent 
and purpose of the statute.
    A second option was to clarify that a foreign military sale or 
service through the U.S. government does not qualify for a section 250 
deduction. This option was rejected because the Treasury Department and 
the IRS determined that this treatment would be inconsistent with the 
intent and purpose of the statute, and thus economic activity would be 
inefficient when evaluated under this standard.\11\
---------------------------------------------------------------------------

    \11\ See Joint Comm. on Taxation, General Explanation of Public 
Law 115-97, at, at 380 n. 1740.
---------------------------------------------------------------------------

    A third option was to allow any sale or service to a U.S. person 
that acts as an intermediary and does not take on the benefits and 
burdens of ownership to generally qualify for a section 250 deduction 
if there is an ultimate foreign recipient. This option was rejected 
because the Treasury Department and the IRS determined that such a 
broad exception could allow multiple section 250 deductions for the 
same transaction if both the seller and the intermediary buyer were 
U.S. taxpayers. Furthermore, determining whether a party is an 
``intermediary'' for this purpose would require a complex facts-and-
circumstances analysis of whether the party had the benefits and 
burdens of ownership.
    A fourth option was the approach adopted in the proposed 
regulations, which provided that sales of property or the provision of 
a service to the U.S. government under the Arms Export Control Act is 
treated as a sale of property or provision of a service to a foreign 
government and thus generally eligible for the section 250 deduction.
    The final regulations adopt the approach provided in the proposed 
regulations but relax the proposed regulations' documentation 
requirements. Instead, under the final regulations only the general 
substantiation requirements apply to these transactions. Thus, the 
final regulations provide that foreign military sales or services to 
the U.S. government under the Arms Export Control Act are treated as an 
eligible sale or service. This rule provides uniform tax treatment 
between the defense sector and other sectors of the U.S. economy with 
respect to sales and services that are clearly meant for a foreign use. 
The final rule also results in lower compliance costs than the proposed 
regulations because it requires no further substantiation beyond 
compliance with the Arms Export Control Act rules.
    The Treasury Department projects that this reduction in compliance 
costs will increase foreign military sales and services. The Treasury 
Department and the IRS have not estimated either the reduction in 
compliance costs under the final regulations relative to the no-action 
baseline or regulatory alternatives including the proposed regulations 
or the change in foreign military sales and services that would result 
from this reduction. They have not undertaken this estimation because 
they do not have sufficiently detailed data or models of the costs to 
taxpayers of establishing that particular transactions are eligible for 
the section 250 deduction, or the responsiveness of such transactions 
to compliance costs.
c. Additional Issues and Changes
    The final regulations contain several additional changes that will 
generally expand the situations in which a transaction will be a FDDEI 
transaction relative to the proposed regulations.
    The final regulations add an exception to the rule in the proposed 
regulations that a property service is a FDDEI service only if the 
property is located outside the United States for the duration of the 
period the service is performed. The exception provides that a property 
service may be a FDDEI service if it is provided with respect to 
property that is temporarily located in the United States. This will 
increase the number of property services that constitute FDDEI services 
relative to the proposed regulations. The final regulations also 
clarify that the toll manufacturing services are treated as property 
services. Because of the new exception for property services with 
respect to property temporarily in the United States, this 
clarification should increase the number of toll manufacturing and 
repair, maintenance, and overhaul services that will constitute FDDEI 
services relative to the proposed regulations. This rule will also 
mitigate incentives to restructure service contracts into sale 
contracts (for example by having the property owner sell and buy back 
the property that requires service) in order to qualify for FDII 
benefits despite the lack of any economic efficiency gains from doing 
so. The Treasury Department and the IRS have not estimated the effect 
of these changes on compliance costs or on the volume of property 
services or specifically toll manufacturing services that U.S. 
businesses may undertake relative to the proposed regulations.
    The final regulations revise the definition of transportation 
services to include freight forwarding services because such services 
are economically similar to the types of shipping services that are 
already described in the definition of transportation services; this 
will provide greater certainty to taxpayers that provide these services 
because the test for determining whether a transportation service is a 
FDDEI service (based on the origin and destination of the service) will 
generally be clearer than the test for general services (based on the 
location of the recipient). The Treasury Department and the IRS have 
not estimated the effect of this clarification on compliance costs or 
on the volume of freight forwarding services that U.S. businesses may 
undertake relative to the proposed regulations.
    The final regulations add an exception to the general rule in the 
proposed regulations that intangible property used in manufacturing is 
treated as for a foreign use outside the United States only to the 
extent that the end users of the manufactured property are located 
outside the United States. The exception allows that a sale of a 
manufacturing method or process intangible to a foreign unrelated party 
is for foreign use based on the location of manufacture rather than the 
location of the ultimate end user. This provides a meaningful reduction 
in compliance burden relative to the proposed regulations because it 
does not require

[[Page 43076]]

the seller to track the product to its end user and instead relies on 
information immediately knowable to the seller. The Treasury Department 
and the IRS have not estimated the effect of this exception on 
compliance costs or more generally on U.S. economic activity relative 
to the proposed regulations because we do not have sufficiently precise 
data on the number of potentially affected taxpayers or the volume of 
affected activity.
    The final regulations eliminate the requirement in the proposed 
regulations that for sales of international transportation property to 
be eligible for the section 250 deduction, the property must be located 
outside the country more than 50 percent of the time and used outside 
the country for more than 50 percent of the miles for the three-year 
period after delivery. In the final regulations, the sale of 
international transportation property is defined to be for a foreign 
use depending on where it is registered (and in the case of 
international transportation property not used for compensation or 
hire, also taking into account where it is primarily hangared or 
stored). This change in the definition eases the burden of compliance 
relative to the proposed regulations. The Treasury Department and the 
IRS have not undertaken quantitative estimates of the effect of this 
change on compliance costs or on sales of transportation property 
relative to the proposed regulations.
    In response to comments, the final regulations clarify that the 
definition of general property includes physical commodities that are 
sold pursuant to derivative contracts. This revision addresses a 
concern raised in comments that some physical commodities may be sold 
pursuant to a forward or option contract that itself would not be 
general property. Also in response to comments, the final regulations 
provide that the amount of a taxpayer's income from a transaction that 
is eligible for the section 250 deduction is increased by any gain, or 
decreased by any loss, taken into account with respect to certain 
hedging transactions related to the sales. This treatment more 
accurately reflects the overall economic gain or loss realized with 
respect to the hedged transactions, and will ensure that similarly-
situated taxpayers take consistent positions with respect to these 
types of transactions. The Treasury Department and the IRS have not 
estimated the effects of these clarifications relative to the proposed 
regulations.
    Finally, the final regulations remove a special rule from the 
proposed regulations that a sale of an interest in a foreign branch is 
treated as giving rise to foreign branch income, which would preclude 
any income from these sales from giving rise to FDDEI. This change 
respects the functional difference between income derived by a branch 
(which generally reflects business activity of the branch) versus 
income derived by the branch owner from selling the branch (which 
generally reflects the owner's gain from appreciation in value of the 
branch), and will allow more transactions to qualify as FDDEI 
transactions. The Treasury Department and the IRS have not estimated 
the effects of this change relative to the proposed regulations.
d. Ordering Rule
    The Act introduced multiple Code provisions that simultaneously 
limit the availability of a deduction based, directly or indirectly, 
upon a taxpayer's taxable income. Because the deductions themselves 
affect taxable income, the order in which taxpayers calculate deduction 
limitations matters. The proposed regulations contained an example 
outlining a possible approach to an ordering rule for these Code 
provisions. Several comments suggested alternative ordering rules. The 
Treasury Department and the IRS have decided to further study the most 
appropriate ordering rule for computations across various provisions 
that are based upon a taxpayer's taxable income. Therefore, the example 
from the proposed regulations has been removed and the Treasury 
Department and the IRS reserve on a final determination of the ordering 
rule at this time. For now, taxpayers can generally use any reasonable 
method to determine the ordering of rules that limit deductions based 
upon taxable income. Because we have decided to study this issue 
further, we have not yet estimated the economic effects of different 
potential ordering rules.
2. Economic Effects of Provisions Not Substantially Revised From the 
2019 Section 250 Proposed Regulations
a. Computation of the Ratio of FDDEI to DEI
    The Act defines a corporation's FDII based on a set of calculations 
that includes the ratio of its FDDEI to its Deduction Eligible Income 
(``foreign-derived ratio''). The final regulations specify that, for 
purposes of determining the numerator of the foreign-derived ratio, the 
domestic corporation must allocate expenses to its gross FDDEI. The 
Treasury Department and the IRS deemed this approach the most 
consistent with the statute by providing what the Treasury Department 
and the IRS have determined to be the most accurate measure of the 
corporation's income that is ``foreign-derived,'' through matching of 
expenses to gross income. In addition, the use of existing expense 
allocation rules potentially reduces the burden on taxpayers and the 
IRS relative to adopting a new set of expense allocation rules.
    The Treasury Department and the IRS considered two other 
approaches; one, in which the foreign-derived ratio would be computed 
as the ratio of foreign versus U.S. gross receipts and another in which 
the ratio would be computed as foreign versus U.S. gross income. The 
Treasury Department and the IRS have determined that both of these 
approaches would result in a less accurate measure of foreign-derived 
net income. The Treasury Department and the IRS have determined that 
these alternative approaches could also reward low margin (or even 
loss-leading) sales or services to foreign markets by allowing a 
section 250 deduction due to positive gross receipts or income from 
foreign sources, even if the net income from foreign sources after 
allocated expenses is zero or negative.
    The Treasury Department and the IRS have determined that the chosen 
alternative generally provides the most accurate computation of FDII. 
We have not estimated the economic effects of including these 
alternative, less accurate computations of FDII in the calculation of 
taxpayers' foreign-derived ratios.
b. Section 962
    The section 250 deduction for FDII and GILTI is available only to 
domestic corporations. However, Congress enacted section 962 in Public 
Law 89-834 (1962) to ensure that individuals' tax burdens with respect 
to undistributed foreign earnings of their CFCs are comparable with 
their tax burdens if they had held their CFCs through a domestic 
corporation. See S. Rept. 1881, 87th Cong., 2d Sess. 92 (1962).
    To address this divergence, the Treasury Department and the IRS 
considered two options with respect to extending the section 250 
deduction to individuals (which include, for this purpose, individual 
partners in partnerships and individual shareholders in S corporations) 
that make an election under section 962. The first option was to not 
allow the deduction for individuals. Not allowing the section 250 
deduction would require that individuals that currently own their CFCs 
directly (or indirectly through a partnership or S corporation) 
transfer the stock of their CFCs to new U.S.

[[Page 43077]]

corporations in order to obtain the benefit of the section 250 
deduction. The Treasury Department and the IRS determined that such 
reorganization would be economically costly, both in terms of legal 
fees and substantive economic costs related to organizing and operating 
new corporate entities with no general economic benefit relative to the 
second option.
    The second option was to allow individuals to claim a section 250 
deduction with respect to their GILTI if they make the section 962 
election. The Treasury Department and the IRS determined that allowing 
individuals the section 250 deduction would improve economic efficiency 
by preventing the need for costly legal restructuring solely for the 
purpose of tax savings. Allowing a section 250 deduction with respect 
to GILTI of an individual (including an individual that is a 
shareholder of an S corporation or a partner in a partnership) that 
makes an election under section 962 provides comparable treatment for 
this income.
    This is the option adopted by the Treasury Department and the IRS 
in the final regulations.
    The Treasury Department and the IRS have not estimated the 
difference in economic effects between these two regulatory 
alternatives.

II. Paperwork Reduction Act

    The regulations provide the authority for the IRS to require 
taxpayers to file certain forms with the IRS to obtain the benefit of 
the section 250 deduction. Pursuant to the regulations, all taxpayers 
with a section 250 deduction are required to file one new form (Form 
8993). The regulations also authorize the IRS to request additional 
information on several existing forms (Forms 1065 (Schedule K-1), 5471, 
5472, 8865, and other forms as needed) if the filer of the form has a 
deduction under section 250. In 2018, the IRS released and invited 
comments on drafts of these forms in order to give members of the 
public advance notice and an opportunity to submit comments. The IRS 
received no comments on the portions of the forms that relate to 
section 250 during the comment period. Consequently, the IRS made the 
forms available in late 2018 for use by the public.
    The information collection burdens under the Paperwork Reduction 
Act, 44 U.S.C. 3501 et seq. (``PRA'') from these final regulations are 
in Sec. Sec.  1.250(a)-1(d), 1.250(b)-1(e)(2), 1.6038-2(f)(15), 1.6038-
3(g)(4), and 1.6038A-2(b)(5)(iv). For purposes of the PRA, the 
reporting burden associated with these collections of information will 
be reflected in the PRA submission for Form 8993, Form 1065, Form 5471, 
Form 8865, and Form 5472 (see chart at the end of this part II for OMB 
control numbers).
    The tax forms that were created or revised as a result of the 
information collections in these final regulations, as well as the 
estimated number of respondents, are as follows:

                                        Related New or Revised Tax Forms
----------------------------------------------------------------------------------------------------------------
                                                                                                   Number of
                                                                   New          Revision of       respondents
                                                                               existing form      (estimated)
----------------------------------------------------------------------------------------------------------------
Form 8993..................................................         [check]   ...............     75,000-350,000
Form 1065, Schedule K-1 (for corporate partners only,        ...............         [check]       15,000-45,000
 revision starting TY2021).................................
Form 5471..................................................  ...............         [check]       10,000-20,000
Form 8865..................................................  ...............         [check]             <10,000
Form 5472..................................................  ...............         [check]       50,000-80,000
----------------------------------------------------------------------------------------------------------------
Source: RAAS:CDW and ITA.

    The numbers of respondents in the Related New or Revised Tax Forms 
table were estimated by the Research, Applied Analytics and Statistics 
Division (``RAAS'') of the IRS from the Compliance Data Warehouse 
(``CDW''), using tax years 2014 through 2017; as well as based on 
export data from the International Trade Administration (``ITA'') for 
2015 and 2016. Tax data for 2018 are not yet available due to extended 
filing dates. Data for Form 8993 represent preliminary estimates of the 
total number of taxpayers that may be required to file the new Form 
8993. Data for each of the Forms 1065, 5471, 5472, and 8865 represent 
preliminary estimates of the total number of taxpayers that are 
expected to file these revised forms regardless of whether that 
taxpayer must also file Form 8993.
    The current status of the PRA submissions related to the tax forms 
that will be revised as a result of the information collections in the 
section 250 regulations is provided in the accompanying table. The 
reporting burdens associated with the information collections in the 
regulations are included in the aggregated burden estimates for OMB 
control numbers 1545-0123 (which represents a total estimated burden 
time for all forms and schedules for corporations of 3.344 billion 
hours and total estimated monetized costs of $61.558 billion ($2019)), 
1545-0074 (which represents a total estimated burden time, including 
all other related forms and schedules for individuals, of 1.717 billion 
hours and total estimated monetized costs of $33.267 billion ($2019)), 
and 1545-1668 (which represents a total estimated burden time for all 
related forms and schedules for other filers, in particular trusts and 
estates, of 281,974 hours and total estimated monetized costs of 
$25.107 million ($2018)). The overall burden estimates provided for the 
OMB control numbers below are aggregate amounts that relate to the 
entire package of forms associated with the applicable OMB control 
number and will in the future include, but not isolate, the estimated 
burden of the tax forms that will be created or revised as a result of 
the information collections in the regulations. These numbers are 
therefore unrelated to the calculations needed to assess the burden 
imposed by the regulations. These burdens have been reported for other 
regulations related to the taxation of cross-border income and the 
Treasury Department and the IRS urge readers to recognize that these 
numbers are duplicates and to guard against overestimating the burden 
of the international tax provisions. No burden estimates specific to 
the forms affected by the regulations are currently available. The 
Treasury Department and the IRS have not estimated the burden, 
including that of any new information collections, related to the 
requirements under the regulations. The Treasury Department and the IRS 
estimate PRA burdens on a taxpayer-type basis rather than a provision-
specific basis. Those estimates would capture both changes made by the 
Act and those that arise out of discretionary authority exercised in 
the final regulations.
    The Treasury Department and the IRS request comments on all aspects 
of

[[Page 43078]]

information collection burdens related to the final regulations, 
including estimates for how much time it would take to comply with the 
paperwork burdens described above for each relevant form and ways for 
the IRS to minimize the paperwork burden. Proposed revisions (if any) 
to these forms that reflect the information collections contained in 
these final regulations will be made available for public comment at 
http://www.irs.gov/draftforms and will not be finalized until after 
these forms have been approved by OMB under the PRA.

----------------------------------------------------------------------------------------------------------------
                Form                      Type of filer             OMB No(s)                   Status
----------------------------------------------------------------------------------------------------------------
Form 8993 (NEW)....................  Business (NEW Model)..  1545-0123.............  Published in the Federal
                                                                                      Register Notice (FRN) on 9/
                                                                                      30/19. Public Comment
                                                                                      period closed on 11/29/19.
                                                                                      Approved by OMB through 12/
                                                                                      31/20.
                                    ----------------------------------------------------------------------------
                                     Link: https://www.federalregister.gov/documents/2019/09/30/2019-21068/proposed-collection-comment-request-for-forms-1065-1066-1120-1120-c-1120-f-1120-h-1120-nd-1120-s.
                                    ----------------------------------------------------------------------------
                                     Individual (NEW Model)  1545-0074.............  Published in the Federal
                                                                                      Register on 9/30/19.
                                                                                      Public Comment period
                                                                                      closed on 11/29/19.
                                                                                      Approved by OMB through 12/
                                                                                      31/20.
                                    ----------------------------------------------------------------------------
                                     Link: https://www.federalregister.gov/documents/2019/09/30/2019-21066/proposed-collection-comment-request-for-form-1040-form-1040nr-form-1040nr-ez-form-1040x-1040-sr-and-u.
----------------------------------------------------------------------------------------------------------------
Form 1065, Schedule K-1............  Business (NEW Model)..  1545-0123.............  Published in the Federal
                                                                                      Register on 9/30/19.
                                                                                      Public Comment period
                                                                                      closed on 11/29/19.
                                                                                      Approved by OMB through 12/
                                                                                      31/20.
                                    ----------------------------------------------------------------------------
                                     Link: https://www.federalregister.gov/documents/2019/09/30/2019-21068/proposed-collection-comment-request-for-forms-1065-1066-1120-1120-c-1120-f-1120-h-1120-nd-1120-s.
----------------------------------------------------------------------------------------------------------------
Form 5471..........................  Business (NEW Model)..  1545-0123.............  Published in the Federal
                                                                                      Register on 9/30/19.
                                                                                      Public Comment period
                                                                                      closed on 11/29/19.
                                                                                      Approved by OMB through 12/
                                                                                      31/20.
                                    ----------------------------------------------------------------------------
                                     Link: https://www.federalregister.gov/documents/2019/09/30/2019-21068/proposed-collection-comment-request-for-forms-1065-1066-1120-1120-c-1120-f-1120-h-1120-nd-1120-s.
----------------------------------------------------------------------------------------------------------------
Form 8865..........................  All other filers        1545-1668.............  Published in the Federal
                                      (mainly trusts and                              Register on 10/01/18.
                                      estates) (Legacy                                Public Comment period
                                      system).                                        closed on 11/30/18.
                                                                                      Approved by OMB through 12/
                                                                                      31/21.
                                    ----------------------------------------------------------------------------
                                     Link: https://www.federalregister.gov/documents/2018/10/01/2018-21288/proposed-collection-comment-request-for-regulation-project.
----------------------------------------------------------------------------------------------------------------
Form 5472..........................  Business (NEW Model)..  1545-0123.............  Published in the Federal
                                                                                      Register on 9/30/19.
                                                                                      Public Comment period
                                                                                      closed on 11/29/19.
                                                                                      Approved by OMB through 12/
                                                                                      31/20.
                                    ----------------------------------------------------------------------------
                                     Link: https://www.federalregister.gov/documents/2019/09/30/2019-21068/proposed-collection-comment-request-for-forms-1065-1066-1120-1120-c-1120-f-1120-h-1120-nd-1120-s.
----------------------------------------------------------------------------------------------------------------

III. Regulatory Flexibility Act

    It is hereby certified that this final regulation will not have a 
significant economic impact on a substantial number of small entities 
within the meaning of section 601(6) of the Regulatory Flexibility Act 
(5 U.S.C. chapter 6). The Treasury Department and the IRS have 
determined that the regulations may affect a substantial number of 
small entities, but have also concluded that the economic impact on 
small entities as a result of the collections of information in this 
regulation is not expected to be significant.
    The small business entities that are subject to section 250 and 
these final regulations are small domestic corporations claiming a 
deduction under section 250 based on their FDII and GILTI. Pursuant to 
Sec.  1.250(a)-1(d), taxpayers are required to file new Form 8993 to 
compute the amount of the eligible deduction for FDII and GILTI under 
section 250. The Treasury Department and the IRS estimate that there 
are between 75,000 and 350,000 respondents of all sizes that are likely 
to file Form 8993. Additionally, under Sec.  1.250(b)-1(e), a 
partnership that has one or more direct or indirect partners that are 
domestic corporations and that is required to file a return under 
section 6031 must furnish on Schedule K-1 (Form 1065) certain 
information that would allow the partner to accurately calculate its 
FDII. The Treasury Department and the IRS estimate the number of 
domestic corporations that are direct or indirect partners in a 
partnership affected by Sec.  1.250(b)-1(e) is between 15,000 and 
45,000.
    As discussed in the Summary of Comments and Explanation of 
Revisions section of this preamble, the Treasury Department and the IRS 
have determined that requiring specific documentation in every case is 
challenging given the variations in industry practices. Accordingly, 
the final regulations adopt a more flexible approach to the 
documentation requirements in the proposed regulations and, for certain 
of these regulatory requirements, instead provide substantiation rules 
that are more flexible with respect to the types of corroborating 
evidence that may be used to determine that a transaction is a FDDEI 
transaction. A transaction is a FDDEI transaction only if the taxpayer

[[Page 43079]]

substantiates its determination of foreign use (in the case of sales of 
general property to non-end users and sales of intangible property) or 
location outside the United States (in the case of general services 
provided to a business recipient) as described in the applicable 
paragraph of Sec.  1.250(b)-4(d)(3) or Sec.  1.250(b)-5(e)(4). Similar 
to the exception for small businesses from the documentation 
requirements in the proposed regulations, the final regulations provide 
that the new specific substantiation requirements do not apply to a 
taxpayer if the taxpayer and all related parties of the taxpayer 
received less than $25,000,000 in gross receipts in the prior taxable 
year. The Treasury Department and the IRS anticipate that a substantial 
share of small entities claiming a section 250 deduction will qualify 
for the small business exception, thereby significantly reducing the 
overall burden of the final regulations on small entities. Although the 
rule will alleviate burden on many small entities, the Small Business 
Administration's small business size standards (13 CFR part 121) 
identify as small entities several industries with annual revenues 
above $25 million.
    For the rules in the final regulations for which there are no 
specific substantiation requirements, taxpayers will continue to be 
required to substantiate deductions under section 250 pursuant to 
section 6001. Small business entities are expected to experience 0 to 5 
minutes, with an average of 2.5 minutes, of recordkeeping per 
transaction recipient. The hourly estimates include all associated 
activities: Recordkeeping, tax planning, learning about the law, 
gathering tax materials, form completion and submissions, and time with 
a tax preparer or use of tax software. The estimated monetized burden 
for small business entities for compliance is $53.12 per hour, a figure 
computed from the IRS Business Taxpayer Burden model which assigns each 
firm in the micro data a monetization rate based on total revenue and 
assets reported on their tax return. See ``Tax Compliance Burden'' 
(John Guyton et al., July 2018) at https://www.irs.gov/pub/irs-soi/d13315.pdf. The assigned monetization rates include, in addition to 
wages, employer non-wage costs such as employment taxes, benefits, and 
overhead. The reporting burden for completing Form 8993 is estimated to 
average 21 hours for all affected entities, regardless of size. The 
reporting burden on small entities (those with receipts below $25 
million in RAAS calculations) is estimated to average 17.1 hours. Based 
on the monetized hourly burden reported above, the annual per-entity 
reporting burden for small entities will be $908.
    For these reasons, the Treasury Department and the IRS have 
determined that the requirements in Sec. Sec.  1.250(a)-1(d), 1.250(b)-
4(d)(3), and 1.250(b)-5(e)(4) will not have a significant economic 
impact on a substantial number of small entities.
    The small business entities that are subject to Sec.  1.6038-
2(f)(15), Sec.  1.6038-3(g)(4), or Sec.  1.6038A-2(b)(5)(iv) are 
domestic small business entities that claim a deduction under section 
250 by reason of having FDII that are either controlling U.S. 
shareholders of a foreign corporation, controlling fifty-percent 
partners or controlling ten-percent partners of a foreign partnership, 
or at least 25-percent foreign-owned, by vote or value, respectively. 
The data to assess the number of small entities potentially affected by 
Sec.  1.6038-2(f)(15), Sec.  1.6038-3(g)(4), or Sec.  1.6038A-
2(b)(5)(iv) are not readily available. However, businesses that are 
controlling U.S. shareholders of a foreign corporation, controlling 
fifty-percent partners or controlling ten-percent partners of a foreign 
partnership, or at least 25-percent foreign-owned, by vote or value are 
generally not small businesses for the reasons described in part III of 
the Special Analyses section in the proposed regulation (REG-104464-18, 
84 FR 8188 (March 6, 2019)). Consequently, the Treasury Department and 
the IRS have determined that Sec. Sec.  1.6038-2(f)(15), 1.6038-
3(g)(4), and 1.6038A-2(b)(5)(iv) will not have a significant economic 
impact on a substantial number of small entities.
    Pursuant to section 7805(f) of the Code, the proposed regulations 
preceding these final regulations were submitted to the Chief Counsel 
for Advocacy of the Small Business Administration for comment on its 
impact on small businesses. No comments were received.

IV. Unfunded Mandates Reform Act

    Section 202 of the Unfunded Mandates Reform Act of 1995 requires 
that agencies assess anticipated costs and benefits and take certain 
other actions before issuing a final rule that includes any Federal 
mandate that may result in expenditures in any one year by a state, 
local, or tribal government, in the aggregate, or by the private 
sector, of $100 million in 1995 dollars, updated annually for 
inflation. This rule does not include any Federal mandate that may 
result in expenditures by state, local, or tribal governments, or by 
the private sector in excess of that threshold.

V. Executive Order 13132: Federalism

    Executive Order 13132 (entitled ``Federalism'') prohibits an agency 
from publishing any rule that has federalism implications if the rule 
either imposes substantial, direct compliance costs on state and local 
governments, and is not required by statute, or preempts state law, 
unless the agency meets the consultation and funding requirements of 
section 6 of the Executive Order. These regulations do not have 
federalism implications and do not impose substantial direct compliance 
costs on state and local governments or preempt state law within the 
meaning of the Executive Order.

VI. Congressional Review Act

    The Administrator of the Office of Information and Regulatory 
Affairs of OMB has determined that this Treasury decision is a major 
rule for purposes of the Congressional Review Act (5 U.S.C. 801 et 
seq.) (``CRA''). Under section 801(a)(3) of the CRA, a major rule 
generally may not take effect until 60 days after the rule is published 
in the Federal Register. Accordingly, the Treasury Department and IRS 
are adopting these final regulations with the delayed effective date 
generally prescribed under the Congressional Review Act.

Drafting Information

    The principal authors of the regulations are Kenneth Jeruchim, Brad 
McCormack, and Lorraine Rodriguez of the Office of Associate Chief 
Counsel (International). However, other personnel from the Treasury 
Department and the IRS participated in the development of the 
regulations.

Statement of Availability of IRS Documents

    IRS Revenue Procedures, Revenue Rulings, Notices, and other 
guidance cited in this document are published in the Internal Revenue 
Bulletin and are available from the Superintendent of Documents, U.S. 
Government Publishing Office, Washington, DC 20402, or by visiting the 
IRS website at https://www.irs.gov.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

    Accordingly, 26 CFR part 1 is amended as follows:

[[Page 43080]]

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 is amended by adding 
entries in numerical order for Sec. Sec.  1.250-0, 1.250-1, 1.250(a)-1, 
1.250(b)-1, 1.250(b)-2, 1.250(b)-3, 1.250(b)-4, 1.250(b)-5, 1.250(b)-6, 
and Sec.  1.1502-50 and revising the entries for Sec. Sec.  1.1502-12 
and 1.1502-13 to read in part as follows:

    Authority:  26 U.S.C. 7805 * * *
* * * * *
    Section 1.250-0 also issued under 26 U.S.C. 250(c).
    Section 1.250-1 also issued under 26 U.S.C. 250(c).
    Section 1.250(a)-1 also issued under 26 U.S.C. 250(c) and 6001.
    Section 1.250(b)-1 also issued under 26 U.S.C. 250(c) and 6001.
    Section 1.250(b)-2 also issued under 26 U.S.C. 250(c).
    Section 1.250(b)-3 also issued under 26 U.S.C. 250(c).
    Section 1.250(b)-4 also issued under 26 U.S.C. 250(c).
    Section 1.250(b)-5 also issued under 26 U.S.C. 250(c).
    Section 1.250(b)-6 also issued under 26 U.S.C. 250(c).
* * * * *
    Section 1.1502-12 also issued under 26 U.S.C. 250(c) and 1502.
    Section 1.1502-13 also issued under 26 U.S.C. 250(c) and 1502.
* * * * *
    Section 1.1502-50 also issued under 26 U.S.C. 250(c) and 1502.
* * * * *

0
Par. 2. Sections 1.250-0, 1.250-1, 1.250(a)-1, and 1.250(b)-1 through 
1.250(b)-6 are added to read as follows:
Sec.
* * * * *
1.250-0 Table of contents.
1.250-1 Introduction.
1.250(a)-1 Deduction for foreign-derived intangible income (FDII) 
and global intangible low-taxed income (GILTI).
1.250(b)-1 Computation of foreign-derived intangible income (FDII).
1.250(b)-2 Qualified business asset investment (QBAI).
1.250(b)-3 Foreign-derived deduction eligible income (FDDEI) 
transactions.
1.250(b)-4 Foreign-derived deduction eligible income (FDDEI) sales.
1.250(b)-5 Foreign-derived deduction eligible income (FDDEI) 
services.
1.250(b)-6 Related party transactions.
* * * * *


Sec.  1.250-0  Table of contents.

    This section contains a listing of the headings for Sec. Sec.  
1.250-1, 1.250(a)-1, and 1.250(b)-1 through 1.250(b)-6.

Sec.  1.250-1 Introduction.

    (a) Overview.
    (b) Applicability dates.

Sec.  1.250(a)-1 Deduction for foreign-derived intangible income 
(FDII) and global intangible low-taxed income (GILTI).

    (a) Scope.
    (b) Allowance of deduction.
    (1) In general.
    (2) Taxable income limitation.
    (3) Reduction in deduction for taxable years after 2025.
    (4) Treatment under section 4940.
    (c) Definitions.
    (1) Domestic corporation.
    (2) Foreign-derived intangible income (FDII).
    (3) Global intangible low-taxed income (GILTI).
    (4) Section 250(a)(2) amount.
    (5) Taxable income.
    (i) In general.
    (ii) [Reserved]
    (d) Reporting requirement.
    (e) Determination of deduction for consolidated groups.
    (f) Example: Application of the taxable income limitation.
Sec.  1.250(b)-1 Computation of foreign-derived intangible income 
(FDII).

    (a) Scope.
    (b) Definition of FDII.
    (c) Definitions.
    (1) Controlled foreign corporation.
    (2) Deduction eligible income.
    (3) Deemed intangible income.
    (4) Deemed tangible income return.
    (5) Dividend.
    (6) Domestic corporation.
    (7) Domestic oil and gas extraction income.
    (8) FDDEI sale.
    (9) FDDEI service.
    (10) FDDEI transaction.
    (11) Foreign branch income.
    (12) Foreign-derived deduction eligible income.
    (13) Foreign-derived ratio.
    (14) Gross RDEI.
    (15) Gross DEI.
    (16) Gross FDDEI.
    (17) Modified affiliated group.
    (i) In general.
    (ii) Special rule for noncorporate entities.
    (iii) Definition of control.
    (18) Qualified business asset investment.
    (19) Related party.
    (20) United States shareholder.
    (d) Treatment of cost of goods sold and allocation and 
apportionment of deductions.
    (1) Cost of goods sold for determining gross DEI and gross 
FDDEI.
    (2) Deductions properly allocable to gross DEI and gross FDDEI.
    (i) In general.
    (ii) Determination of deductions to allocate.
    (3) Examples.
    (e) Domestic corporate partners.
    (1) In general.
    (2) Reporting requirement for partnership with domestic 
corporate partners.
    (3) Examples.
    (f) Determination of FDII for consolidated groups.
    (g) Determination of FDII for tax-exempt corporations.

Sec.  1.250(b)-2 Qualified business asset investment (QBAI).

    (a) Scope.
    (b) Definition of qualified business asset investment.
    (c) Specified tangible property.
    (1) In general.
    (2) Tangible property.
    (d) Dual use property.
    (1) In general.
    (2) Definition of dual use property.
    (3) Dual use ratio.
    (4) Example.
    (e) Determination of adjusted basis of specified tangible 
property.
    (1) In general.
    (2) Effect of change in law.
    (3) Specified tangible property placed in service before 
enactment of section 250.
    (f) Special rules for short taxable years.
    (1) In general.
    (2) Determination of when the quarter closes.
    (3) Reduction of qualified business asset investment.
    (4) Example.
    (g) Partnership property.
    (1) In general.
    (2) Determination of partnership QBAI.
    (3) Determination of partner adjusted basis.
    (i) In general.
    (ii) Sole use partnership property.
    (A) In general.
    (B) Definition of sole use partnership property.
    (iii) Dual use partnership property.
    (A) In general.
    (B) Definition of dual use partnership property.
    (4) Determination of proportionate share of the partnership's 
adjusted basis in partnership specified tangible property.
    (i) In general.
    (ii) Proportionate share ratio.
    (5) Definition of partnership specified tangible property.
    (6) Determination of partnership adjusted basis.
    (7) Determination of partner-specific QBAI basis.
    (8) Examples.
    (h) Anti-avoidance rule for certain transfers of property.
    (1) In general.
    (2) Rule for structured arrangements.
    (3) Per se rules for certain transactions.
    (4) Definitions related to anti-avoidance rule.
    (i) Disqualified period.
    (ii) FDII-eligible related party.
    (iii) Specified related party.
    (iv) Transfer.
    (5) Transactions occurring before March 4, 2019.
    (6) Examples.

Sec.  1.250(b)-3 Foreign-derived deduction eligible income (FDDEI) 
transactions.

    (a) Scope.
    (b) Definitions.
    (1) Digital content.
    (2) End user.
    (3) FDII filing date.
    (4) Finished goods.
    (5) Foreign person.
    (6) Foreign related party.
    (7) Foreign retail sale.
    (8) Foreign unrelated party.
    (9) Fungible mass of general property.
    (10) General property.
    (11) Intangible property.
    (12) International transportation property.
    (13) IP address.

[[Page 43081]]

    (14) Recipient.
    (15) Renderer.
    (16) Sale.
    (17) Seller.
    (18) United States.
    (19) United States person.
    (20) United States territory.
    (c) Foreign military sales and services.
    (d) Transactions with multiple elements.
    (e) Treatment of partnerships.
    (1) In general.
    (2) Examples.
    (f) Substantiation for certain FDDEI transactions.
    (1) In general.
    (2) Exception for small businesses.
    (3) Treatment of certain loss transactions.
    (i) In general.
    (ii) Reason to know.
    (A) Sales to a foreign person for a foreign use.
    (B) General services provided to a business recipient located 
outside the United States.
    (iii) Multiple transactions.
    (iv) Example.

Sec.  1.250(b)-4 Foreign-derived deduction eligible income (FDDEI) 
sales.
    (a) Scope.
    (b) Definition of FDDEI sale.
    (c) Presumption of foreign person status.
    (1) In general.
    (2) Sales of property.
    (d) Foreign use.
    (1) Foreign use for general property.
    (i) In general.
    (ii) Rules for determining foreign use.
    (A) Sales that are delivered to an end user by a carrier or 
freight forwarder.
    (B) Sales to an end user without the use of a carrier or freight 
forwarder.
    (C) Sales for resale.
    (D) Sales of digital content.
    (E) Sales of international transportation property used for 
compensation or hire.
    (F) Sales of international transportation property not used for 
compensation or hire.
    (iii) Sales for manufacturing, assembly, or other processing.
    (A) In general.
    (B) Property subject to a physical and material change.
    (C) Property incorporated into a product as a component.
    (iv) Sales of property subject to manufacturing, assembly, or 
other processing in the United States
    (v) Examples.
    (2) Foreign use for intangible property.
    (i) In general.
    (ii) Determination of end users and revenue earned from end 
users.
    (A) Intangible property embedded in general property or used in 
connection with the sale of general property.
    (B) Intangible property used in providing a service.
    (C) Intangible property consisting of a manufacturing method or 
process.
    (1) In general.
    (2) Exception for certain manufacturing arrangements.
    (3) Manufacturing method or process.
    (D) Intangible property used in research and development.
    (iii) Determination of revenue for periodic payments versus lump 
sums.
    (A) Sales in exchange for periodic payments.
    (B) Sales in exchange for a lump sum.
    (C) Sales to a foreign unrelated party of intangible property 
consisting of a manufacturing method or process.
    (iv) Examples.
    (3) Foreign use substantiation for certain sales of property.
    (i) In general.
    (ii) Substantiation of foreign use for resale.
    (iii) Substantiation of foreign use for manufacturing, assembly, 
or other processing. outside the United States.
    (iv) Substantiation of foreign use of intangible property.
    (v) Examples.
    (e) Sales of interests in a disregarded entity.
    (f) FDDEI sales hedging transactions.
    (1) In general.
    (2) FDDEI sales hedging transaction.

Sec.  1.250(b)-5 Foreign-derived deduction eligible income (FDDEI) 
services.
    (a) Scope.
    (b) Definition of FDDEI service.
    (c) Definitions.
    (1) Advertising service.
    (2) Benefit.
    (3) Business recipient.
    (4) Consumer.
    (5) Electronically supplied service.
    (6) General service.
    (7) Property service.
    (8) Proximate service.
    (9) Transportation service.
    (d) General services provided to consumers.
    (1) In general.
    (2) Electronically supplied services.
    (3) Example.
    (e) General services provided to business recipients.
    (1) In general.
    (2) Determination of business operations that benefit from the 
service.
    (i) In general.
    (ii) Advertising services.
    (iii) Electronically supplied services.
    (3) Identification of business recipient's operations.
    (i) In general.
    (ii) Advertising services and electronically supplied services.
    (iii) No office or fixed place of business.
    (4) Substantiation of the location of a business recipient's 
operations outside the United States.
    (5) Examples.
    (f) Proximate services.
    (g) Property services.
    (1) In general.
    (2) Exception for service provided with respect to property 
temporarily in the United States.
    (h) Transportation services.

Sec.  1.250(b)-6 Related party transactions.
    (a) Scope.
    (b) Definitions.
    (1) Related party sale.
    (2) Related party service.
    (3) Unrelated party transaction.
    (c) Related party sales.
    (1) In general.
    (i) Sale of property in an unrelated party transaction.
    (ii) Use of property in an unrelated party transaction.
    (2) Treatment of foreign related party as seller or renderer.
    (3) Transactions between related parties.
    (4) Example.
    (d) Related party services.
    (1) In general.
    (2) Substantially similar services.
    (3) Special rules.
    (i) Rules for determining the location of and price paid by 
recipients of a service provided by a related party.
    (ii) Rules for allocating the benefits provided by and priced 
paid to the renderer of a related party service.
    (4) Examples.


Sec.  1.250-1   Introduction.

    (a) Overview. Sections 1.250(a)-1 and 1.250(b)-1 through 1.250(b)-6 
provide rules to determine a domestic corporation's section 250 
deduction. Section 1.250(a)-1 provides rules to determine the amount of 
a domestic corporation's deduction for foreign-derived intangible 
income and global intangible low-taxed income. Section 1.250(b)-1 
provides general rules and definitions regarding the computation of 
foreign-derived intangible income. Section 1.250(b)-2 provides rules 
for determining a domestic corporation's qualified business asset 
investment. Section 1.250(b)-3 provides general rules and definitions 
regarding the determination of gross foreign-derived deduction eligible 
income. Section 1.250(b)-4 provides rules regarding the determination 
of gross foreign-derived deduction eligible income from the sale of 
property. Section 1.250(b)-5 provides rules regarding the determination 
of gross foreign-derived deduction eligible income from the provision 
of a service. Section 1.250(b)-6 provides rules regarding the sale of 
property or provision of a service to a related party.
    (b) Applicability dates. Except as provided in the next sentence, 
Sec. Sec.  1.250(a)-1 and 1.250(b)-1 through 1.250(b)-6 apply to 
taxable years beginning on or after January 1, 2021. Section 1.250(b)-
2(h) applies to taxable years ending on or after March 4, 2019. 
However, taxpayers may choose to apply Sec. Sec.  1.250(a)-1 and 
1.250(b)-1 through 1.250(b)-6 for taxable years beginning on or after 
January 1, 2018, and before January 1, 2021, provided they apply the 
regulations in their entirety (other than Sec.  1.250(b)-3(f) and the 
applicable provisions in Sec.  1.250(b)-4(d)(3) or Sec.  1.250(b)-
5(e)(4)).


Sec.  1.250(a)-1   Deduction for foreign-derived intangible income 
(FDII) and global intangible low-taxed income (GILTI).

    (a) Scope. This section provides rules for determining the amount 
of a domestic corporation's deduction for

[[Page 43082]]

foreign-derived intangible income (FDII) and global intangible low-
taxed income (GILTI). Paragraph (b) of this section provides general 
rules for determining the amount of the deduction. Paragraph (c) of 
this section provides definitions relevant for determining the amount 
of the deduction. Paragraph (d) of this section provides reporting 
requirements for a domestic corporation claiming the deduction. 
Paragraph (e) of this section provides a rule for determining the 
amount of the deduction of a member of a consolidated group. Paragraph 
(f) of this section provides examples illustrating the application of 
this section.
    (b) Allowance of deduction--(1) In general. A domestic corporation 
is allowed a deduction for any taxable year equal to the sum of--
    (i) 37.5 percent of its foreign-derived intangible income for the 
year; and
    (ii) 50 percent of--
    (A) Its global intangible low-taxed income for the year; and
    (B) The amount treated as a dividend received by the corporation 
under section 78 which is attributable to its GILTI for the year.
    (2) Taxable income limitation. In the case of a domestic 
corporation with a section 250(a)(2) amount for a taxable year, for 
purposes of applying paragraph (b)(1) of this section for the year--
    (i) The corporation's FDII for the year (if any) is reduced (but 
not below zero) by an amount that bears the same ratio to the 
corporation's section 250(a)(2) amount that the corporation's FDII for 
the year bears to the sum of the corporation's FDII and GILTI for the 
year; and
    (ii) The corporation's GILTI for the year (if any) is reduced (but 
not below zero) by the excess of the corporation's section 250(a)(2) 
amount over the amount of the reduction described in paragraph 
(b)(2)(i) of this section.
    (3) Reduction in deduction for taxable years after 2025. For any 
taxable year of a domestic corporation beginning after December 31, 
2025, paragraph (b)(1) of this section applies by substituting--
    (i) 21.875 percent for 37.5 percent in paragraph (b)(1)(i) of this 
section; and
    (ii) 37.5 percent for 50 percent in paragraph (b)(1)(ii) of this 
section.
    (4) Treatment under section 4940. For purposes of section 
4940(c)(3)(A), a deduction under section 250(a) is not treated as an 
ordinary and necessary expense paid or incurred for the production or 
collection of gross investment income.
    (c) Definitions. The following definitions apply for purposes of 
this section.
    (1) Domestic corporation. The term domestic corporation has the 
meaning set forth in section 7701(a), but does not include a regulated 
investment company (as defined in section 851), a real estate 
investment trust (as defined in section 856), or an S corporation (as 
defined in section 1361).
    (2) Foreign-derived intangible income (FDII). The term foreign-
derived intangible income or FDII has the meaning set forth in Sec.  
1.250(b)-1(b).
    (3) Global intangible low-taxed income (GILTI). The term global 
intangible low-taxed income or GILTI means, with respect to a domestic 
corporation for a taxable year, the corporation's GILTI inclusion 
amount under Sec.  1.951A-1(c) for the taxable year.
    (4) Section 250(a)(2) amount. The term section 250(a)(2) amount 
means, with respect to a domestic corporation for a taxable year, the 
excess (if any) of the sum of the corporation's FDII and GILTI 
(determined without regard to section 250(a)(2) and paragraph (b)(2) of 
this section), over the corporation's taxable income. For a corporation 
that is subject to the unrelated business income tax under section 511, 
taxable income is determined only by reference to that corporation's 
unrelated business taxable income defined under section 512.
    (5) Taxable income--(i) In general. The term taxable income has the 
meaning set forth in section 63(a) determined without regard to the 
deduction allowed under section 250 and this section.
    (ii) [Reserved]
    (d) Reporting requirement. Each domestic corporation (or individual 
making an election under section 962) that claims a deduction under 
section 250 for a taxable year must make an annual return on Form 8993, 
``Section 250 Deduction for Foreign-Derived Intangible Income (FDII) 
and Global Intangible Low-Taxed Income (GILTI)'' (or any successor 
form) for such year, setting forth the information, in such form and 
manner, as Form 8993 (or any successor form) or its instructions 
prescribe. Returns on Form 8993 (or any successor form) for a taxable 
year must be filed with the domestic corporation's (or in the case of a 
section 962 election, the individual's) income tax return on or before 
the due date (taking into account extensions) for filing the 
corporation's (or in the case of a section 962 election, the 
individual's) income tax return.
    (e) Determination of deduction for consolidated groups. A member of 
a consolidated group (as defined in Sec.  1.1502-1(h)) determines its 
deduction under section 250(a) and this section under the rules 
provided in Sec.  1.1502-50(b).
    (f) Example: Application of the taxable income limitation. The 
following example illustrates the application of this section. For 
purposes of the example, it is assumed that DC is a domestic 
corporation that is not a member of a consolidated group and the 
taxable year of DC begins after 2017 and before 2026.

    (1) Facts. For the taxable year, without regard to section 
250(a)(2) and paragraph (b)(2) of this section, DC has FDII of $100x 
and GILTI of $300x. DC's taxable income (without regard to section 
250(a) and this section) is $300x.
    (2) Analysis. DC has a section 250(a)(2) amount of $100x, which 
is equal to the excess of the sum of DC's FDII and GILTI of $400x 
($100x + $300x) over its taxable income of $300x. As a result, DC's 
FDII and GILTI are reduced, in the aggregate, by $100x under section 
250(a)(2) and paragraph (b)(2) of this section for purposes of 
calculating DC's deduction allowed under section 250(a)(1) and 
paragraph (b)(1) of this section. DC's FDII is reduced by $25x, the 
amount that bears the same ratio to the section 250(a)(2) amount 
($100x) as DC's FDII ($100x) bears to the sum of DC's FDII and GILTI 
($400x). DC's GILTI is reduced by $75x, which is the remainder of 
the section 250(a)(2) amount ($100x-$25x). Therefore, for purposes 
of calculating its deduction under section 250(a)(1) and paragraph 
(b)(1) of this section, DC's FDII is $75x ($100x-$25x) and its GILTI 
is $225x ($300x-$75x). Accordingly, DC is allowed a deduction for 
the taxable year under section 250(a)(1) and paragraph (b)(1) of 
this section of $140.63x ($75x x 0.375 + $225x x 0.50).


Sec.  1.250(b)-1   Computation of foreign-derived intangible income 
(FDII).

    (a) Scope. This section provides rules for computing FDII. 
Paragraph (b) of this section defines FDII. Paragraph (c) of this 
section provides definitions that are relevant for computing FDII. 
Paragraph (d) of this section provides rules for computing gross income 
and allocating and apportioning deductions for purposes of computing 
deduction eligible income (DEI) and foreign-derived deduction eligible 
income (FDDEI). Paragraph (e) of this section provides rules for 
computing the DEI and FDDEI of a domestic corporate partner. Paragraph 
(f) of this section provides a rule for computing the FDII of a member 
of a consolidated group. Paragraph (g) of this section provides a rule 
for computing the FDII of a tax-exempt corporation.
    (b) Definition of FDII. Subject to the provisions of this section, 
the term FDII means, with respect to a domestic corporation for a 
taxable year, the corporation's deemed intangible income for the year 
multiplied by the

[[Page 43083]]

corporation's foreign-derived ratio for the year.
    (c) Definitions. This paragraph (c) provides definitions that apply 
for purposes of this section and Sec. Sec.  1.250(b)-2 through 
1.250(b)-6.
    (1) Controlled foreign corporation. The term controlled foreign 
corporation has the meaning set forth in section 957(a) and Sec.  
1.957-1(a).
    (2) Deduction eligible income. The term deduction eligible income 
or DEI means, with respect to a domestic corporation for a taxable 
year, the excess (if any) of the corporation's gross DEI for the year 
over the deductions properly allocable to gross DEI for the year, as 
determined under paragraph (d)(2) of this section.
    (3) Deemed intangible income. The term deemed intangible income 
means, with respect to a domestic corporation for a taxable year, the 
excess (if any) of the corporation's DEI for the year over the 
corporation's deemed tangible income return for the year.
    (4) Deemed tangible income return. The term deemed tangible income 
return means, with respect to a domestic corporation and a taxable 
year, 10 percent of the corporation's qualified business asset 
investment for the year.
    (5) Dividend. The term dividend has the meaning set forth in 
section 316, and includes any amount treated as a dividend under any 
other provision of subtitle A of the Internal Revenue Code or the 
regulations in this part (for example, under section 78, 356(a)(2), 
367(b), or 1248).
    (6) Domestic corporation. The term domestic corporation has the 
meaning set forth in Sec.  1.250(a)-1(c)(1).
    (7) Domestic oil and gas extraction income. The term domestic oil 
and gas extraction income means income described in section 907(c)(1), 
substituting ``within the United States'' for ``without the United 
States.''
    (8) FDDEI sale. The term FDDEI sale has the meaning set forth in 
Sec.  1.250(b)-4(b).
    (9) FDDEI service. The term FDDEI service has the meaning set forth 
in Sec.  1.250(b)-5(b).
    (10) FDDEI transaction. The term FDDEI transaction means a FDDEI 
sale or a FDDEI service.
    (11) Foreign branch income. The term foreign branch income has the 
meaning set forth in section 904(d)(2)(J) and Sec.  1.904-4(f)(2).
    (12) Foreign-derived deduction eligible income. The term foreign-
derived deduction eligible income or FDDEI means, with respect to a 
domestic corporation for a taxable year, the excess (if any) of the 
corporation's gross FDDEI for the year, over the deductions properly 
allocable to gross FDDEI for the year, as determined under paragraph 
(d)(2) of this section.
    (13) Foreign-derived ratio. The term foreign-derived ratio means, 
with respect to a domestic corporation for a taxable year, the ratio 
(not to exceed one) of the corporation's FDDEI for the year to the 
corporation's DEI for the year. If a domestic corporation has no FDDEI 
for a taxable year, the corporation's foreign-derived ratio is zero for 
the taxable year.
    (14) Gross RDEI. The term gross RDEI means, with respect to a 
domestic corporation or a partnership for a taxable year, the portion 
of the corporation or partnership's gross DEI for the year that is not 
included in gross FDDEI.
    (15) Gross DEI. The term gross DEI means, with respect to a 
domestic corporation or a partnership for a taxable year, the gross 
income of the corporation or partnership for the year determined 
without regard to the following items of gross income--
    (i) Amounts included in gross income under section 951(a)(1);
    (ii) GILTI (as defined in Sec.  1.250(a)-1(c)(3));
    (iii) Financial services income (as defined in section 904(d)(2)(D) 
and Sec.  1.904-4(e)(1)(ii));
    (iv) Dividends received from a controlled foreign corporation with 
respect to which the corporation or partnership is a United States 
shareholder;
    (v) Domestic oil and gas extraction income; and
    (vi) Foreign branch income.
    (16) Gross FDDEI. The term gross FDDEI means, with respect to a 
domestic corporation or a partnership for a taxable year, the portion 
of the gross DEI of the corporation or partnership for the year which 
is derived from all of its FDDEI transactions.
    (17) Modified affiliated group--(i) In general. The term modified 
affiliated group means an affiliated group as defined in section 
1504(a) determined by substituting ``more than 50 percent'' for ``at 
least 80 percent'' each place it appears, and without regard to section 
1504(b)(2) and (3).
    (ii) Special rule for noncorporate entities. Any person (other than 
a corporation) that is controlled by one or more members of a modified 
affiliated group (including one or more persons treated as a member or 
members of a modified affiliated group by reason of this paragraph 
(c)(17)(ii)) or that controls any such member is treated as a member of 
the modified affiliated group.
    (iii) Definition of control. For purposes of paragraph (c)(17)(ii) 
of this section, the term control has the meaning set forth in section 
954(d)(3).
    (18) Qualified business asset investment. The term qualified 
business asset investment or QBAI has the meaning set forth in Sec.  
1.250(b)-2(b).
    (19) Related party. The term related party means, with respect to 
any person, any member of a modified affiliated group that includes 
such person.
    (20) United States shareholder. The term United States shareholder 
has the meaning set forth in section 951(b) and Sec.  1.951-1(g).
    (d) Treatment of cost of goods sold and allocation and 
apportionment of deductions--(1) Cost of goods sold for determining 
gross DEI and gross FDDEI. For purposes of determining the gross income 
included in gross DEI and gross FDDEI of a domestic corporation or a 
partnership, the cost of goods sold of the corporation or partnership 
is attributed to gross receipts with respect to gross DEI or gross 
FDDEI under any reasonable method that is applied consistently. Cost of 
goods sold must be attributed to gross receipts with respect to gross 
DEI or gross FDDEI regardless of whether certain costs included in cost 
of goods sold can be associated with activities undertaken in an 
earlier taxable year (including a year before the effective date of 
section 250). A domestic corporation or partnership may not segregate 
cost of goods sold with respect to a particular product into component 
costs and attribute those component costs disproportionately to gross 
receipts with respect to amounts excluded from gross DEI or gross 
FDDEI, as applicable.
    (2) Deductions properly allocable to gross DEI and gross FDDEI--(i) 
In general. For purposes of determining a domestic corporation's 
deductions that are properly allocable to gross DEI and gross FDDEI, 
the corporation's deductions are allocated and apportioned to gross DEI 
and gross FDDEI under the rules of Sec. Sec.  1.861-8 through 1.861-14T 
and 1.861-17 by treating section 250(b) as an operative section 
described in Sec.  1.861-8(f). In allocating and apportioning 
deductions under Sec. Sec.  1.861-8 through 1.861-14T and 1.861-17, 
gross FDDEI and gross RDEI are treated as separate statutory groupings. 
The deductions allocated and apportioned to gross DEI equal the sum of 
the deductions allocated and apportioned to gross FDDEI and gross RDEI. 
All items of gross income described in paragraphs (c)(15)(i) through 
(vi) of this section are in the residual grouping.

[[Page 43084]]

    (ii) Determination of deductions to allocate. For purposes of 
determining the deductions of a domestic corporation for a taxable year 
properly allocable to gross DEI and gross FDDEI, the deductions of the 
corporation for the taxable year are determined without regard to 
sections 163(j), 170(b)(2), 172, 246(b), and 250.
    (3) Examples. The following examples illustrate the application of 
this paragraph (d).
    (i) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (A) DC is a domestic corporation that is not a member of a 
consolidated group.
    (B) All sales and services are provided to persons that are not 
related parties.
    (C) All sales and services to foreign persons qualify as FDDEI 
transactions.
    (ii) Examples--

    (A) Example 1: Allocation of deductions--(1) Facts. For a 
taxable year, DC manufactures products A and B in the United States. 
DC sells products A and B and provides services associated with 
products A and B to United States and foreign persons. DC's QBAI for 
the taxable year is $1,000x. DC has $300x of deductible interest 
expense allowed under section 163. DC has assets with a tax book 
value of $2,500x. The tax book value of DC's assets used to produce 
products A and B and services is split evenly between assets that 
produce gross FDDEI and assets that produce gross RDEI. DC has $840x 
of supportive deductions, as defined in Sec.  1.861-8(b)(3), 
attributable to general and administrative expenses incurred for the 
purpose of generating the class of gross income that consists of 
gross DEI. DC apportions the $840x of deductions on the basis of 
gross income in accordance with Sec.  1.861-8T(c)(1). For purposes 
of determining gross FDDEI and gross DEI under paragraph (d)(1) of 
this section, DC attributes $200x of cost of goods sold to Product A 
and $400x of cost of goods sold to Product B, and then attributes 
the cost of goods sold for each product ratably between the gross 
receipts of such product sold to foreign persons and the gross 
receipts of such product sold to United States persons. The manner 
in which DC attributes the cost of goods sold is a reasonable 
method. DC has no other items of income, loss, or deduction. For the 
taxable year, DC has the following income tax items relevant to the 
determination of its FDII:


                                      Table 1 to Paragraph (d)(3)(ii)(A)(1)
----------------------------------------------------------------------------------------------------------------
                                                     Product A       Product B       Services          Total
----------------------------------------------------------------------------------------------------------------
Gross receipts from U.S. persons................           $200x           $800x           $100x         $1,100x
Gross receipts from foreign persons.............            200x            800x            100x          1,100x
Total gross receipts............................            400x          1,600x            200x          2,200x
Cost of goods sold for gross receipts from U.S.             100x            200x               0            300x
 persons........................................
Cost of goods sold for gross receipts from                  100x            200x               0            300x
 foreign persons................................
Total cost of goods sold........................            200x            400x               0            600x
Gross income....................................            200x          1,200x            200x          1,600x
Tax book value of assets used to produce                    500x            500x          1,500x          2,500x
 products/services..............................
----------------------------------------------------------------------------------------------------------------


    (2) Analysis--(i) Determination of gross FDDEI and gross RDEI. 
Because DC does not have any income described in section 
250(b)(3)(A)(i)(I) through (VI) and paragraphs (c)(15)(i) through 
(vi) of this section, none of its gross income is excluded from 
gross DEI. DC's gross DEI is $1,600x ($2,200x total gross receipts 
less $600x total cost of goods sold). DC's gross FDDEI is $800x 
($1,100x of gross receipts from foreign persons minus attributable 
cost of goods sold of $300x).
    (ii) Determination of foreign-derived deduction eligible income. 
To calculate its FDDEI, DC must determine the amount of its 
deductions that are allocated and apportioned to gross FDDEI and 
then subtract those amounts from gross FDDEI. DC's interest 
deduction of $300x is allocated and apportioned to gross FDDEI on 
the basis of the average total value of DC's assets in each 
grouping. DC has assets with a tax book value of $2,500x split 
evenly between assets that produce gross FDDEI and assets that 
produce gross RDEI. Accordingly, an interest expense deduction of 
$150x is apportioned to DC's gross FDDEI. With respect to DC's 
supportive deductions of $840x that are related to DC's gross DEI, 
DC apportions such deductions between gross FDDEI and gross RDEI on 
the basis of gross income. Accordingly, supportive deductions of 
$420x are apportioned to DC's gross FDDEI. Thus, DC's FDDEI is 
$230x, which is equal to its gross FDDEI of $800x less $150x of 
interest expense deduction and $420x of supportive deductions.
    (iii) Determination of deemed intangible income. DC's deemed 
tangible income return is $100x, which is equal to 10 percent of its 
QBAI of $1,000x. DC's DEI is $460x, which is equal to its gross DEI 
of $1,600x less $300x of interest expense deductions and $840x of 
supportive deductions. Therefore, DC's deemed intangible income is 
$360x, which is equal to the excess of its DEI of $460x over its 
deemed tangible income return of $100x.
    (iv) Determination of foreign-derived intangible income. DC's 
foreign-derived ratio is 50 percent, which is the ratio of DC's 
FDDEI of $230x to DC's DEI of $460x. Therefore, DC's FDII is $180x, 
which is equal to DC's deemed intangible income of $360x multiplied 
by its foreign-derived ratio of 50 percent.
    (B) Example 2: Allocation of deductions with respect to a 
partnership--(1) Facts--(i) DC's operations. DC is engaged in the 
production and sale of products consisting of two separate product 
groups in three-digit Standard Industrial Classification (SIC) 
Industry Groups, hereafter referred to as Group AAA and Group BBB. 
All of the gross income of DC is included in gross DEI. DC incurs 
$250x of research and experimental (R&E) expenditures in the United 
States that are deductible under section 174. None of the R&E is 
included in cost of goods sold. For purposes of determining gross 
FDDEI and gross DEI under paragraph (d)(1) of this section, DC 
attributes $210x of cost of goods sold to Group AAA products and 
$900x of cost of goods sold to Group BBB products, and then 
attributes the cost of goods sold with respect to each such product 
group ratably between the gross receipts with respect to such 
product group sold to foreign persons and the gross receipts with 
respect to such product group not sold to foreign persons. The 
manner in which DC attributes the cost of goods sold is a reasonable 
method. For the taxable year, DC has the following income tax items 
relevant to the determination of its FDII:


                                         Table 2 to (d)(3)(ii)(B)(1)(i)
----------------------------------------------------------------------------------------------------------------
                                                                     Group AAA       Group BBB
                                                                     products        products          Total
----------------------------------------------------------------------------------------------------------------
Gross receipts from U.S. persons................................           $200x           $800x         $1,000x
Gross receipts from foreign persons.............................            100x            400x            500x
Total gross receipts............................................            300x          1,200x          1,500x
Cost of goods sold for gross receipts from U.S. persons.........            140x            600x            740x
Cost of goods sold for gross receipts from foreign persons......             70x            300x            370x
Total cost of goods sold........................................            210x            900x          1,110x

[[Page 43085]]

 
Gross income....................................................             90x            300x            390x
R&E deductions..................................................             40x            210x            250x
----------------------------------------------------------------------------------------------------------------


    (ii) PRS's operations. In addition to its own operations, DC is 
a partner in PRS, a partnership that also produces products 
described in SIC Group AAA. DC is allocated 50 percent of all 
income, gain, loss, and deductions of PRS. During the taxable year, 
PRS sells Group AAA products solely to foreign persons, and all of 
its gross income is included in gross DEI. PRS has $400 of gross 
receipts from sales of Group AAA products for the taxable year and 
incurs $100x of research and experimental (R&E) expenditures in the 
United States that are deductible under section 174. None of the R&E 
is included in cost of goods sold. For purposes of determining gross 
FDDEI and gross DEI under paragraph (d)(1) of this section, PRS 
attributes $200x of cost of goods sold to Group AAA products, and 
then attributes the cost of goods sold with respect to such product 
group ratably between the gross receipts with respect to such 
product group sold to foreign persons and the gross receipts with 
respect to such product group not sold to foreign persons. The 
manner in which PRS attributes the cost of goods sold is a 
reasonable method. DC's distributive share of PRS taxable items is 
$100x of gross income and $50x of R&E deductions, and DC's share of 
PRS's gross receipts from sales of Group AAA products for the 
taxable year is $200x under Sec.  1.861-17(f)(3).
    (iii) Application of the sales method to allocate and apportion 
R&E. DC applies the sales method to apportion its R&E deductions 
under Sec.  1.861-17. Neither DC nor PRS licenses or sells its 
intangible property to controlled or uncontrolled corporations in a 
manner that necessitates including the sales by such corporations 
for purposes of apportioning DC's R&E deductions.
    (2) Analysis--(i) Determination of gross DEI and gross FDDEI. 
Under paragraph (e)(1) of this section, DC's gross DEI, gross FDDEI, 
and deductions allocable to those amounts include its distributive 
share of gross DEI, gross FDDEI, and deductions of PRS. Thus, DC's 
gross DEI for the year is $490x ($390x attributable to DC and $100x 
attributable to DC's interest in PRS). DC's gross income from sales 
of Group AAA products to foreign persons is $30x ($100x of gross 
receipts minus attributable cost of goods sold of $70x). DC's gross 
income from sales of Group BBB products to foreign persons is $100x 
($400x of gross receipts minus attributable cost of goods sold of 
$300x). DC's gross FDDEI for the year is $230x ($30x from DC's sale 
of Group AAA products plus $100x from DC's sale of Group BBB 
products plus DC's distributive share of PRS's gross FDDEI of 
$100x).
    (ii) Allocation and apportionment of R&E deductions. To 
determine FDDEI, DC must allocate and apportion its R&E expense of 
$300x ($250x incurred directly by DC and $50x incurred indirectly 
through DC's interest in PRS). In accordance with Sec.  1.861-17, 
R&E expenses are first allocated to a class of gross income related 
to a three-digit SIC group code. DC's R&E expenses related to 
products in Group AAA are $90x ($40x incurred directly by DC and 
$50x incurred indirectly through DC's interest in PRS) and its 
expenses related to Group BBB are $210x. See paragraph (d)(2)(i) of 
this section. Accordingly, all R&E expense attributable to a 
particular SIC group code is apportioned on the basis of the amounts 
of sales within that SIC group code. Total sales within Group AAA 
were $500x ($300x directly by DC and $200x attributable to DC's 
interest in PRS), $300x of which were made to foreign persons ($100x 
directly by DC and $200x attributable to DC's interest in PRS). 
Therefore, the $90x of R&E expense related to Group AAA is 
apportioned $54x to gross FDDEI ($90x x $300x/$500x) and $36x to 
gross RDEI ($90x x $200x/$500x). Total sales within Group BBB were 
$1,200x, $400x of which were made to foreign persons. Therefore, the 
$210x of R&E expense related to products in Group BBB is apportioned 
$70x to gross FDDEI ($210x x $400x/$1,200x) and $140x to gross RDEI 
($210x x $800x/$1,200x). Accordingly, DC's FDDEI for the tax year is 
$106x ($230x gross FDDEI minus $124x of R&E ($54x + $70x) allocated 
and apportioned to gross FDDEI).

    (e) Domestic corporate partners--(1) In general. A domestic 
corporation's DEI and FDDEI for a taxable year are determined by taking 
into account the corporation's share of gross DEI, gross FDDEI, and 
deductions of any partnership (whether domestic or foreign) in which 
the corporation is a direct or indirect partner. For purposes of the 
preceding sentence, a domestic corporation's share of each such item of 
a partnership is determined in accordance with the corporation's 
distributive share of the underlying items of income, gain, deduction, 
and loss of the partnership that comprise such amounts. See Sec.  
1.250(b)-2(g) for rules on calculating the increase to a domestic 
corporation's QBAI by the corporation's share of partnership QBAI.
    (2) Reporting requirement for partnership with domestic corporate 
partners. A partnership that has one or more direct partners that are 
domestic corporations and that is required to file a return under 
section 6031 must furnish to each such partner on or with such 
partner's Schedule K-1 (Form 1065 or any successor form) by the due 
date (including extensions) for furnishing Schedule K-1 the partner's 
share of the partnership's gross DEI, gross FDDEI, deductions that are 
properly allocable to the partnership's gross DEI and gross FDDEI, and 
partnership QBAI (as determined under Sec.  1.250(b)-2(g)) for each 
taxable year in which the partnership has gross DEI, gross FDDEI, 
deductions that are properly allocable to the partnership's gross DEI 
or gross FDDEI, or partnership specified tangible property (as defined 
in Sec.  1.250(b)-2(g)(5)). In the case of tiered partnerships where 
one or more partners of an upper-tier partnership are domestic 
corporations, a lower-tier partnership must report the amount specified 
in this paragraph (e)(2) to the upper-tier partnership to allow 
reporting of such information to any partner that is a domestic 
corporation. To the extent that a partnership cannot determine the 
information described in the first sentence of this paragraph (e)(2), 
the partnership must instead furnish to each partner its share of the 
partnership's attributes that a partner needs to determine the 
partner's gross DEI, gross FDDEI, deductions that are properly 
allocable to the partner's gross DEI and gross FDDEI, and the partner's 
adjusted bases in partnership specified tangible property.
    (3) Examples. The following examples illustrate the application of 
this paragraph (e).
    (i) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (A) DC, a domestic corporation, is a partner in PRS, a partnership.
    (B) FP and FP2 are foreign persons.
    (C) FC is a foreign corporation.
    (D) The allocations under PRS's partnership agreement satisfy the 
requirements of section 704.
    (E) No partner of PRS is a related party of DC.
    (F) DC, PRS, and FC all use the calendar year as their taxable 
year.
    (G) PRS has no items of income, loss, or deduction for its taxable 
year, except the items of income described.
    (ii) Examples--

    (A) Example 1: Sale by partnership to foreign person--(1) Facts. 
Under the terms of the partnership agreement, DC is allocated 50 
percent of all income, gain, loss, and deductions of PRS. For the 
taxable year, PRS recognizes $20x of gross income on the sale of 
general property (as defined in Sec.  1.250(b)-

[[Page 43086]]

3(b)(10)) to FP, a foreign person (as determined under Sec.  
1.250(b)-4(c)), for a foreign use (as determined under Sec.  
1.250(b)-4(d)). The gross income recognized on the sale of property 
is not described in section 250(b)(3)(A)(I) through (VI) or 
paragraphs (c)(15)(i) through (vi) of this section.
    (2) Analysis. PRS's sale of property to FP is a FDDEI sale as 
described in Sec.  1.250(b)-4(b). Therefore, the gross income 
derived from the sale ($20x) is included in PRS's gross DEI and 
gross FDDEI, and DC's share of PRS's gross DEI and gross FDDEI 
($10x) is included in DC's gross DEI and gross FDDEI for the taxable 
year.
    (B) Example 2: Sale by partnership to foreign person 
attributable to foreign branch--(1) Facts. The facts are the same as 
in paragraph (e)(3)(ii)(A)(1) of this section (the facts in Example 
1), except the income from the sale of property to FP is 
attributable to a foreign branch of PRS.
    (2) Analysis. PRS's sale of property to FP is excluded from 
PRS's gross DEI under section 250(b)(3)(A)(VI) and paragraph 
(c)(15)(vi) of this section. Accordingly, DC's share of PRS's gross 
income of $10x from the sale is not included in DC's gross DEI or 
gross FDDEI for the taxable year.
    (C) Example 3: Partnership with a loss in gross FDDEI--(1) 
Facts. The facts are the same as in paragraph (e)(3)(ii)(A)(1) of 
this section (the facts in Example 1), except that in the same 
taxable year, PRS also sells property to FP2, a foreign person (as 
determined under Sec.  1.250(b)-4(c)), for a foreign use (as 
determined under Sec.  1.250(b)-4(d)). After taking into account 
both sales, PRS has a gross loss of $30x.
    (2) Analysis. Both the sale of property to FP and the sale of 
property to FP2 are FDDEI sales because each sale is described in 
Sec.  1.250(b)-4(b). DC's share of PRS's gross loss ($15x) from the 
sales is included in DC's gross DEI and gross FDDEI.
    (D) Example 4: Sale by partnership to foreign related party of 
the partnership--(1) Facts. Under the terms of the partnership 
agreement, DC has 25 percent of the capital and profits interest in 
the partnership and is allocated 25 percent of all income, gain, 
loss, and deductions of PRS. PRS owns 100 percent of the single 
class of stock of FC. In the taxable year, PRS has $20x of gain on 
the sale of general property (as defined in Sec.  1.250(b)-3(b)(10)) 
to FC, and FC makes a physical and material change to the property 
within the meaning of Sec.  1.250(b)-4(d)(1)(iii)(B) outside the 
United States before selling the property to customers in the United 
States.
    (2) Analysis. The sale of property by PRS to FC is described in 
Sec.  1.250(b)-4(b) without regard to the application of Sec.  
1.250(b)-6, since the sale is to a foreign person (as determined 
under Sec.  1.250(b)-4(c)) for a foreign use (as determined under 
Sec.  1.250(b)-4(d)). However, FC is a foreign related party of PRS 
within the meaning of section 250(b)(5)(D) and Sec.  1.250(b)-
3(b)(6), because FC and PRS are members of a modified affiliated 
group within the meaning of paragraph (c)(17) of this section. 
Therefore, the sale by PRS to FC is a related party sale within the 
meaning of Sec.  1.250(b)-6(b)(1). Under section 250(b)(5)(C)(i) and 
Sec.  1.250(b)-6(c), because FC did not sell the property, or use 
the property in connection with other property sold or the provision 
of a service, to a foreign unrelated party before the property was 
subject to a domestic use, the sale by PRS to FC is not a FDDEI 
sale. See Sec.  1.250(b)-6(c)(1). Accordingly, the gain from the 
sale ($20x) is included in PRS's gross DEI but not its gross FDDEI, 
and DC's share of PRS's gain ($5x) is included in DC's gross DEI but 
not gross FDDEI. This is the result notwithstanding that FC is not a 
related party of DC because FC and DC are not members of a modified 
affiliated group within the meaning of paragraph (c)(17) of this 
section.

    (f) Determination of FDII for consolidated groups. A member of a 
consolidated group (as defined in Sec.  1.1502-1(h)) determines its 
FDII under the rules provided in Sec.  1.1502-50.
    (g) Determination of FDII for tax-exempt corporations. The FDII of 
a corporation that is subject to the unrelated business income tax 
under section 511 is determined only by reference to that corporation's 
items of income, gain, deduction, or loss, and adjusted bases in 
property, that are taken into account in computing the corporation's 
unrelated business taxable income (as defined in section 512). For 
example, if a corporation that is subject to the unrelated business 
income tax under section 511 has tangible property used in the 
production of both unrelated business income and gross income that is 
not unrelated business income, only the portion of the basis of such 
property taken into account in computing the corporation's unrelated 
business taxable income is taken into account in determining the 
corporation's QBAI. Similarly, if a corporation that is subject to the 
unrelated business income tax under section 511 has tangible property 
that is used in both the production of gross DEI and the production of 
gross income that is not gross DEI, only the corporation's unrelated 
business income is taken into account in determining the corporation's 
dual use ratio with respect to such property under Sec.  1.250(b)-
2(d)(3).


Sec.  1.250(b)-2   Qualified business asset investment (QBAI).

    (a) Scope. This section provides general rules for determining the 
qualified business asset investment of a domestic corporation for 
purposes of determining its deemed tangible income return under Sec.  
1.250(b)-1(c)(4). Paragraph (b) of this section defines qualified 
business asset investment (QBAI). Paragraph (c) of this section defines 
tangible property and specified tangible property. Paragraph (d) of 
this section provides rules for determining the portion of property 
that is specified tangible property when the property is used in the 
production of both gross DEI and gross income that is not gross DEI. 
Paragraph (e) of this section provides rules for determining the 
adjusted basis of specified tangible property. Paragraph (f) of this 
section provides rules for determining QBAI of a domestic corporation 
with a short taxable year. Paragraph (g) of this section provides rules 
for increasing the QBAI of a domestic corporation by reason of property 
owned through a partnership. Paragraph (h) of this section provides an 
anti-avoidance rule that disregards certain transfers when determining 
the QBAI of a domestic corporation.
    (b) Definition of qualified business asset investment. The term 
qualified business asset investment (QBAI) means the average of a 
domestic corporation's aggregate adjusted bases as of the close of each 
quarter of the domestic corporation's taxable year in specified 
tangible property that is used in a trade or business of the domestic 
corporation and is of a type with respect to which a deduction is 
allowable under section 167. In the case of partially depreciable 
property, only the depreciable portion of the property is of a type 
with respect to which a deduction is allowable under section 167.
    (c) Specified tangible property--(1) In general. The term specified 
tangible property means, with respect to a domestic corporation for a 
taxable year, tangible property of the domestic corporation used in the 
production of gross DEI for the taxable year. For purposes of the 
preceding sentence, tangible property of a domestic corporation is used 
in the production of gross DEI for a taxable year if some or all of the 
depreciation or cost recovery allowance with respect to the tangible 
property is either allocated and apportioned to the gross DEI of the 
domestic corporation for the taxable year under Sec.  1.250(b)-1(d)(2) 
or capitalized to inventory or other property held for sale, some or 
all of the gross income or loss from the sale of which is taken into 
account in determining DEI of the domestic corporation for the taxable 
year.
    (2) Tangible property. The term tangible property means property 
for which the depreciation deduction provided by section 167(a) is 
eligible to be determined under section 168 without regard to section 
168(f)(1), (2), or (5), section 168(k)(2)(A)(i)(II), (IV), or (V), and 
the date placed in service.
    (d) Dual use property--(1) In general. The amount of the adjusted 
basis in dual use property of a domestic corporation for a taxable year 
that is treated as adjusted basis in specified tangible property for 
the taxable year is

[[Page 43087]]

the average of the domestic corporation's adjusted basis in the 
property multiplied by the dual use ratio with respect to the property 
for the taxable year.
    (2) Definition of dual use property. The term dual use property 
means, with respect to a domestic corporation and a taxable year, 
specified tangible property of the domestic corporation that is used in 
both the production of gross DEI and the production of gross income 
that is not gross DEI for the taxable year. For purposes of the 
preceding sentence, specified tangible property of a domestic 
corporation is used in the production of gross DEI and the production 
of gross income that is not gross DEI for a taxable year if less than 
all of the depreciation or cost recovery allowance with respect to the 
property is either allocated and apportioned to the gross DEI of the 
domestic corporation for the taxable year under Sec.  1.250(b)-1(d)(2) 
or capitalized to inventory or other property held for sale, the gross 
income or loss from the sale of which is taken into account in 
determining the DEI of the domestic corporation for the taxable year.
    (3) Dual use ratio. The term dual use ratio means, with respect to 
dual use property, a domestic corporation, and a taxable year, a ratio 
(expressed as a percentage) calculated as--
    (i) The sum of--
    (A) The depreciation deduction or cost recovery allowance with 
respect to the property that is allocated and apportioned to the gross 
DEI of the domestic corporation for the taxable year under Sec.  
1.250(b)-1(d)(2); and
    (B) The depreciation or cost recovery allowance with respect to the 
property that is capitalized to inventory or other property held for 
sale, the gross income or loss from the sale of which is taken into 
account in determining the DEI of the domestic corporation for the 
taxable year; divided by
    (ii) The sum of--
    (A) The total amount of the domestic corporation's depreciation 
deduction or cost recovery allowance with respect to the property for 
the taxable year; and
    (B) The total amount of the domestic corporation's depreciation or 
cost recovery allowance with respect to the property capitalized to 
inventory or other property held for sale, the gross income or loss 
from the sale of which is taken into account in determining the income 
or loss of the domestic corporation for the taxable year.
    (4) Example. The following example illustrates the application of 
this paragraph (d).

    (i) Facts. DC, a domestic corporation, owns a machine that 
produces both gross DEI and income that is not gross DEI. The 
average adjusted basis of the machine for the taxable year in the 
hands of DC is $4,000x. The depreciation with respect to the machine 
for the taxable year is $400x, $320x of which is capitalized to 
inventory of Product A, gross income or loss from the sale of which 
is taken into account in determining DC's gross DEI for the taxable 
year, and $80x of which is capitalized to inventory of Product B, 
gross income or loss from the sale of which is not taken into 
account in determining DC's gross DEI for the taxable year. DC also 
owns an office building for its administrative functions with an 
average adjusted basis for the taxable year of $10,000x. DC does not 
capitalize depreciation with respect to the office building to 
inventory or other property held for sale. DC's depreciation 
deduction with respect to the office building is $1,000x for the 
taxable year, $750x of which is allocated and apportioned to gross 
DEI under Sec.  1.250(b)-1(d)(2), and $250x of which is allocated 
and apportioned to income other than gross DEI under Sec.  1.250(b)-
1(d)(2).
    (ii) Analysis--(A) Dual use property. The machine and office 
building are property for which the depreciation deduction provided 
by section 167(a) is eligible to be determined under section 168 
(without regard to section 168(f)(1), (2), or (5), section 
168(k)(2)(A)(i)(II), (IV), or (V), and the date placed in service). 
Therefore, under paragraph (c)(2) of this section, the machine and 
office building are tangible property. Furthermore, because the 
machine and office building are used in the production of gross DEI 
for the taxable year within the meaning of paragraph (c)(1) of this 
section, the machine and office building are specified tangible 
property. Finally, because the machine and office building are used 
in both the production of gross DEI and the production of gross 
income that is not gross DEI for the taxable year within the meaning 
of paragraph (d)(2) of this section, the machine and office building 
are dual use property. Therefore, under paragraph (d)(1) of this 
section, the amount of DC's adjusted basis in the machine and office 
building that is treated as adjusted basis in specified tangible 
property for the taxable year is determined by multiplying DC's 
adjusted basis in the machine and office building by DC's dual use 
ratio with respect to the machine and office building determined 
under paragraph (d)(3) of this section.
    (B) Depreciation not capitalized to inventory. Because none of 
the depreciation with respect to the office building is capitalized 
to inventory or other property held for sale, DC's dual use ratio 
with respect to the office building is determined entirely by 
reference to the depreciation deduction with respect to the office 
building. Therefore, under paragraph (d)(3) of this section, DC's 
dual use ratio with respect to the office building for Year 1 is 75 
percent, which is DC's depreciation deduction with respect to the 
office building that is allocated and apportioned to gross DEI under 
Sec.  1.250(b)-1(d)(2) for Year 1 ($750x), divided by the total 
amount of DC's depreciation deduction with respect to the office 
building for Year 1 ($1000x). Accordingly, under paragraph (d)(1) of 
this section, $7,500x ($10,000x x 0.75) of DC's average adjusted 
bases in the office building is taken into account under paragraph 
(b) of this section in determining DC's QBAI for the taxable year.
    (C) Depreciation capitalized to inventory. Because all of the 
depreciation with respect to the machine is capitalized to 
inventory, DC's dual use ratio with respect to the machine is 
determined entirely by reference to the depreciation with respect to 
the machine that is capitalized to inventory and included in cost of 
goods sold. Therefore, under paragraph (d)(3) of this section, DC's 
dual use ratio with respect to the machine for the taxable year is 
80 percent, which is DC's depreciation with respect to the machine 
that is capitalized to inventory of Product A, the gross income or 
loss from the sale of which is taken into account in determining in 
DC's DEI for the taxable year ($320x), divided by DC's depreciation 
with respect to the machine that is capitalized to inventory, the 
gross income or loss from the sale of which is taken into account in 
determining DC's income for Year 1 ($400x). Accordingly, under 
paragraph (d)(1) of this section, $3,200x ($4,000x x 0.8) of DC's 
average adjusted basis in the machine is taken into account under 
paragraph (b) of this section in determining DC's QBAI for the 
taxable year.
    (e) Determination of adjusted basis of specified tangible 
property--(1) In general. The adjusted basis in specified tangible 
property for purposes of this section is determined by using the cost 
capitalization methods of accounting used by the domestic corporation 
for purposes of determining the gross income and deductions of the 
domestic corporation and the alternative depreciation system under 
section 168(g), and by allocating the depreciation deduction with 
respect to such property for the domestic corporation's taxable year 
ratably to each day during the period in the taxable year to which such 
depreciation relates. For purposes of the preceding sentence, the 
period in the taxable year to which such depreciation relates is 
determined without regard to the applicable convention under section 
168(d).
    (2) Effect of change in law. The adjusted basis in specified 
tangible property is determined without regard to any provision of law 
enacted after December 22, 2017, unless such later enacted law 
specifically and directly amends the definition of QBAI under section 
250 or section 951A.
    (3) Specified tangible property placed in service before enactment 
of section 250. The adjusted basis in specified tangible property 
placed in service before December 22, 2017, is determined using the 
alternative depreciation system under section 168(g), as if this system 
had applied from the date that the property was placed in service.

[[Page 43088]]

    (f) Special rules for short taxable years--(1) In general. In the 
case of a domestic corporation that has a taxable year that is less 
than twelve months (a short taxable year), the rules for determining 
the QBAI of the domestic corporation under this section are modified as 
provided in paragraphs (f)(2) and (3) of this section with respect to 
the taxable year.
    (2) Determination of when the quarter closes. For purposes of 
determining when the quarter closes, in determining the QBAI of a 
domestic corporation for a short taxable year, the quarters of the 
domestic corporation for purposes of this section are the full quarters 
beginning and ending within the short taxable year (if any), 
determining quarter length as if the domestic corporation did not have 
a short taxable year, plus one or more short quarters (if any).
    (3) Reduction of qualified business asset investment. The QBAI of a 
domestic corporation for a short taxable year is the sum of--
    (i) The sum of the domestic corporation's aggregate adjusted bases 
in specified tangible property as of the close of each full quarter (if 
any) in the domestic corporation's taxable year divided by four; plus
    (ii) The domestic corporation's aggregate adjusted bases in 
specified tangible property as of the close of each short quarter (if 
any) in the domestic corporation's taxable year multiplied by the sum 
of the number of days in each short quarter divided by 365.
    (4) Example. The following example illustrates the application of 
this paragraph (f).

    (i) Facts. A, an individual, owns all of the stock of DC, a 
domestic corporation. A owns DC from the beginning of the taxable 
year. On July 15 of the taxable year, A sells DC to USP, a domestic 
corporation that is unrelated to A. DC becomes a member of the 
consolidated group of which USP is the common parent and as a 
result, under Sec.  1.1502-76(b)(2)(ii), DC's taxable year is 
treated as ending on July 15. USP and DC both use the calendar year 
as their taxable year. DC's aggregate adjusted bases in specified 
tangible property for the taxable year are $250x as of March 31, 
$300x as of June 30, $275x as of July 15, $500x as of September 30, 
and $450x as of December 31.
    (ii) Analysis--(A) Determination of short taxable years and 
quarters. DC has two short taxable years during the year. The first 
short taxable year is from January 1 to July 15, with two full 
quarters (January 1 through March 31 and April 1 through June 30) 
and one short quarter (July 1 through July 15). The second taxable 
year is from July 16 to December 31, with one short quarter (July 16 
through September 30) and one full quarter (October 1 through 
December 31).
    (B) Calculation of qualified business asset investment for the 
first short taxable year. Under paragraph (f)(2) of this section, 
for the first short taxable year, DC has three quarter closes (March 
31, June 30, and July 15). Under paragraph (f)(3) of this section, 
the QBAI of DC for the first short taxable year is $148.80x, the sum 
of $137.50x (($250x + $300x)/4) attributable to the two full 
quarters and $11.30x ($275x x 15/365) attributable to the short 
quarter.
    (C) Calculation of qualified business asset investment for the 
second short taxable year. Under paragraph (f)(2) of this section, 
for the second short taxable year, DC has two quarter closes 
(September 30 and December 31). Under paragraph (f)(3) of this 
section, the QBAI of DC for the second short taxable year is 
$217.98x, the sum of $112.50x ($450x/4) attributable to the one full 
quarter and $105.48x ($500x x 77/365) attributable to the short 
quarter.
    (g) Partnership property--(1) In general. If a domestic corporation 
holds an interest in one or more partnerships during a taxable year 
(including indirectly through one or more partnerships that are 
partners in a lower-tier partnership), the QBAI of the domestic 
corporation for the taxable year (determined without regard to this 
paragraph (g)(1)) is increased by the sum of the domestic corporation's 
partnership QBAI with respect to each partnership for the taxable year.
    (2) Determination of partnership QBAI. For purposes of paragraph 
(g)(1) of this section, the term partnership QBAI means, with respect 
to a partnership, a domestic corporation, and a taxable year, the sum 
of the domestic corporation's partner adjusted basis in each 
partnership specified tangible property of the partnership for each 
partnership taxable year that ends with or within the taxable year. If 
a partnership taxable year is less than twelve months, the principles 
of paragraph (f) of this section apply in determining a domestic 
corporation's partnership QBAI with respect to the partnership.
    (3) Determination of partner adjusted basis--(i) In general. For 
purposes of paragraph (g)(2) of this section, the term partner adjusted 
basis means the amount described in paragraph (g)(3)(ii) of this 
section with respect to sole use partnership property or paragraph 
(g)(3)(iii) of this section with respect to dual use partnership 
property. The principles of section 706(d) apply to this determination.
    (ii) Sole use partnership property--(A) In general. The amount 
described in this paragraph (g)(3)(ii), with respect to sole use 
partnership property, a partnership taxable year, and a domestic 
corporation, is the sum of the domestic corporation's proportionate 
share of the partnership adjusted basis in the sole use partnership 
property for the partnership taxable year and the domestic 
corporation's partner-specific QBAI basis in the sole use partnership 
property for the partnership taxable year.
    (B) Definition of sole use partnership property. The term sole use 
partnership property means, with respect to a partnership, a 
partnership taxable year, and a domestic corporation, partnership 
specified tangible property of the partnership that is used in the 
production of only gross DEI of the domestic corporation for the 
taxable year in which or with which the partnership taxable year ends. 
For purposes of the preceding sentence, partnership specified tangible 
property of a partnership is used in the production of only gross DEI 
for a taxable year if all the domestic corporation's distributive share 
of the partnership's depreciation deduction or cost recovery allowance 
with respect to the property (if any) for the partnership taxable year 
that ends with or within the taxable year is allocated and apportioned 
to the domestic corporation's gross DEI for the taxable year under 
Sec.  1.250(b)-1(d)(2) and, if any of the partnership's depreciation or 
cost recovery allowance with respect to the property is capitalized to 
inventory or other property held for sale, all the domestic 
corporation's distributive share of the partnership's gross income or 
loss from the sale of such inventory or other property for the 
partnership taxable year that ends with or within the taxable year is 
taken into account in determining the DEI of the domestic corporation 
for the taxable year.
    (iii) Dual use partnership property--(A) In general. The amount 
described in this paragraph (g)(3)(iii), with respect to dual use 
partnership property, a partnership taxable year, and a domestic 
corporation, is the sum of the domestic corporation's proportionate 
share of the partnership adjusted basis in the property for the 
partnership taxable year and the domestic corporation's partner-
specific QBAI basis in the property for the partnership taxable year, 
multiplied by the domestic corporation's dual use ratio with respect to 
the property for the partnership taxable year determined under the 
principles of paragraph (d)(3) of this section, except that the ratio 
described in paragraph (d)(3) of this section is determined by 
reference to the domestic corporation's distributive share of the 
amounts described in paragraph (d)(3) of this section.
    (B) Definition of dual use partnership property. The term dual use 
partnership property means partnership specified tangible property 
other than sole use partnership property.

[[Page 43089]]

    (4) Determination of proportionate share of the partnership's 
adjusted basis in partnership specified tangible property--(i) In 
general. For purposes of paragraph (g)(3) of this section, the domestic 
corporation's proportionate share of the partnership adjusted basis in 
partnership specified tangible property for a partnership taxable year 
is the partnership adjusted basis in the property multiplied by the 
domestic corporation's proportionate share ratio with respect to the 
property for the partnership taxable year. Solely for purposes of 
determining the proportionate share ratio under paragraph (g)(4)(ii) of 
this section, the partnership's calculation of, and a partner's 
distributive share of, any income, loss, depreciation, or cost recovery 
allowance is determined under section 704(b).
    (ii) Proportionate share ratio. The term proportionate share ratio 
means, with respect to a partnership, a partnership taxable year, and a 
domestic corporation, the ratio (expressed as a percentage) calculated 
as--
    (A) The sum of--
    (1) The domestic corporation's distributive share of the 
partnership's depreciation deduction or cost recovery allowance with 
respect to the property for the partnership taxable year; and
    (2) The amount of the partnership's depreciation or cost recovery 
allowance with respect to the property that is capitalized to inventory 
or other property held for sale, the gross income or loss from the sale 
of which is taken into account in determining the domestic 
corporation's distributive share of the partnership's income or loss 
for the partnership taxable year; divided by
    (B) The sum of--
    (1) The total amount of the partnership's depreciation deduction or 
cost recovery allowance with respect to the property for the 
partnership taxable year; and
    (2) The total amount of the partnership's depreciation or cost 
recovery allowance with respect to the property capitalized to 
inventory or other property held for sale, the gross income or loss 
from the sale of which is taken into account in determining the 
partnership's income or loss for the partnership taxable year.
    (5) Definition of partnership specified tangible property. The term 
partnership specified tangible property means, with respect to a 
domestic corporation, tangible property (as defined in paragraph (c)(2) 
of this section) of a partnership that is--
    (i) Used in the trade or business of the partnership;
    (ii) Of a type with respect to which a deduction is allowable under 
section 167; and
    (iii) Used in the production of gross income included in the 
domestic corporation's gross DEI.
    (6) Determination of partnership adjusted basis. For purposes of 
this paragraph (g), the term partnership adjusted basis means, with 
respect to a partnership, partnership specified tangible property, and 
a partnership taxable year, the amount equal to the average of the 
partnership's adjusted basis in the partnership specified tangible 
property as of the close of each quarter in the partnership taxable 
year determined without regard to any adjustments under section 734(b) 
except for adjustments under section 734(b)(1)(B) or section 
734(b)(2)(B) that are attributable to distributions of tangible 
property (as defined in paragraph (c)(2) of this section) and for 
adjustments under section 734(b)(1)(A) or 734(b)(2)(A). The principles 
of paragraphs (e) and (h) of this section apply for purposes of 
determining a partnership's adjusted basis in partnership specified 
tangible property and the proportionate share of the partnership's 
adjusted basis in partnership specified tangible property.
    (7) Determination of partner-specific QBAI basis. For purposes of 
this paragraph (g), the term partner-specific QBAI basis means, with 
respect to a domestic corporation, a partnership, and partnership 
specified tangible property, the amount that is equal to the average of 
the basis adjustment under section 743(b) that is allocated to the 
partnership specified tangible property of the partnership with respect 
to the domestic corporation as of the close of each quarter in the 
partnership taxable year. For this purpose, a negative basis adjustment 
under section 743(b) is expressed as a negative number. The principles 
of paragraphs (e) and (h) of this section apply for purposes of 
determining the partner-specific QBAI basis with respect to partnership 
specified tangible property.
    (8) Examples. The following examples illustrate the rules of this 
paragraph (g).
    (i) Assumed facts. Except as otherwise stated, the following facts 
are assumed for purposes of the examples:
    (A) DC, DC1, DC2, and DC3 are domestic corporations.
    (B) PRS is a partnership and its allocations satisfy the 
requirements of section 704.
    (C) All properties are partnership specified tangible property.
    (D) All persons use the calendar year as their taxable year.
    (E) There is no partner-specific QBAI basis with respect to any 
property.

    (ii) Example 1: Sole use partnership property--(A) Facts. DC is 
a partner in PRS. PRS owns two properties, Asset A and Asset B. The 
average of PRS's adjusted basis as of the close of each quarter of 
PRS's taxable year in Asset A is $100x and in Asset B is $500x. In 
Year 1, PRS's section 704(b) depreciation deduction is $10x with 
respect to Asset A and $5x with respect to Asset B, and DC's section 
704(b) distributive share of the depreciation deduction is $8x with 
respect to Asset A and $1x with respect to Asset B. None of the 
depreciation with respect to Asset A or Asset B is capitalized to 
inventory or other property held for sale. DC's entire distributive 
share of the depreciation deduction with respect to Asset A and 
Asset B is allocated and apportioned to DC's gross DEI for Year 1 
under Sec.  1.250(b)-1(d)(2).
    (B) Analysis--(1) Sole use partnership property. Because all of 
DC's distributive share of the depreciation deduction with respect 
to Asset A and B is allocated and apportioned to gross DEI for Year 
1, Asset A and Asset B are sole use partnership property within the 
meaning of paragraph (g)(3)(ii)(B) of this section. Therefore, under 
paragraph (g)(3)(ii)(A) of this section, DC's partner adjusted basis 
in Asset A and Asset B is equal to the sum of DC's proportionate 
share of PRS's partnership adjusted basis in Asset A and Asset B for 
Year 1 and DC's partner-specific QBAI basis in Asset A and Asset B 
for Year 1, respectively.
    (2) Proportionate share. Under paragraph (g)(4)(i) of this 
section, DC's proportionate share of PRS's partnership adjusted 
basis in Asset A and Asset B is PRS's partnership adjusted basis in 
Asset A and Asset B for Year 1, multiplied by DC's proportionate 
share ratio with respect to Asset A and Asset B for Year 1, 
respectively. Because none of the depreciation with respect to Asset 
A or Asset B is capitalized to inventory or other property held for 
sale, DC's proportionate share ratio with respect to Asset A and 
Asset B is determined entirely by reference to the depreciation 
deduction with respect to Asset A and Asset B. Therefore, DC's 
proportionate share ratio with respect to Asset A for Year 1 is 80 
percent, which is the ratio of DC's section 704(b) distributive 
share of PRS's section 704(b) depreciation deduction with respect to 
Asset A for Year 1 ($8x), divided by the total amount of PRS's 
section 704(b) depreciation deduction with respect to Asset A for 
Year 1 ($10x). DC's proportionate share ratio with respect to Asset 
B for Year 1 is 20 percent, which is the ratio of DC's section 
704(b) distributive share of PRS's section 704(b) depreciation 
deduction with respect to Asset B for Year 1 ($1x), divided by the 
total amount of PRS's section 704(b) depreciation deduction with 
respect to Asset B for Year 1 ($5x). Accordingly, under paragraph 
(g)(4)(i) of this section, DC's proportionate share of PRS's 
partnership adjusted basis in Asset A is $80x ($100x x 0.8), and 
DC's proportionate share of PRS's partnership adjusted basis in 
Asset B is $100x ($500x x 0.2).
    (3) Partner adjusted basis. Because DC has no partner-specific 
QBAI basis with respect to Asset A and Asset B, DC's partner 
adjusted basis in Asset A and Asset B is determined

[[Page 43090]]

entirely by reference to its proportionate share of PRS's 
partnership adjusted basis in Asset A and Asset B. Therefore, under 
paragraph (g)(3)(ii)(A) of this section, DC's partner adjusted basis 
in Asset A is $80x, DC's proportionate share of PRS's partnership 
adjusted basis in Asset A, and DC's partner adjusted basis in Asset 
B is $100x, DC's proportionate share of PRS's partnership adjusted 
basis in Asset B.
    (4) Partnership QBAI. Under paragraph (g)(2) of this section, 
DC's partnership QBAI with respect to PRS is $180x, the sum of DC's 
partner adjusted basis in Asset A ($80x) and DC's partner adjusted 
basis in Asset B ($100x). Accordingly, under paragraph (g)(1) of 
this section, DC increases its QBAI for Year 1 by $180x.
    (iii) Example 2: Dual use partnership property--(A) Facts. DC 
owns a 50 percent interest in PRS. All section 704(b) and tax items 
are identical and are allocated equally between DC and its other 
partner. PRS owns three properties, Asset C, Asset D, and Asset E. 
PRS sells two products, Product A and Product B. All of DC's 
distributive share of the gross income or loss from the sale of 
Product A is taken into account in determining DC's DEI, and none of 
DC's distributive share of the gross income or loss from the sale of 
Product B is taken into account in determining DC's DEI.
    (1) Asset C. The average of PRS's adjusted basis as of the close 
of each quarter of PRS's taxable year in Asset C is $100x. In Year 
1, PRS's depreciation is $10x with respect to Asset C, none of which 
is capitalized to inventory or other property held for sale. DC's 
distributive share of the depreciation deduction with respect to 
Asset C is $5x ($10x x 0.5), $3x of which is allocated and 
apportioned to DC's gross DEI under Sec.  1.250(b)-1(d)(2).
    (2) Asset D. The average of PRS's adjusted basis as of the close 
of each quarter of PRS's taxable year in Asset D is $500x. In Year 
1, PRS's depreciation is $50x with respect to Asset D, $10x of which 
is capitalized to inventory of Product A and $40x is capitalized to 
inventory of Product B. None of the $10x depreciation with respect 
to Asset D capitalized to inventory of Product A is capitalized to 
ending inventory. However, of the $40x capitalized to inventory of 
Product B, $10x is capitalized to ending inventory. Therefore, the 
amount of depreciation with respect to Asset D capitalized to 
inventory of Product A that is taken into account in determining 
DC's distributive share of the income or loss of PRS for Year 1 is 
$5x ($10x x 0.5), and the amount of depreciation with respect to 
Asset D capitalized to inventory of Product B that is taken into 
account in determining DC's distributive share of the income or loss 
of PRS for Year 1 is $15x ($30x x 0.5).
    (3) Asset E. The average of PRS's adjusted basis as of the close 
of each quarter of PRS's taxable year in Asset E is $600x. In Year 
1, PRS's depreciation is $60x with respect to Asset E. Of the $60x 
depreciation with respect to Asset E, $20x is allowed as a 
deduction, $24x is capitalized to inventory of Product A, and $16x 
is capitalized to inventory of Product B. DC's distributive share of 
the depreciation deduction with respect to Asset E is $10x ($20x x 
0.5), $8x of which is allocated and apportioned to DC's gross DEI 
under Sec.  1.250(b)-1(d)(2). None of the $24x depreciation with 
respect to Asset E capitalized to inventory of Product A is 
capitalized to ending inventory. However, of the $16x depreciation 
with respect to Asset E capitalized to inventory of Product B, $10x 
is capitalized to ending inventory. Therefore, the amount of 
depreciation with respect to Asset E capitalized to inventory of 
Product A that is taken into account in determining DC's 
distributive share of the income or loss of PRS for Year 1 is $12x 
($24x x 0.5), and the amount of depreciation with respect to Asset E 
capitalized to inventory of Product B that is taken into account in 
determining DC's distributive share of the income or loss of PRS for 
Year 1 is $3x ($6x x 0.5).
    (B) Analysis. Because Asset C, Asset D, and Asset E are not used 
in the production of only gross DEI in Year 1 within the meaning of 
paragraph (g)(3)(ii)(B) of this section, Asset C, Asset D, and Asset 
E are dual use partnership property within the meaning of paragraph 
(g)(3)(iii)(B) of this section. Therefore, under paragraph 
(g)(3)(iii)(A) of this section, DC's partner adjusted basis in Asset 
C, Asset D, and Asset E is the sum of DC's proportionate share of 
PRS's partnership adjusted basis in Asset C, Asset D, and Asset E, 
respectively, for Year 1, and DC's partner-specific QBAI basis in 
Asset C, Asset D, and Asset E, respectively, for Year 1, multiplied 
by DC's dual use ratio with respect to Asset C, Asset D, and Asset 
E, respectively, for Year 1, determined under the principles of 
paragraph (d)(3) of this section, except that the ratio described in 
paragraph (d)(3) of this section is determined by reference to DC's 
distributive share of the amounts described in paragraph (d)(3) of 
this section.
    (1) Asset C--(i) Proportionate share. Under paragraph (g)(4)(i) 
of this section, DC's proportionate share of PRS's partnership 
adjusted basis in Asset C is PRS's partnership adjusted basis in 
Asset C for Year 1, multiplied by DC's proportionate share ratio 
with respect to Asset C for Year 1. Because none of the depreciation 
with respect to Asset C is capitalized to inventory or other 
property held for sale, DC's proportionate share ratio with respect 
to Asset C is determined entirely by reference to the depreciation 
deduction with respect to Asset C. Therefore, DC's proportionate 
share ratio with respect to Asset C is 50 percent, which is the 
ratio calculated as the amount of DC's section 704(b) distributive 
share of PRS's section 704(b) depreciation deduction with respect to 
Asset C for Year 1 ($5x), divided by the total amount of PRS's 
section 704(b) depreciation deduction with respect to Asset C for 
Year 1 ($10x). Accordingly, under paragraph (g)(4)(i) of this 
section, DC's proportionate share of PRS's partnership adjusted 
basis in Asset C is $50x ($100x x 0.5).
    (ii) Dual use ratio. Because none of the depreciation with 
respect to Asset C is capitalized to inventory or other property 
held for sale, DC's dual use ratio with respect to Asset C is 
determined entirely by reference to the depreciation deduction with 
respect to Asset C. Therefore, DC's dual use ratio with respect to 
Asset C is 60 percent, which is the ratio calculated as the amount 
of DC's distributive share of PRS's depreciation deduction with 
respect to Asset C that is allocated and apportioned to DC's gross 
DEI under Sec.  1.250(b)-1(d)(2) for Year 1 ($3x), divided by the 
total amount of DC's distributive share of PRS's depreciation 
deduction with respect to Asset C for Year 1 ($5x).
    (iii) Partner adjusted basis. Because DC has no partner-specific 
QBAI basis with respect to Asset C, DC's partner adjusted basis in 
Asset C is determined entirely by reference to DC's proportionate 
share of PRS's partnership adjusted basis in Asset C, multiplied by 
DC's dual use ratio with respect to Asset C. Under paragraph 
(g)(3)(iii)(A) of this section, DC's partner adjusted basis in Asset 
C is $30x, DC's proportionate share of PRS's partnership adjusted 
basis in Asset C for Year 1 ($50x), multiplied by DC's dual use 
ratio with respect to Asset C for Year 1 (60 percent).
    (2) Asset D--(i) Proportionate share. Under paragraph (g)(4)(i) 
of this section, DC's proportionate share of PRS's partnership 
adjusted basis in Asset D is PRS's partnership adjusted basis in 
Asset D for Year 1, multiplied by DC's proportionate share ratio 
with respect to Asset D for Year 1. Because all of the depreciation 
with respect to Asset D is capitalized to inventory, DC's 
proportionate share ratio with respect to Asset D is determined 
entirely by reference to the depreciation with respect to Asset D 
that is capitalized to inventory and included in cost of goods sold. 
Therefore, DC's proportionate share ratio with respect to Asset D is 
50 percent, which is the ratio calculated as the amount of PRS's 
section 704(b) depreciation with respect to Asset D capitalized to 
Product A and Product B that is taken into account in determining 
DC's section 704(b) distributive share of PRS's income or loss for 
Year 1 ($20x), divided by the total amount of PRS's section 704(b) 
depreciation with respect to Asset D capitalized to Product A and 
Product B that is taken into account in determining PRS's section 
704(b) income or loss for Year 1 ($40x). Accordingly, under 
paragraph (g)(4)(i) of this section, DC's proportionate share of 
PRS's partnership adjusted basis in Asset D is $250x ($500x x 0.5).
    (ii) Dual use ratio. Because all of the depreciation with 
respect to Asset D is capitalized to inventory, DC's dual use ratio 
with respect to Asset D is determined entirely by reference to the 
depreciation with respect to Asset D that is capitalized to 
inventory and included in cost of goods sold. Therefore, DC's dual 
use ratio with respect to Asset D is 25 percent, which is the ratio 
calculated as the amount of depreciation with respect to Asset D 
capitalized to inventory of Product A and Product B that is taken 
into account in determining DC's DEI for Year 1 ($5x), divided by 
the total amount of depreciation with respect to Asset D capitalized 
to inventory of Product A and Product B that is taken into account 
in determining DC's income or loss for Year 1 ($20x).
    (iii) Partner adjusted basis. Because DC has no partner-specific 
QBAI basis with respect

[[Page 43091]]

to Asset D, DC's partner adjusted basis in Asset D is determined 
entirely by reference to DC's proportionate share of PRS's 
partnership adjusted basis in Asset D, multiplied by DC's dual use 
ratio with respect to Asset D. Under paragraph (g)(3)(iii)(A) of 
this section, DC's partner adjusted basis in Asset D is $62.50x, 
DC's proportionate share of PRS's partnership adjusted basis in 
Asset D for Year 1 ($250x), multiplied by DC's dual use ratio with 
respect to Asset D for Year 1 (25 percent).
    (3) Asset E--(i) Proportionate share. Under paragraph (g)(4)(i) 
of this section, DC's proportionate share of PRS's partnership 
adjusted basis in Asset E is PRS's partnership adjusted basis in 
Asset E for Year 1, multiplied by DC's proportionate share ratio 
with respect to Asset E for Year 1. Because the depreciation with 
respect to Asset E is partly deducted and partly capitalized to 
inventory, DC's proportionate share ratio with respect to Asset E is 
determined by reference to both the depreciation that is deducted 
and the depreciation that is capitalized to inventory and included 
in cost of goods sold. Therefore, DC's proportionate share ratio 
with respect to Asset E is 50 percent, which is the ratio calculated 
as the sum ($25x) of the amount of DC's section 704(b) distributive 
share of PRS's section 704(b) depreciation deduction with respect to 
Asset E for Year 1 ($10x) and the amount of PRS's section 704(b) 
depreciation with respect to Asset E capitalized to inventory of 
Product A and Product B that is taken into account in determining 
DC's section 704(b) distributive share of PRS's income or loss for 
Year 1 ($15x), divided by the sum ($50x) of the total amount of 
PRS's section 704(b) depreciation deduction with respect to Asset E 
for Year 1 ($20x) and the total amount of PRS's section 704(b) 
depreciation with respect to Asset E capitalized to inventory of 
Product A and Product B that is taken into account in determining 
PRS's section 704(b) income or loss for Year 1 ($30x). Accordingly, 
under paragraph (g)(4)(i) of this section, DC's proportionate share 
of PRS's partnership adjusted basis in Asset E is $300x ($600x x 
0.5).
    (ii) Dual use ratio. Because the depreciation with respect to 
Asset E is partly deducted and partly capitalized to inventory, DC's 
dual use ratio with respect to Asset E is determined by reference to 
the depreciation that is deducted and the depreciation that is 
capitalized to inventory and included in cost of goods sold. 
Therefore, DC's dual use ratio with respect to Asset E is 80 
percent, which is the ratio calculated as the sum ($20x) of the 
amount of DC's distributive share of PRS's depreciation deduction 
with respect to Asset E that is allocated and apportioned to DC's 
gross DEI under Sec.  1.250(b)-1(d)(2) for Year 1 ($8x) and the 
amount of depreciation with respect to Asset E capitalized to 
inventory of Product A and Product B that is taken into account in 
determining DC's DEI for Year 1 ($12x), divided by the sum ($25x) of 
the total amount of DC's distributive share of PRS's depreciation 
deduction with respect to Asset E for Year 1 ($10x) and the total 
amount of depreciation with respect to Asset E capitalized to 
inventory of Product A and Product B that is taken into account in 
determining DC's income or loss for Year 1 ($15x).
    (iii) Partner adjusted basis. Because DC has no partner-specific 
QBAI basis with respect to Asset E, DC's partner adjusted basis in 
Asset E is determined entirely by reference to DC's proportionate 
share of PRS's partnership adjusted basis in Asset E, multiplied by 
DC's dual use ratio with respect to Asset E. Under paragraph 
(g)(3)(iii)(A) of this section, DC's partner adjusted basis in Asset 
E is $240x, DC's proportionate share of PRS's partnership adjusted 
basis in Asset E for Year 1 ($300x), multiplied by DC's dual use 
ratio with respect to Asset E for Year 1 (80 percent).
    (4) Partnership QBAI. Under paragraph (g)(2) of this section, 
DC's partnership QBAI with respect to PRS is $332.50x, the sum of 
DC's partner adjusted basis in Asset C ($30x), DC's partner adjusted 
basis in Asset D ($62.50x), and DC's partner adjusted basis in Asset 
E ($240x). Accordingly, under paragraph (g)(1) of this section, DC 
increases its QBAI for Year 1 by $332.50x.
    (iv) Example 3: Sole use partnership specified tangible 
property; section 743(b) adjustments--(A) Facts. The facts are the 
same as in paragraph (g)(8)(ii)(A) of this section (the facts in 
Example 1), except that there is an average of $40x positive 
adjustment to the adjusted basis in Asset A as of the close of each 
quarter of PRS's taxable year with respect to DC under section 
743(b) and an average of $20x negative adjustment to the adjusted 
basis in Asset B as of the close of each quarter of PRS's taxable 
year with respect to DC under section 743(b).
    (B) Analysis. Under paragraph (g)(3)(ii)(A) of this section, 
DC's partner adjusted basis in Asset A is $120x, which is the sum of 
$80x (DC's proportionate share of PRS's partnership adjusted basis 
in Asset A as illustrated in paragraph (g)(8)(ii)(B)(2) of this 
section (the analysis in Example 1)) and $40x (DC's partner-specific 
QBAI basis in Asset A). Under paragraph (g)(3)(ii)(A) of this 
section, DC's partner adjusted basis in Asset B is $80x, the sum of 
$100x (DC's proportionate share of the partnership adjusted basis in 
the property as illustrated in paragraph (g)(8)(ii)(B)(2) of this 
section (the analysis in Example 1)) and (-$20x) (DC's partner-
specific QBAI basis in Asset B). Therefore, under paragraph (g)(2) 
of this section, DC's partnership QBAI with respect to PRS is $200x 
($120x + $80x). Accordingly, under paragraph (g)(1) of this section, 
DC increases its QBAI for Year 1 by $200x.
    (v) Example 4: Sale of partnership interest before close of 
taxable year--(A) Facts. DC1 owns a 50 percent interest in PRS on 
January 1 of Year 1. PRS does not have an election under section 754 
in effect. On July 1 of Year 1, DC1 sells its entire interest in PRS 
to DC2. PRS owns Asset G. The average of PRS's adjusted basis as of 
the close of each quarter of PRS's taxable year in Asset G is $100x. 
DC1's section 704(b) distributive share of the depreciation 
deduction with respect to Asset G is 25 percent with respect to 
PRS's entire year. DC2's section 704(b) distributive share of the 
depreciation deduction with respect to Asset G is also 25 percent 
with respect to PRS's entire year. Both DC1's and DC2's entire 
distributive shares of the depreciation deduction with respect to 
Asset G are allocated and apportioned under Sec.  1.250(b)-1(d)(2) 
to DC1's and DC2's gross DEI, respectively, for Year 1. PRS's 
allocations satisfy section 706(d).
    (B) Analysis--(1) DC1. Because DC1 owns an interest in PRS 
during DC1's taxable year and receives a distributive share of 
partnership items of the partnership under section 706(d), DC1 has 
partnership QBAI with respect to PRS in the amount determined under 
paragraph (g)(2) of this section. Under paragraph (g)(3)(i) of this 
section, DC1's partner adjusted basis in Asset G is $25x, the 
product of $100x (the partnership's adjusted basis in the property) 
and 25 percent (DC1's section 704(b) distributive share of 
depreciation deduction with respect to Asset G). Therefore, DC1's 
partnership QBAI with respect to PRS is $25x. Accordingly, under 
paragraph (g)(1) of this section, DC1 increases its QBAI by $25x for 
Year 1.
    (2) DC2. DC2's partner adjusted basis in Asset G is also $25x, 
the product of $100x (the partnership's adjusted basis in the 
property) and 25 percent (DC2's section 704(b) distributive share of 
depreciation deduction with respect to Asset G). Therefore, DC2's 
partnership QBAI with respect to PRS is $25x. Accordingly, under 
paragraph (g)(1) of this section, DC2 increases its QBAI by $25x for 
Year 1.
    (vi) Example 5: Partnership adjusted basis; distribution of 
property in liquidation of partnership interest--(A) Facts. DC1, 
DC2, and DC3 are equal partners in PRS, a partnership. DC1 and DC2 
each has an adjusted basis of $100x in its partnership interest. DC3 
has an adjusted basis of $50x in its partnership interest. PRS has a 
section 754 election in effect. PRS owns Asset H with a fair market 
value of $50x and an adjusted basis of $0, Asset I with a fair 
market value of $100x and an adjusted basis of $100x, and Asset J 
with a fair market value of $150x and an adjusted basis of $150x. 
Asset H and Asset J are tangible property, but Asset I is not 
tangible property. PRS distributes Asset I to DC3 in liquidation of 
DC3's interest in PRS. None of DC1, DC2, DC3, or PRS recognizes gain 
on the distribution. Under section 732(b), DC3's adjusted basis in 
Asset I is $50x. PRS's adjusted basis in Asset H is increased by 
$50x to $50x under section 734(b)(1)(B), which is the amount by 
which PRS's adjusted basis in Asset I immediately before the 
distribution exceeds DC3's adjusted basis in Asset I.
    (B) Analysis. Under paragraph (g)(6) of this section, PRS's 
adjusted basis in Asset H is determined without regard to any 
adjustments under section 734(b) except for adjustments under 
section 734(b)(1)(B) or section 734(b)(2)(B) that are attributable 
to distributions of tangible property and for adjustments under 
section 734(b)(1)(A) or 734(b)(2)(A). The adjustment to the adjusted 
basis in Asset H is under section 734(b)(1)(B) and is attributable 
to the distribution of Asset I, which is not tangible property. 
Accordingly, for purposes of applying paragraph (g)(1) of this 
section, PRS's adjusted basis in Asset H is $0.


[[Page 43092]]


    (h) Anti-avoidance rule for certain transfers of property--(1) In 
general. If, with a principal purpose of decreasing the amount of its 
deemed tangible income return, a domestic corporation transfers 
specified tangible property (transferred property) to a specified 
related party of the domestic corporation and, within the disqualified 
period, the domestic corporation or an FDII-eligible related party of 
the domestic corporation leases the same or substantially similar 
property from any specified related party, then, solely for purposes of 
determining the QBAI of the domestic corporation under paragraph (b) of 
this section, the domestic corporation is treated as owning the 
transferred property from the later of the beginning of the term of the 
lease or date of the transfer of the property until the earlier of the 
end of the term of the lease or the end of the recovery period of the 
property.
    (2) Rule for structured arrangements. For purposes of paragraph 
(h)(1) of this section, a transfer of specified tangible property to a 
person that is not a related party or lease of property from a person 
that is not a related party is treated as a transfer to or lease from a 
specified related party if the transfer or lease is pursuant to a 
structured arrangement. A structured arrangement exists only if either 
paragraph (h)(2)(i) or (ii) of this section is satisfied.
    (i) The reduction in the domestic corporation's deemed tangible 
income return is priced into the terms of the arrangement with the 
transferee.
    (ii) Based on all the facts and circumstances, the reduction in the 
domestic corporation's deemed tangible income return is a principal 
purpose of the arrangement. Facts and circumstances that indicate the 
reduction in the domestic corporation's deemed tangible income return 
is a principal purpose of the arrangement include--
    (A) Marketing the arrangement as tax-advantaged where some or all 
of the tax advantage derives from the reduction in the domestic 
corporation's deemed tangible income return;
    (B) Primarily marketing the arrangement to domestic corporations 
which earn FDDEI;
    (C) Features that alter the terms of the arrangement, including the 
return, in the event the reduction in the domestic corporation's deemed 
tangible income return is no longer relevant; or
    (D) A below-market return absent the tax effects or benefits 
resulting from the reduction in the domestic corporation's deemed 
tangible income return.
    (3) Per se rules for certain transactions. For purposes of 
paragraph (h)(1) of this section, a transfer of property by a domestic 
corporation to a specified related party (including a party deemed to 
be a specified related party under paragraph (h)(2) of this section) 
followed by a lease of the same or substantially similar property by 
the domestic corporation or an FDII-eligible related party from a 
specified related party (including a party deemed to be a specified 
related party under paragraph (h)(2) of this section) is treated per se 
as occurring pursuant to a principal purpose of decreasing the amount 
of the domestic corporation's deemed tangible income return if both the 
transfer and the lease occur within a six-month period.
    (4) Definitions related to anti-avoidance rule. The following 
definitions apply for purpose of this paragraph (h).
    (i) Disqualified period. The term disqualified period means, with 
respect to a transfer, the period beginning one year before the date of 
the transfer and ending the earlier of the end of the remaining 
recovery period (under the system described in section 951A(d)(3)(A)) 
of the property or one year after the date of the transfer.
    (ii) FDII-eligible related party. The term FDII-eligible related 
party means, with respect to a domestic corporation, a member of the 
same consolidated group as the domestic corporation or a partnership 
with respect to which at least 80 percent of the interests in 
partnership capital and profits are owned, directly or indirectly, by 
the domestic corporation or one or more members of the consolidated 
group that includes the domestic corporation.
    (iii) Specified related party. The term specified related party 
means, with respect to a domestic corporation, a related party other 
than an FDII-eligible related party.
    (iv) Transfer. The term transfer means any disposition, exchange, 
contribution, or distribution of property, and includes an indirect 
transfer. For example, a transfer of an interest in a partnership is 
treated as a transfer of the assets of the partnership. In addition, if 
paragraph (h)(1) of this section applies to treat a domestic 
corporation as owning specified tangible property by reason of a lease 
of property, the termination or lapse of the lease of the property is 
treated as a transfer of the specified tangible property by the 
domestic corporation to the lessor.
    (5) Transactions occurring before March 4, 2019. Paragraph (h)(1) 
of this section does not apply to a transfer of property that occurs 
before March 4, 2019.
    (6) Examples. The following examples illustrate the application of 
this paragraph (h).

    (i) Example 1: Sale-leaseback with a related party--(A) Facts. 
DC, a domestic corporation, owns Asset A, which is specified 
tangible property. DC also owns all the single class of stock of DS, 
a domestic corporation, and FS1 and FS2, each a controlled foreign 
corporation. DC and DS are members of the same consolidated group. 
On January 1, Year 1, DC sells Asset A to FS1. At the time of the 
sale, Asset A had a remaining recovery period of 10 years under the 
alternative depreciation system. On February 1, Year 1, FS2 leases 
Asset B, which is substantially similar to Asset A, to DS for a 
five-year term ending on January 31, Year 6.
    (B) Analysis. Because DC transfers specified tangible property 
(Asset A), to a specified related party of DC (FS1), and, within a 
six month period (January 1, Year 1 to February 1, Year 1), an FDII-
eligible related party of DC (DS) leases a substantially similar 
property (Asset B) from a specified related party (FS2), DC's 
transfer of Asset A and lease of Asset B are treated as per se 
occurring pursuant to a principal purpose of decreasing the amount 
of its deemed tangible income return. Accordingly, for purposes of 
determining DC's QBAI, DC is treated as owning Asset A from February 
1, Year 1, the later of the date of the transfer of Asset A (January 
1, Year 1) and the beginning of the term of the lease of Asset B 
(February 1, Year 1), until January 31, Year 6, the earlier of the 
end of the term of the lease of Asset B (January 31, Year 6) or the 
remaining recovery period of Asset A (December 31, Year 10).
    (ii) Example 2: Sale-leaseback with a related party; lapse of 
initial lease--(A) Facts. The facts are the same as in paragraph 
(h)(6)(i)(A) of this section (the facts in Example 1). In addition, 
DS allows the lease of Asset B to expire on February 1, Year 6. On 
June 1, Year 6, DS and FS2 renew the lease for a five-year term 
ending on May 31, Year 11.
    (B) Analysis. Because DC is treated as owning Asset A under 
paragraph (h)(1) of this section, the lapse of the lease of Asset B 
is treated as a transfer of Asset A to FS2 on February 1, Year 6, 
under paragraph (h)(4)(iv) of this section. Further, because DC is 
deemed to transfer specified tangible property (Asset A) to a 
specified related party (FS2) upon the lapse of the lease, and 
within a six month period (February 1, Year 6 to June 1, Year 6), an 
FDII-eligible related party of DC (DS) leases a substantially 
similar property (Asset B), DC's deemed transfer of Asset A under 
paragraph (h)(4)(iv) of this section and lease of Asset B are 
treated as per se occurring pursuant to a principal purpose of 
decreasing the amount of its deemed tangible income return. 
Accordingly, for purposes of determining DC's QBAI, DC is treated as 
owning Asset A from June 1, Year 6, the later of the date of the 
deemed transfer of Asset A (February 1, Year 6) and the beginning of 
the term of the lease of Asset B (June 1, Year 6), until December 
31, Year 10, the earlier of the end of the term of the lease

[[Page 43093]]

of Asset B (May 31, Year 11) or the remaining recovery period of 
Asset A (December 31, Year 10).

Sec.  1.250(b)-3   Foreign-derived deduction eligible income (FDDEI) 
transactions.

    (a) Scope. This section provides rules related to the determination 
of whether a sale of property or provision of a service is a FDDEI 
transaction. Paragraph (b) of this section provides definitions related 
to the determination of whether a sale of property or provision of a 
service is a FDDEI transaction. Paragraph (c) of this section provides 
rules regarding a sale of property or provision of a service to a 
foreign government or an agency or instrumentality thereof. Paragraph 
(d) of this section provides a rule for characterizing a transaction 
with both sales and services elements. Paragraph (e) of this section 
provides a rule for determining whether a sale of property or provision 
of a service to a partnership is a FDDEI transaction. Paragraph (f) of 
this section provides rules for substantiating certain FDDEI 
transactions.
    (b) Definitions. This paragraph (b) provides definitions that apply 
for purposes of this section and Sec. Sec.  1.250(b)-4 through 
1.250(b)-6.
    (1) Digital content. The term digital content means a computer 
program or any other content in digital format. For example, digital 
content includes books in digital format, movies in digital format, and 
music in digital format. For purposes of this section, a computer 
program is a set of statements or instructions to be used directly or 
indirectly in a computer or other electronic device in order to bring 
about a certain result, and includes any media, user manuals, 
documentation, data base, or similar item if the media, user manuals, 
documentation, data base, or other similar item is incidental to the 
operation of the computer program.
    (2) End user. Except as modified by Sec.  1.250(b)-4(d)(2)(ii), the 
term end user means the person that ultimately uses or consumes 
property or a person that acquires property in a foreign retail sale. A 
person that acquires property for resale or otherwise as an 
intermediary is not an end user.
    (3) FDII filing date. The term FDII filing date means, with respect 
to a sale of property by a seller or provision of a service by a 
renderer, the date, including extensions, by which the seller or 
renderer is required to file an income tax return (or in the case of a 
seller or renderer that is a partnership, a return of partnership 
income) for the taxable year in which the gross income from the sale of 
property or provision of a service is included in the gross income of 
the seller or renderer.
    (4) Finished goods. The term finished goods means general property 
that is acquired by an end user.
    (5) Foreign person. The term foreign person means a person (as 
defined in section 7701(a)(1)) that is not a United States person and 
includes a foreign government or an international organization.
    (6) Foreign related party. The term foreign related party means, 
with respect to a seller or renderer, any foreign person that is a 
related party of the seller or renderer.
    (7) Foreign retail sale. The term foreign retail sale means a sale 
of general property to a recipient that acquires the general property 
at a physical retail location (such as a store or warehouse) outside 
the United States.
    (8) Foreign unrelated party. The term foreign unrelated party 
means, with respect to a seller, a foreign person that is not a related 
party of the seller.
    (9) Fungible mass of general property. The term fungible mass of 
general property means multiple units of property for sale with similar 
or identical characteristics for which the seller does not know the 
specific identity of the recipient or the end user for a particular 
unit.
    (10) General property. The term general property means any property 
other than: Intangible property (as defined in paragraph (b)(11) of 
this section); a security (as defined in section 475(c)(2)); an 
interest in a partnership, trust, or estate; a commodity described in 
section 475(e)(2)(A) that is not a physical commodity; or a commodity 
described in section 475(e)(2)(B) through (D). A physical commodity 
described in section 475(e)(2)(A) is treated as general property, 
including if it is sold pursuant to a forward or option contract 
(including a contract described in section 475(e)(2)(C), but not a 
section 1256 contract as defined in section 1256(b) or other similar 
contract that is traded on a U.S. or non-U.S. regulated exchange and 
cleared by a central clearing organization in a manner similar to a 
section 1256 contract) that is physically settled by delivery of the 
commodity (provided that the taxpayer physically settled the contract 
pursuant to a consistent practice adopted for business purposes of 
determining whether to cash or physically settle such contracts under 
similar circumstances).
    (11) Intangible property. The term intangible property has the 
meaning set forth in section 367(d)(4). For purposes of section 250, 
intangible property does not include a copyrighted article as defined 
in Sec.  1.861-18(c)(3).
    (12) International transportation property. The term international 
transportation property means aircraft, railroad rolling stock, vessel, 
motor vehicle, or similar property that provides a mode of 
transportation and is capable of traveling internationally.
    (13) IP address. The term IP address means a device's internet 
Protocol address.
    (14) Recipient. The term recipient means a person that purchases 
property or services from a seller or renderer.
    (15) Renderer. The term renderer means a person that provides a 
service to a recipient.
    (16) Sale. The term sale means any sale, lease, license, 
sublicense, exchange, or other disposition of property, and includes 
any transfer of property in which gain or income is recognized under 
section 367. In addition, the term sell (and any form of the word sell) 
means any transfer by sale.
    (17) Seller. The term seller means a person that sells property to 
a recipient.
    (18) United States. The term United States has the meaning set 
forth in section 7701(a)(9), as expanded by section 638(1) with respect 
to mines, oil and gas wells, and other natural deposits.
    (19) United States person. The term United States person has the 
meaning set forth in section 7701(a)(30), except that the term does not 
include an individual that is a bona fide resident of a United States 
territory within the meaning of section 937(a).
    (20) United States territory. The term United States territory 
means American Samoa, Guam, the Northern Mariana Islands, Puerto Rico, 
or the U.S. Virgin Islands.
    (c) Foreign military sales and services. If a sale of property or a 
provision of a service is made to the United States or an 
instrumentality thereof pursuant to 22 U.S.C. 2751 et seq. under which 
the United States or an instrumentality thereof purchases the property 
or service for resale or on-service to a foreign government or agency 
or instrumentality thereof, then the sale of property or provision of a 
service is treated as a FDDEI sale or FDDEI service without regard to 
Sec.  1.250(b)-4 or Sec.  1.250(b)-5.
    (d) Transactions with multiple elements. A transaction is 
classified according to its overall predominant character for purposes 
of determining whether the transaction is a FDDEI sale under Sec.  
1.250(b)-4 or a FDDEI service under Sec.  1.250(b)-5. For example, 
whether a transaction that includes both

[[Page 43094]]

a sales component and a service component is subject to Sec.  1.250(b)-
4 or Sec.  1.250(b)-5 is determined based on whether the overall 
predominant character, taking into account all relevant facts and 
circumstances, is a sale or service. In addition, whether a transaction 
that includes both a sale of general property and a sale of intangible 
property is subject to Sec.  1.250(b)-4(d)(1) or Sec.  1.250(b)-4(d)(2) 
is determined based on whether the overall predominant character, 
taking into account all relevant facts and circumstances, is a sale of 
general property or a sale of intangible property.
    (e) Treatment of partnerships--(1) In general. For purposes of 
determining whether a sale of property to or by a partnership or a 
provision of a service to or by a partnership is a FDDEI transaction, a 
partnership is treated as a person. Accordingly, for example, a 
partnership may be a seller, renderer, recipient, or related party, 
including a foreign related party (as defined in paragraph (b)(6) of 
this section).
    (2) Examples. The following examples illustrate the application of 
this paragraph (e).

    (i) Example 1: Domestic partner sale to foreign partnership with 
a foreign branch--(A) Facts. DC, a domestic corporation, is a 
partner in PRS, a foreign partnership. DC and PRS are not related 
parties. PRS has a foreign branch within the meaning of Sec.  1.904-
4(f)(3)(iii). DC and PRS both use the calendar year as their taxable 
year. For the taxable year, DC recognizes $20x of gain on the sale 
of general property to PRS for a foreign use (as determined under 
Sec.  1.250(b)-4(d)). During the same taxable year, PRS recognizes 
$20x of gain on the sale of other general property to a foreign 
person for a foreign use (as determined under Sec.  1.250(b)-4(d)). 
PRS's income on the sale of the property is attributable to its 
foreign branch.
    (B) Analysis. DC's sale of property to PRS, a foreign 
partnership, is a FDDEI sale because it is a sale to a foreign 
person for a foreign use. Therefore, DC's gain of $20x on the sale 
to PRS is included in DC's gross DEI and gross FDDEI. However, PRS's 
gain of $20x is not included in the gross DEI or gross FDDEI of PRS 
because the gain is foreign branch income within the meaning of 
Sec.  1.250(b)-1(c)(11). Accordingly, none of PRS's gain on the sale 
of property is included in DC's gross DEI or gross FDDEI under Sec.  
1.250(b)-1(e)(1).
    (ii) Example 2: Domestic partner sale to domestic partnership 
without a foreign branch--(A) Facts. The facts are the same as in 
paragraph (e)(2)(i)(A) of this section (the facts in Example 1), 
except PRS is a domestic partnership that does not have a foreign 
branch within the meaning of Sec.  1.904-4(f)(3)(iii).
    (B) Analysis. DC's sale of property to PRS, a domestic 
partnership, is not a FDDEI sale because the sale is to a United 
States person. Therefore, the gross income from DC's sale to PRS is 
included in DC's gross DEI but is not included in its gross FDDEI. 
However, PRS's sale of other general property is a FDDEI sale, and 
therefore the gain of $20x is included in the gross DEI and gross 
FDDEI of PRS. Accordingly, DC includes its distributive share of 
PRS's gain from the sale in determining DC's gross DEI and gross 
FDDEI for the taxable year under Sec.  1.250(b)-1(e)(1).

    (f) Substantiation for certain FDDEI transactions--(1) In general. 
Except as provided in paragraph (f)(2) of this section, for purposes of 
Sec.  1.250(b)-4(d)(1)(ii)(C) (foreign use for sale of general property 
for resale), Sec.  1.250(b)-4(d)(1)(iii) (foreign use for sale of 
general property subject to manufacturing, assembly, or processing 
outside the United States), Sec.  1.250(b)-4(d)(2) (foreign use for 
sale of intangible property), and Sec.  1.250(b)-5(e) (general services 
provided to business recipients located outside the United States), a 
transaction is a FDDEI transaction only if the taxpayer substantiates 
its determination of foreign use (in the case of sales of property) or 
location outside the United States (in the case of general services 
provided to a business recipient) as described in the applicable 
paragraph of Sec.  1.250(b)-4(d)(3) or Sec.  1.250(b)-5(e)(4). The 
substantiating documents must be in existence as of the FDII filing 
date with respect to the FDDEI transaction, and a taxpayer must provide 
the required substantiating documents within 30 days of a request by 
the Commissioner or another period as agreed between the Commissioner 
and the taxpayer.
    (2) Exception for small businesses. Paragraph (f)(1) of this 
section, and the specific substantiation requirements described in the 
applicable paragraph of Sec.  1.250(b)-4(d)(3) or Sec.  1.250(b)-
5(e)(4), do not apply to a taxpayer if the taxpayer and all related 
parties of the taxpayer, in the aggregate, receive less than 
$25,000,000 in gross receipts during the taxable year prior to the 
FDDEI transaction. If the taxpayer's prior taxable year was less than 
12 months (a short period), gross receipts are annualized by 
multiplying the gross receipts for the short period by 365 and dividing 
the result by the number of days in the short period.
    (3) Treatment of certain loss transactions--(i) In general. If a 
domestic corporation fails to satisfy the substantiation requirements 
described in the applicable paragraph of Sec.  1.250(b)-4(d)(3) or 
Sec.  1.250(b)-5(e)(4) with respect to a transaction (including in 
connection with a related party transaction described in Sec.  
1.250(b)-6), the gross income from the transaction will be treated as 
gross FDDEI if--
    (A) In the case of a sale of property, the seller knows or has 
reason to know that property is sold to a foreign person for a foreign 
use (within the meaning of Sec.  1.250(b)-4(d)(1) or (2));
    (B) In the case of the provision of a general service to a business 
recipient, the renderer knows or has reason to know that a service is 
provided to a business recipient located outside the United States; and
    (C) Not treating the transaction as a FDDEI transaction would 
increase the amount of the corporation's FDDEI for the taxable year 
relative to its FDDEI that would be determined if the transaction were 
treated as a FDDEI transaction.
    (ii) Reason to know--(A) Sales to a foreign person for a foreign 
use. For purposes of paragraph (f)(3)(i)(A) of this section, a seller 
has reason to know that a sale is to a foreign person for a foreign use 
if the information received as part of the sales process contains 
information that indicates that the recipient is a foreign person or 
that the sale is for a foreign use, and the seller fails to obtain 
evidence establishing that the recipient is not in fact a foreign 
person or that the sale is not in fact for a foreign use. Information 
that indicates that a recipient is a foreign person or that the sale is 
for a foreign use includes, but is not limited to, a foreign phone 
number, billing address, shipping address, or place of residence; and, 
with respect to an entity, evidence that the entity is incorporated, 
formed, or managed outside the United States.
    (B) General services provided to a business recipient located 
outside the United States. For purposes of paragraph (f)(3)(i)(B) of 
this section, a renderer has reason to know that the provision of a 
general service is to a business recipient located outside the United 
States if the information received as part of the sales process 
contains information that indicates that the recipient is a business 
recipient located outside the United States and the seller fails to 
obtain evidence establishing that the recipient is not in fact a 
business recipient located outside the United States. Information that 
indicates that a recipient is a business recipient includes, but is not 
limited to, indicia of a business status (such as ``LLC'' or 
``Company,'' or similar indicia under applicable domestic or foreign 
law, in the name) or statements by the recipient indicating that it is 
a business. Information that indicates that a business recipient is 
located outside the United States includes, but is not limited to, a 
foreign phone number, billing address, and evidence that the entity or 
business is incorporated, formed, or managed outside the United States.

[[Page 43095]]

    (iii) Multiple transactions. If a seller or renderer engages in 
more than one transaction described in paragraph (f)(3)(i) of this 
section in a taxable year, paragraph (f)(3)(i) of this section applies 
by comparing the corporation's FDDEI if each such transaction were not 
treated as a FDDEI transaction to its FDDEI if each such transaction 
were treated as a FDDEI transaction.
    (iv) Example. The following example illustrates the application of 
this paragraph (f)(3).

    (A) Facts. During a taxable year, DC, a domestic corporation, 
manufactures products A and B in the United States. DC sells product 
A and product B to Y, a foreign person that is a distributor, for 
$200x and $800x, respectively. DC knows or has reason to know that 
all of its sales of product A and product B will ultimately be sold 
to end users located outside the United States. Y provides DC with a 
statement that satisfies the substantiation requirement of paragraph 
(f)(1) of this section and Sec.  1.250(b)-4(d)(3)(ii) that 
establishes that its sales of product B are for a foreign use but 
does not obtain substantiation establishing that any sales of 
product A are for a foreign use. DC's cost of goods sold is $450x. 
For purposes of determining gross FDDEI, under Sec.  1.250(b)-
1(d)(1) DC attributes $250x of cost of goods sold to product A and 
$200x of cost of goods sold to product B, and then attributes the 
cost of goods sold for each product ratably between the gross 
receipts of such product sold to foreign persons and the gross 
receipts of such product not sold to foreign persons. The manner in 
which DC attributes the cost of goods sold is a reasonable method. 
DC has no other items of income, loss, or deduction.


                                       Table 1 to Paragraph (f)(3)(iv)(A)
----------------------------------------------------------------------------------------------------------------
                                                                     Product A       Product B         Total
----------------------------------------------------------------------------------------------------------------
Gross receipts..................................................           $200x           $800x         $1,000x
Cost of Goods Sold..............................................            250x            200x            450x
Gross Income (Loss).............................................           (50x)            600x            550x
----------------------------------------------------------------------------------------------------------------


    (B) Analysis. By not treating the sales of product A as FDDEI 
sales, the amount of DC's FDDEI would increase by $50x relative to 
its FDDEI if the sales of product A were treated as FDDEI sales. 
Accordingly, because DC knows or has reason to know that its sales 
of product A are to foreign persons for a foreign use, the sales of 
product A constitute FDDEI sales under paragraph (f)(3) of this 
section, and thus the $50x loss from the sale of product A is 
included in DC's gross FDDEI.


Sec.  1.250(b)-4   Foreign-derived deduction eligible income (FDDEI) 
sales.

    (a) Scope. This section provides rules for determining whether a 
sale of property is a FDDEI sale. Paragraph (b) of this section defines 
a FDDEI sale. Paragraph (c) of this section provides rules for 
determining whether a recipient is a foreign person. Paragraph (d) of 
this section provides rules for determining whether property is sold 
for a foreign use. Paragraph (e) of this section provides a special 
rule for the sale of interests in a disregarded entity. Paragraph (f) 
of this section provides a rule regarding certain hedging transactions 
with respect to FDDEI sales.
    (b) Definition of FDDEI sale. Except as provided in Sec.  1.250(b)-
6(c), the term FDDEI sale means a sale of general property or 
intangible property to a recipient that is a foreign person (see 
paragraph (c) of this section for presumption rules relating to 
determining foreign person status) and that is for a foreign use (as 
determined under paragraph (d) of this section). A sale of any property 
other than general property or intangible property is not a FDDEI sale.
    (c) Presumption of foreign person status--(1) In general. The sale 
of property is presumed to be to a recipient that is a foreign person 
for purposes of paragraph (b) of this section if the sale is described 
in paragraph (c)(2) of this section. However, this presumption does not 
apply if the seller knows or has reason to know that the sale is not to 
a foreign person. A seller has reason to know that a sale is not to a 
foreign person if the information received as part of the sales process 
contains information that indicates that the recipient is not a foreign 
person and the seller fails to obtain evidence establishing that the 
recipient is in fact a foreign person. Information that indicates that 
a recipient is not a foreign person include, but are not limited to, a 
United States phone number, billing address, shipping address, or place 
of residence; and, with respect to an entity, evidence that the entity 
is incorporated, formed, or managed in the United States.
    (2) Sales of property. A sale of a property is described in this 
paragraph (c)(2) if:
    (i) The sale is a foreign retail sale;
    (ii) In the case of a sale of general property that is not a 
foreign retail sale and the general property is delivered (such as 
through a commercial carrier) to the recipient or an end user, the 
shipping address of the recipient or end user is outside the United 
States;
    (iii) In the case of a sale of general property that is not 
described in either paragraph (c)(2)(i) or (ii) of this section, the 
billing address of the recipient is outside the United States; or
    (iv) In the case of a sale of intangible property, the billing 
address of the recipient is outside the United States.
    (d) Foreign use--(1) Foreign use for general property--(i) In 
general. The sale of general property is for a foreign use for purposes 
of paragraph (b) of this section if the seller determines that the sale 
is for a foreign use under the rules of paragraph (d)(1)(ii) or (iii) 
of this section and the exception in paragraph (d)(1)(iv) of this 
section does not apply.
    (ii) Rules for determining foreign use--(A) Sales that are 
delivered to an end user by a carrier or freight forwarder. Except as 
otherwise provided in this paragraph (d)(1)(ii)(A), a sale of general 
property (other than a sale of general property described in paragraphs 
(d)(1)(ii)(D) through (F) of this section) that is delivered through a 
carrier or freight forwarder to a recipient that is an end user is for 
a foreign use if the end user receives delivery of the general property 
outside the United States. However, a sale described in the preceding 
sentence is not treated as a sale to an end user for a foreign use if 
the sale is made with a principal purpose of having the property 
transported from its location outside the United States to a location 
within the United States for ultimate use or consumption.
    (B) Sales to an end user without the use of a carrier or freight 
forwarder. With respect to sales that are not delivered through the use 
of a carrier or freight forwarder, a sale of general property (other 
than a sale of general property described in paragraphs (d)(1)(ii)(D) 
through (F) of this section) to a recipient that is an end user is for 
a foreign use if the property is located outside the United States at 
the time of the sale (including as part of foreign retail sales).
    (C) Sales for resale. A sale of general property (other than a sale 
of general property described in paragraphs (d)(1)(ii)(D) through (F) 
of this section) to a recipient (such as a distributor or retailer) 
that will resell the general property is for a foreign use if the

[[Page 43096]]

general property will ultimately be sold to end users outside the 
United States (including in foreign retail sales) and such sales to end 
users outside the United States are substantiated under paragraph 
(d)(3)(ii) of this section. In the case of sales of a fungible mass of 
general property, the taxpayer may presume that the proportion of its 
sales that are ultimately sold to end users outside the United States 
is the same as the proportion of the recipient's resales of that 
fungible mass to end users outside the United States.
    (D) Sales of digital content. A sale of general property that 
primarily contains digital content that is transferred electronically 
rather than in a physical medium is for a foreign use if the end user 
downloads, installs, receives, or accesses the purchased digital 
content on the end user's device outside the United States (see Sec.  
1.250(b)-5(d)(2) and (e)(2)(iii) for rules that apply in the case of 
digital content that is not purchased in a sale but is electronically 
supplied as a service). If information about where the digital content 
is downloaded, installed, received, or accessed (such as the device's 
IP address) is unavailable, and the gross receipts from all sales with 
respect to the end user (which may be a business) are in the aggregate 
less than $50,000, a sale of general property described in the 
preceding sentence is for a foreign use if it is to an end user that 
has a billing address located outside the United States.
    (E) Sales of international transportation property used for 
compensation or hire. A sale of international transportation property 
used for compensation or hire is for a foreign use if the end user 
registers the property with a foreign jurisdiction.
    (F) Sales of international transportation property not used for 
compensation or hire. A sale of international transportation property 
not used for compensation or hire is for a foreign use if the end user 
registers the property in a foreign jurisdiction and hangars or stores 
the property primarily outside the United States.
    (iii) Sales for manufacturing, assembly, or other processing--(A) 
In general. A sale of general property is for a foreign use if the sale 
is to a foreign unrelated party that subjects the property to 
manufacture, assembly, or other processing outside the United States 
and such manufacturing, assembly, or other processing outside the 
United States is substantiated under paragraph (d)(3)(iii) of this 
section. Property is subject to manufacture, assembly, or other 
processing only if the property is physically and materially changed 
(as described in paragraph (d)(1)(iii)(B) of this section) or the 
property is incorporated as a component into another product (as 
described in paragraph (d)(1)(iii)(C) of this section).
    (B) Property subject to a physical and material change. The 
determination of whether general property is subject to a physical and 
material change is made based on all the relevant facts and 
circumstances. General property is subject to a physical and material 
change if it is substantially transformed and is distinguishable from 
and cannot be readily returned to its original state.
    (C) Property incorporated into a product as a component. General 
property is a component incorporated into another product if the 
incorporation of the general property into another product involves 
activities that are substantial in nature and generally considered to 
constitute the manufacture, assembly, or processing of property based 
on all the relevant facts and circumstances. However, general property 
is not considered a component incorporated into another product if it 
is subject only to packaging, repackaging, labeling, or minor assembly 
operations. In addition, general property is treated as a component if 
the seller expects, using reliable estimates, that the fair market 
value of the property when it is delivered to the recipient will 
constitute no more than 20 percent of the fair market value of the 
finished good into which the general property is directly or indirectly 
incorporated when the finished good is sold to end users (the ``20-
percent rule''). If the property could be incorporated into a number of 
different finished goods, a reliable estimate of the fair market value 
of the finished good may include the average fair market value of a 
representative range of such goods. For purposes of the 20-percent 
rule, all general property that is sold by the seller and incorporated 
into the finished good is treated as a single item of property if the 
seller sells the property to the recipient and the seller knows or has 
reason to know that the components will be incorporated into a single 
item of property (for example, where multiple components are sold as a 
kit). A seller knows or has reason to know that the components will be 
incorporated into a single item of property if the information received 
as part of the sales process indicates that the components will be 
included in the same second product or the nature of the components 
compels inclusion into the second product and the seller fails to 
obtain evidence to the contrary.
    (iv) Sales of property subject to manufacturing, assembly, or other 
processing in the United States. If the seller sells general property 
to a recipient (other than a related party) for manufacturing, 
assembly, or other processing within the United States, such property 
is not sold for a foreign use even if the requirements of paragraph 
(d)(1)(ii) or (iii) of this section are subsequently satisfied. See 
Sec.  1.250(b)-6(c) for rules governing sales of general property to a 
foreign person that is a related party. Property is subject to 
manufacture, assembly, or other processing only if the property is 
physically and materially changed (as described in paragraph 
(d)(1)(iii)(B) of this section) or the property is incorporated as a 
component into another product (as described in paragraph 
(d)(1)(iii)(C) of this section).
    (v) Examples. The following examples illustrate the application of 
this paragraph (d)(1).
    (A) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (1) DC is a domestic corporation.
    (2) FP is a foreign person that is a foreign unrelated party with 
respect to DC.
    (3) To the extent a sale is for a foreign use, any applicable 
substantiation requirements described in paragraph (d)(3)(ii) or (iii) 
of this section are satisfied.
    (B) Examples--

    (1) Example 1: Manufacturing outside the United States--(i) 
Facts. DC sells batteries for $18x to FP. DC expects that FP will 
insert the batteries into tablets as part of the process of 
assembling tablets outside the United States. While the tablets are 
manufactured in a way that end users would not easily be able to 
remove the batteries, the batteries could be removed from the 
tablets and would resemble their original state following the 
removal. The finished tablets will be sold to end users within and 
outside the United States. DC's batteries are used in two types of 
tablets, Tablet A and Tablet B. Based on an economic analysis, DC 
determines that the fair market value of Tablet A is $90x and the 
fair market value of Tablet B is $110x. FP informs DC that the 
number of sales of Tablet A is approximately equal to the number of 
sales of Tablet B.
    (ii) Analysis. Because the batteries could be removed from the 
tablets and be returned to their original state, the insertion of 
the batteries into the tablets does not constitute a physical and 
material change described in paragraph (d)(1)(iii)(B) of this 
section. However, the average fair market value of a representative 
range of tablets that incorporate the batteries is $100x (the 
average of $90x for Tablet A and $110x for Tablet B because their 
sales are approximately equal), and $18x is less than 20 percent of 
$100x. Therefore, the batteries are considered components of the 
tablets and treated as subject to manufacture, assembly, or other 
processing outside the United States. See paragraphs (d)(1)(iii)(A) 
and (C) of this section. As a result, notwithstanding that

[[Page 43097]]

some tablets incorporating the batteries may be sold to an end user 
in the United States, DC's sale of batteries is considered for a 
foreign use. Accordingly, DC's sale of batteries to FP is for a 
foreign use under paragraph (d)(1)(iii)(A) and (C) of this section, 
and the sale is a FDDEI sale.
    (2) Example 2: Manufacturing outside the United States--(i) 
Facts. The facts are the same as in paragraph (d)(1)(v)(B)(1) of 
this section (the facts in Example 1), except FP purchases the 
batteries from DC for $25x. In addition, FP purchased other 
components of tablets from other parties. FP has a substantial 
investment in machinery and tools that are used to assemble tablets.
    (ii) Analysis. Even though the fair market value of the 
batteries that FP purchases from DC and incorporates into the 
tablets exceeds 20 percent of the fair market value of the tablets, 
because the batteries are used by FP in activities that are 
substantial in nature and generally considered to constitute the 
manufacture, assembly or other processing of property, the batteries 
are components of the tablets. As a result, DC's sale of property to 
FP is still for a foreign use under paragraph (d)(1)(iii)(A) and (C) 
of this section, and the sale is a FDDEI sale.
    (3) Example 3: Sale of products to distributor outside the 
United States--(i) Facts. DC sells smartphones to FP, a distributor 
of electronics located within Country A. The sales contract between 
DC and FP provides that FP may sell the smartphones it purchases 
from DC only to specified retailers located within Country A. The 
specified retailers only sell electronics, including smartphones, in 
foreign retail sales.
    (ii) Analysis. Although FP does not sell the smartphones it 
purchases from DC to end users, FP sells to retailers that sell the 
smartphones in foreign retail sales. All of the sales of smartphones 
from DC to FP are sales of general property for a foreign use under 
paragraph (d)(1)(ii)(C) of this section because FP is only allowed 
to sell the smartphones to retailers who sell such property in 
foreign retail sales. As a result, DC's sales of smartphones to FP 
are FDDEI sales.
    (4) Example 4: Sale of a fungible mass of products--(i) Facts. 
DC and persons other than DC sell multiple units of printer paper 
that is considered fungible general property to FP during the 
taxable year. FP is a distributor that sells paper to retail stores 
within and outside the United States. FP informs DC that 
approximately 25 percent of FP's sales of the paper are to retail 
stores located outside of the United States for foreign retail 
sales.
    (ii) Analysis. The sale of paper to FP is for a foreign use to 
the extent that the paper will be sold to end users located outside 
the United States under paragraph (d)(1)(ii)(C) of this section. 
Because a portion of DC's sales to FP are not for a foreign use, DC 
must determine the amount of paper that is sold for a foreign use. 
Based on the information provided by FP about its own sales, DC 
determines under paragraph (d)(1)(ii)(C) of this section that 25 
percent of the total units of paper that is fungible general 
property that FP purchased from all persons in the taxable year will 
ultimately be sold to end users located outside the United States. 
Accordingly, DC satisfies the test for a foreign use under paragraph 
(d)(1)(ii)(C) of this section with respect to 25 percent of its 
sales of the paper to FP.
    (5) Example 5: Limited use license of copyrighted computer 
software--(i) Facts. DC provides FP with a limited use license to 
copyrighted computer software in exchange for an annual fee of 
$100x. The limited use license restricts FP's use of the computer 
software to 100 of FP's employees, who download the software onto 
their computers. The limited use license prohibits FP from using the 
computer software in any way other than as an end user, which 
includes prohibiting sublicensing, selling, reverse engineering, or 
modifying the computer software. All of FP's employees download the 
software onto computers that are physically located outside the 
United States.
    (ii) Analysis. The software licensed to FP is digital content as 
defined in Sec.  1.250(b)-3(b)(1), and is downloaded by an end user 
as defined in Sec.  1.250(b)-3(b)(2). Accordingly, because the 
software is downloaded solely onto computers outside the United 
States, DC's license to FP is for a foreign use and therefore a 
FDDEI sale under paragraph (d)(1)(ii)(D) of this section. The entire 
$100x of the license fee is included in DC's gross FDDEI for the 
taxable year.
    (6) Example 6: Limited use license of copyrighted computer 
software used within and outside the United States--(i) Facts. The 
facts are the same as in paragraph (d)(1)(v)(B)(5) of this section 
(the facts in Example 5), except that FP has offices both within and 
outside the United States, and DC's internal records indicates that 
50 percent of the downloads of the software are onto computers 
located outside the United States.
    (ii) Analysis. Because 50 percent of the downloads of the 
software are onto computers located outside the United States, a 
portion of DC's license to FP is for a foreign use and therefore 
such portion is a FDDEI sale. The $50x of license fee derived with 
respect to such portion is included in DC's gross FDDEI for the 
taxable year.
    (7) Example 7: Sale of a copyrighted article--(i) Facts. DC 
sells copyrighted music available for download on its website. Once 
downloaded, the recipient listens to the music on electronic devices 
that do not need to be connected to the internet. DC has data that 
an individual accesses the website to purchase a song for download 
on a device located outside the United States. The terms of the sale 
permit the recipient to use the song for personal use, but convey no 
other rights to the copyrighted music to the recipient.
    (ii) Analysis. The music acquired through download is digital 
content as defined in Sec.  1.250(b)-3(b)(1). Because the recipient 
acquires no ownership in copyright rights to the music, the sale is 
considered a sale of a copyrighted article, and thus is a sale of 
general property. See Sec.  1.250(b)-3(b)(10) and (11). As a result, 
the sale is considered for a foreign use under paragraph 
(d)(1)(ii)(D) of this section because the digital content was 
installed, received, or accessed on the end user's device outside 
the United States. The income derived with respect to the sale of 
the music is included in DC's gross FDDEI for the taxable year. See 
Sec.  1.250(b)-5(d)(3) for an example of digital content provided to 
consumers as a service rather than as a sale.

    (2) Foreign use for intangible property--(i) In general. A sale of 
rights to exploit intangible property solely outside the United States 
is for a foreign use. A sale of rights to exploit intangible property 
solely within the United States is not for a foreign use. A sale of 
rights to exploit intangible property worldwide is partially for a 
foreign use and partially not for a foreign use. Whether intangible 
property is exploited within versus outside the United States is 
determined based on revenue earned from end users located within versus 
outside the United States. Therefore, a sale of rights to exploit 
intangible property both within and outside the United States is for a 
foreign use in proportion to the revenue earned from end users located 
outside the United States over the total revenue earned from the 
exploitation of the intangible property. A sale of intangible property 
will be treated as a FDDEI sale only if the substantiation requirements 
of paragraph (d)(3)(iv) of this section are satisfied. For rules 
specific to determining end users and revenue earned from end users for 
intangible property used in sales of general property, provision of 
services, research and development, or consisting of a manufacturing 
method or process, see paragraph (d)(2)(ii) of this section.
    (ii) Determination of end users and revenue earned from end users--
(A) Intangible property embedded in general property or used in 
connection with the sale of general property. If intangible property is 
embedded in general property that is sold, or used in connection with a 
sale of general property, then the end user of the intangible property 
is the end user of the general property. Revenue is earned from the end 
user of the general property outside the United States to the extent 
the sale of the general property is for a foreign use under paragraph 
(d)(1)(ii) of this section.
    (B) Intangible property used in providing a service. If intangible 
property is used to provide a service, then the end user of that 
intangible property is the recipient, consumer, or business recipient 
of the service or, in the case of a property service or a 
transportation service that involves the transportation of property, 
the end user is the owner of the property on which such service is 
being performed. Such end users are treated as located outside the 
United States only to the extent the service qualifies as a FDDEI 
service

[[Page 43098]]

under Sec.  1.250(b)-5. Therefore, in the case of a recipient of a sale 
of intangible property that uses such intangible property to provide a 
property service that qualifies as a FDDEI service to another person, 
that person is the end user and is treated as located outside the 
United States.
    (C) Intangible property consisting of a manufacturing method or 
process--(1) In general. Except as provided in paragraph 
(d)(2)(ii)(C)(2) of this section, if intangible property consists of a 
manufacturing method or process (as defined in paragraph 
(d)(2)(ii)(C)(3) of this section) and is sold to a foreign unrelated 
party (including in a sale by a foreign related party), then the 
foreign unrelated party is treated as an end user located outside the 
United States, unless the seller knows or has reason to know that the 
manufacturing method or process will be used in the United States, in 
which case the foreign unrelated party is treated as an end user 
located within the United States. A seller has reason to know that the 
manufacturing method or process will be used in the United States if 
the information received from the recipient as part of the sales 
process contains information that indicates that the recipient intends 
to use the manufacturing method or process in the United States and the 
seller fails to obtain evidence establishing that the recipient does 
not intend to use the manufacturing method or process in the United 
States.
    (2) Exception for certain manufacturing arrangements. A sale of 
intangible property consisting of a manufacturing method or process 
(including a sale by a foreign related party) to a foreign unrelated 
party for use in manufacturing products for or on behalf of the seller 
or any person related to the seller does not qualify as a sale to a 
foreign unrelated party for purposes of determining the end user under 
paragraph (d)(2)(ii)(C)(1) of this section.
    (3) Manufacturing method or process. For purposes of this section, 
a manufacturing method or process consists of a sequence of actions or 
steps that comprise an overall method or process that is used to 
manufacture a product or produce a particular manufacturing result, 
which may be in the form of a patent or know-how. Intangible property 
consisting of the right to make and sell an item of property is not a 
manufacturing method or process, whereas intangible property consisting 
of the right to apply a series of actions or steps to be performed to 
achieve a particular manufacturing result is a manufacturing method or 
process. For example, a utility or design patent on an article of 
manufacture, machine, composition of matter, design, or providing the 
right to sell equipment to perform a process is not a manufacturing 
method or process, whereas a utility patent covering a method or 
process of manufacturing is a manufacturing method or process for 
purposes of this section.
    (D) Intangible property used in research and development. If 
intangible property (primary IP) is used to develop new or modify other 
intangible property (secondary IP), then the end user of the primary IP 
is the end user (applying paragraph (d)(2)(ii)(A), (B), or (C) of this 
section) of the secondary IP.
    (iii) Determination of revenue for periodic payments versus lump 
sums--(A) Sales in exchange for periodic payments. In the case of a 
sale of intangible property, other than intangible property consisting 
of a manufacturing method or process that is sold to a foreign 
unrelated party, to a recipient in exchange for periodic payments, the 
extent to which the sale is for a foreign use is determined annually 
based on the actual revenue earned by the recipient from any use of the 
intangible property for the taxable year in which a periodic payment is 
received. If actual revenue earned by the recipient cannot be obtained 
after reasonable efforts, then estimated revenue earned by a recipient 
that is not a related party of the seller from the use of the 
intangible property may be used based on the principles of paragraph 
(d)(2)(iii)(B) of this section.
    (B) Sales in exchange for a lump sum. In the case of a sale of 
intangible property, other than intangible property consisting of a 
manufacturing method or process that is sold to a foreign unrelated 
party, for a lump sum, the extent to which the sale is for a foreign 
use is determined based on the ratio of the total net present value of 
revenue the seller would have expected to earn from the exploitation of 
the intangible property outside the United States to the total net 
present value of revenue the seller would have expected to earn from 
the exploitation of the intangible property. In the case of a recipient 
that is a foreign unrelated party, net present values of revenue that 
the recipient expected to earn from the exploitation of the intangible 
property within and outside the United States may also be used if the 
seller obtained such revenue data from the recipient near the time of 
the sale and such revenue data was used to negotiate the lump sum price 
paid for the intangible property. Net present values must be determined 
using reliable inputs including, but not limited to, reliable revenue, 
expenses, and discount rates. The extent to which the inputs are used 
by the parties to determine the sales price agreed to between the 
seller and a foreign unrelated party purchasing the intangible property 
will be a factor in determining whether such inputs are reliable. If 
the intangible property is sold to a foreign related party, the 
reliability of the inputs used to determine net present values and the 
net present values are determined under section 482.
    (C) Sales to a foreign unrelated party of intangible property 
consisting of a manufacturing method or process. In the case of a sale 
to an unrelated foreign party of intangible property consisting of a 
manufacturing method or process, the revenue earned from the end user 
is equal to the amount received from the recipient in exchange for the 
manufacturing method or process. In the case of a bundled sale of 
intangible property consisting of a manufacturing method or process and 
intangible property not consisting of a manufacturing method or 
process, the revenue earned from the intangible property consisting of 
the manufacturing method or process equals the total amount paid for 
the bundled sale multiplied by the proportion that the value of the 
manufacturing method or process bears to the total value of the 
intangible property. The value of the manufacturing method or process 
to the total value of the intangible property must be determined using 
the principles of section 482.
    (iv) Examples. The following examples illustrate the application of 
this paragraph (d)(2).
    (A) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (1) DC is a domestic corporation.
    (2) Except as otherwise provided, FP and FP2 are foreign persons 
that are foreign unrelated parties with respect to DC.
    (3) All of DC's income is DEI.
    (4) Except as otherwise provided, the substantiation requirements 
described in paragraph (d)(3)(iv) of this section are satisfied.
    (5) Except as otherwise provided, inputs used to determine the net 
present values of the revenue are reliable.
    (B) Examples--

    (1) Example 1: License of worldwide rights with actual revenue 
data from recipient--(i) Facts. DC licenses to FP worldwide rights 
to the copyright to composition A in exchange for annual royalties 
of 60 percent of revenue from FP's sales of composition A. FP sells 
composition A to customers through digital downloads from servers. 
In the taxable year, FP earns $100x in revenue from sales of

[[Page 43099]]

copies of composition A to customers, of which $60x is from 
customers located in the United States and the remaining $40x is 
from customers located outside the United States. FP provides DC 
with reliable records showing the amount of revenue earned in the 
taxable year from sales of composition A to establish the royalties 
owed to DC. These records also provide DC with the amount of revenue 
earned from sales of composition A to customers located within the 
United States.
    (ii) Analysis. FP is not the end user of the copyright to 
composition A under paragraph (d)(2)(ii)(A) of this section because 
the copyright is used in the sale of general property (the sale of 
copyrighted articles to customers). The customers that purchase a 
copy of composition A from FP are the end users (as defined in Sec.  
1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of this section) 
because those customers are the recipients of composition A when 
sold as general property. Based on the actual revenue earned by FP 
from sales of composition A, 40 percent ($40x/$100x) of the revenue 
generated by the copyright during the taxable year is earned outside 
the United States. Accordingly, a portion of DC's license to FP is 
for a foreign use under paragraph (d)(2) of this section and 
therefore such portion is a FDDEI sale. The $24x of royalty (0.40 x 
$60x of total royalties owed to DC during the taxable year) derived 
with respect to such portion is included in DC's gross FDDEI for the 
taxable year.
    (2) Example 2: Fixed annual payments for worldwide rights 
without actual revenue data from recipient--(i) Facts. The facts are 
the same as in paragraph (d)(2)(iv)(B)(1)(i) of this section (the 
facts in Example 1), except FP pays DC a fixed annual payment of 
$60x each year for the worldwide rights to the copyright to 
composition A and does not provide DC with data showing how much 
revenue FP earned from sales of composition A, even after DC 
requests that FP provide it with such information. DC also is unable 
to determine how much revenue FP earned from sales of composition A 
to customers within the United States from the data it has with 
respect to FP and publicly available data with respect to FP. 
However, DC's economic analysis of the revenue DC expected it could 
earn annually from use of composition A as part of determining the 
annual payments DC would receive from FP from the license of 
composition A supports a determination that 40 percent of sales of 
composition A during the tax year would be to customers located 
outside the United States. During an examination of DC's return for 
the taxable year, DC provides the IRS with data explaining the 
economic analysis, inputs, and results from its valuation of 
composition A used in determining the amount of annual payments 
agreed to by DC and FP.
    (ii) Analysis. For the same reasons provided in paragraph 
(d)(2)(iv)(B)(1)(ii) of this section (the analysis in Example 1), 
the customers that purchase copies of composition A from FP are the 
end users. DC is allowed to use reliable economic analysis to 
estimate revenue earned by FP from the use of the copyright to 
composition A under paragraph (d)(2)(iii)(A) of this section because 
DC was unable to obtain actual revenue earned by FP from use of the 
copyright to composition A during the taxable year after reasonable 
efforts to obtain the actual revenue data. Based on DC's economic 
analysis, a portion of DC's license to FP is for a foreign use under 
paragraph (d)(2) of this section and therefore such portion is a 
FDDEI sale. $24x of the $60x fixed payment to DC (0.40 x $60x) is 
included in DC's gross FDDEI for the taxable year.
    (3) Example 3: Sale of patent rights protected in the United 
States and other countries; use of financial projections in sale to 
foreign unrelated party--(i) Facts. DC owns a patent for an active 
pharmaceutical ingredient (``API'') approved for treatment of 
disease A (``indication A'') in the United States and in Countries 
A, B, and C. The patent is registered in the United States and in 
Countries A, B, and C. DC sells to FP all of its patent rights to 
the API for indication A for a lump sum payment of $1,000x. DC has 
no basis in the patent rights. To determine the sales price for the 
patent rights, DC projected that the net present value of the 
revenue it would earn from selling a pharmaceutical product 
incorporating the API for indication A was $5,000x, with 15 percent 
of the net present value of revenue earned from sales within the 
United States and 85 percent of the net present value of revenue 
earned from sales outside the United States. DC did not obtain 
revenue projections from the recipient.
    (ii) Analysis. FP is not the end user of the patent under 
paragraph (d)(2)(ii)(A) of this section because the patent is used 
in the sale of general property (the sale of pharmaceutical products 
to customers) and FP is not the recipient of that general property. 
The unrelated party customers that purchase the finished 
pharmaceutical product from FP are the end users (as defined in 
Sec.  1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of this section) 
because those customers are the unrelated party recipients of the 
pharmaceutical product when sold as general property. Based on the 
financial projections DC used to determine the sales price of the 
patent that FP purchased, a portion of DC's sale to FP is for a 
foreign use under paragraph (d)(2) of this section and such portion 
is a FDDEI sale. The $850x (85 percent x $1,000x) of gain derived 
with respect to such portion is included in DC's gross FDDEI for the 
taxable year.
    (4) Example 4: Sale of patent rights protected in the United 
States and other countries; use of financial projections in sale to 
foreign related party--(i) Facts. The facts are the same as in 
paragraph (d)(2)(iv)(B)(3)(i) of this section (the facts in Example 
3), except that FP is a foreign related party with respect to DC, 
and DC projected that the net present value of the revenue it would 
earn from selling a pharmaceutical product incorporating the API for 
indication A would result in 1 percent of the revenue earned from 
sales within the United States and 99 percent of the revenue earned 
from sales outside the United States. During the examination of DC's 
return for the taxable year, the IRS determines that DC's 
substantiation allocating the projected revenue from sales within 
the United States and outside the United States does not reflect 
reliable inputs to determine the net present values of revenues 
under section 482, but determines that the total lump sum price FP 
paid for DC's patent rights is an arm's length price. The IRS 
determines that the most reliable net present values of revenue DC 
would have earned from sales within the United States and outside 
the United States is $750x and $4250x, respectively.
    (ii) Analysis. For the same reasons provided in paragraph 
(d)(2)(iv)(B)(3)(ii) of this section (the analysis in Example 3), 
the customers that purchase the finished pharmaceutical product from 
FP are the end users. Under paragraph (d)(2)(iii)(B) of this 
section, the reliability of the inputs DC used to determine the net 
present values and the net present values are determined under 
section 482. Based on the sales price of the patent that FP 
purchased and the IRS-determined net present values of revenue DC 
would have earned from sales within the United States and outside 
the United States, a portion of DC's sale to FP is for a foreign use 
under paragraph (d)(2) of this section and such portion is a FDDEI 
sale. DC is allowed to include $850x (($4250x divided by $5000x) x 
$1,000x) of gain in DC's gross FDDEI for the taxable year.
    (5) Example 5: Sale of patent of manufacturing method or process 
protected in the United States and other countries; foreign 
unrelated party--(i) Facts. DC owns the worldwide rights to a patent 
covering a process for refining crude oil. DC sells to FP the right 
to DC's patented process for refining crude oil for a lump sum 
payment of $100x. DC has no basis in the patent rights. DC does not 
know or have reason to know that FP will use the patented process to 
refine crude oil within the United States or will sell or license 
the rights to the patent to a person to refine crude oil within the 
United States.
    (ii) Analysis. DC's patent covering a process for refining crude 
oil is a manufacturing method or process as defined in paragraph 
(d)(2)(ii)(C)(3) of this section. Under paragraph (d)(2)(ii)(C)(1) 
of this section, FP is treated as the end user of the patent, and is 
treated as located outside the United States because FP is a foreign 
unrelated party and DC does not know or have reason to know that the 
patented process will be used in the United States. As a result, all 
of the sale to FP is for a foreign use under paragraph (d)(2) of 
this section and therefore is a FDDEI sale. The entire $100x lump 
sum payment is included in DC's gross FDDEI for the taxable year.
    (6) Example 6: License of intangible property that includes a 
patented manufacturing method or process protected in the United 
States and other countries; foreign unrelated party--(i) Facts. DC 
owns worldwide rights to patents, know-how, and a trademark and 
tradename for product Z. The patents consist of: a patent covering 
the right to make, use, and sell product Z (article of manufacture), 
a patent covering the rights to make, use, and sell a composition of 
substances used in certain components of product Z (composition of 
matter), and a patent covering the right to use a manufacturing 
process consisting of a series

[[Page 43100]]

of manufacturing steps to manufacture product Z (manufacturing 
method or process as defined in paragraph (d)(2)(ii)(C)(3) of this 
section) and to sell the product Z that FP manufactures using the 
manufacturing method or process. The know-how consists entirely of 
manufacturing know-how used to implement the manufacturing steps 
that comprise the manufacturing method or process. DC licenses the 
worldwide rights to the patents, know-how, and the trademark and 
tradename for product Z to FP in exchange for annual royalties of 60 
percent of revenue from sales of product Z. FP manufactures product 
Z in country X and sells product Z to DC2, a domestic corporation 
and unrelated party to DC and FP, for resale to customers located 
within the United States. FP also sells product Z to FP2, a foreign 
unrelated party with respect to DC and FP, for resale to customers 
located outside the United States. During the taxable year, FP sells 
to DC2 $140x of product Z. Also, during the taxable year, FP sells 
to FP2 $60x of product Z. DC determines under the principles of 
section 482 that the licensed know-how and the patented 
manufacturing method or process comprise 10 percent of the arm's 
length price of the intangible property DC licenses to FP.
    (ii) Analysis--(A) End users. Under paragraph (d)(2)(ii)(C)(1) 
of this section, FP is treated as the end user of the patent 
covering the right to use the manufacturing process and the 
manufacturing know-how used to implement the manufacturing method or 
process, and is treated as located outside the United States because 
FP is a foreign unrelated party and DC does not know or have reason 
to know that the patented process and know-how will be used in the 
United States. DC2, FP, and FP2 are not the end users of the 
remaining intangible property under paragraph (d)(2)(ii)(A) of this 
section because that intangible property is used in the sale of 
general property (the sale of product Z) and DC2, FP, and FP2 are 
not the end users of that general property. The unrelated party 
customers that purchase product Z from DC2 and FP2 are the end users 
(as defined in Sec.  1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of 
this section) because those customers are the unrelated party 
recipients of product Z.
    (B) Foreign use. Under paragraph (d)(2)(ii)(A) of this section, 
revenue from royalties paid for the intangible property other than 
the manufacturing method or process is earned from end users outside 
the United States to the extent the sale of the general property is 
for a foreign use under paragraph (d)(1) of this section. FP2 is a 
reseller of product Z to end users outside the United States, so all 
sales of product Z to FP2 are for a foreign use under paragraph 
(d)(1)(ii)(C) of this section. Because DC has determined that 10 
percent of the value of the intangible property consists of a 
manufacturing method or process (as defined in paragraph 
(d)(2)(ii)(C)(3) of this section) used to manufacture product Z, 
$12x of the $120x royalty FP pays to DC during the taxable year is 
for foreign use ($120x total royalty x 0.10) based on the location 
of FP's manufacturing utilizing the know-how or all of the sequence 
of actions that comprise the manufacturing method or process under 
paragraph (d)(2)(ii)(C)(3) of this section. Based on the sales of 
product Z within and outside the United States, $32.4x of the 
royalties FP pays DC for rights to the licensed intangible property 
during the taxable year (($60x of revenue from sales to FP2 for 
resale to customers located outside the United States divided by 
$200x total worldwide sales revenue FP receives from DC2 and FP2) x 
($120x total royalties less $12 of those royalties attributable to 
the manufacturing method or process)) qualifies as income earned 
from the sale of intangible property for a foreign use under 
paragraph (d)(2) of this section and therefore such portion is a 
FDDEI sale. As a result, $44.40x of royalties ($12x + $32.40x) is 
included in DC's gross FDDEI for the taxable year.
    (7) Example 7: License of intangible property that includes a 
patented manufacturing method or process protected in the United 
States and other countries; foreign related party with third-party 
manufacturer--(i) Facts. The facts are the same as in paragraph 
(d)(2)(iv)(B)(6)(i) of this section (the facts in Example 6), except 
that FP is a foreign related party with respect to DC and FP engages 
FP2, a foreign unrelated party, to manufacture product Z. FP 
sublicenses to FP2 the rights to the intangible property FP licenses 
from DC solely to manufacture product Z and sell product Z to FP. 
FP2 manufactures product Z in country Y and sells all of product Z 
it manufactures to FP. During the taxable year, FP sold $80x of 
product Z to DC2, which DC2 resold to customers located within the 
United States. Also, during the taxable year, FP sold $120x of 
product Z to customers located outside the United States.
    (ii) Analysis--(A) End users. Under paragraph (d)(2)(ii)(C)(1) 
of this section, FP is not treated as the end user of the patent 
covering the right to use the manufacturing process and the 
manufacturing know-how used to implement the manufacturing method or 
process because FP is a foreign related party with respect to DC. 
Under paragraph (d)(2)(ii)(C)(2) of this section, FP2 is also not 
treated as the end user of the patent covering the right to use the 
manufacturing process and the manufacturing know-how used to 
implement the manufacturing method or process because FP2 is using 
that intangible property to manufacture product Z for FP. DC2 is 
also not treated as the end user of the patent covering the right to 
use the manufacturing process and the manufacturing know-how used to 
implement the manufacturing method or process because DC2 does not 
use the patent or know-how in manufacturing. DC2, FP, and FP2 are 
not the end users of the remaining intangible property under 
paragraph (d)(2)(ii)(A) of this section because that intangible 
property is used in the sale of general property (the sale of 
product Z) and DC2, FP, and FP2 are not the end users of that 
general property. The unrelated party customers that purchase the 
Product Z from DC2 and FP are the end users (as defined in Sec.  
1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of this section) of the 
intangible property because those customers are the persons that 
ultimately use or consume product Z.
    (B) Foreign use. Based on the sales of product Z to customers 
located within and outside the United States, $72x of the royalties 
FP pays DC for rights to the licensed intangible property during the 
taxable year (($120x of revenue from sales to customers located 
outside the United States divided by $200x total worldwide sales 
revenue) x $120x total royalties) qualifies as income earned from 
the sale of intangible property for a foreign use under paragraph 
(d)(2) of this section and therefore such portion is a FDDEI sale. 
As a result, $72x of royalties is included in DC's gross FDDEI for 
the taxable year.
    (8) Example 8: Deemed sale in exchange for contingent payments 
under section 367(d)--(i) Facts. DC owns 100 percent of the stock of 
FP, a foreign related party with respect to DC. FP manufactures and 
sells product A. For the taxable year, DC contributes to FP 
exclusive worldwide rights to patents, trademarks, know-how, 
customer lists, and goodwill and going concern value (collectively, 
intangible property) related to product A in an exchange described 
in section 351. DC is required to report an annual income inclusion 
on its Federal income tax return based on the productivity, use, or 
disposition of the contributed intangible property under section 
367(d). DC includes a percentage of FP's revenue in its gross income 
under section 367(d) each year. In the current taxable year, FP 
earns $1,000x of revenue from sales of product A. Based on reliable 
sales records kept by FP for the taxable year, $300x of FP's revenue 
is earned from sales of product A to customers within the United 
States, and $700x of its revenue is earned from sales of product A 
to customers outside the United States.
    (ii) Analysis. DC's deemed sale of the intangible property to FP 
in exchange for payments contingent upon the productivity, use, or 
disposition of the intangible property related to product A under 
section 367(d) is a sale for purposes of section 250 and this 
section. See Sec.  1.250(b)-3(b)(16). Based on FP's sales records 
for the taxable year, 70 percent of DC's deemed sale to FP is for a 
foreign use, and 70 percent of DC's income inclusion under section 
367(d) derived with respect to such portion is included in DC's 
gross FDDEI for the taxable year.
    (9) Example 9: License of intangible property followed by a sale 
of general property in which the intangible property is embedded; 
unrelated parties--(i) Facts. DC owns the worldwide rights to a 
patent on a silicon chip used in computers, tablets, and 
smartphones. The patent does not qualify as a manufacturing method 
or process (as defined in paragraph (d)(2)(ii)(C)(3) of this 
section). DC licenses the worldwide rights to the patent to FP in 
exchange for annual royalties of 30 percent of revenue from sales of 
the silicon chips. During the taxable year, FP manufactures silicon 
chips protected by the patent and sells all of those chips to FP2 
for $1,000x. FP2 also purchases similar silicon chips from other 
suppliers. FP2 uses the silicon chips in computers, tablets, 
smartphones, and motherboards that FP2 manufactures in country X and 
sells to its customers located within the United States and foreign 
countries. For purposes of this

[[Page 43101]]

example, FP2's manufacturing qualifies as subjecting the silicon 
chips to manufacture, assembly, or other processing outside the 
United States as provided in paragraph (d)(1)(iii) of this section.
    (ii) Analysis. FP is not the end user or treated as an end user 
(as defined in Sec.  1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of 
this section) because FP is not the unrelated party recipient of the 
general property in which the patent is embedded, and the patent 
does not qualify as a manufacturing method or process. Under 
paragraph (d)(2)(ii)(A) of this section, revenue from royalties paid 
for the patent is earned from end users outside the United States to 
the extent the sale of the general property is for a foreign use 
under paragraph (d)(1) of this section. Because FP2 is subjecting 
the silicon chips to manufacture, assembly, or other processing 
outside the United States, the revenue from royalties FP pays to DC 
qualifies for foreign use based on the location of FP2's 
manufacturing and qualifies as a FDDEI sale. As a result, the entire 
$300x of annual royalties paid by FP to DC during the taxable year 
is included in DC's gross FDDEI for the taxable year.
    (10) Example 10: License of intangible property followed by a 
sale of general property in which the intangible property is 
embedded; related parties--(i) Facts. The facts are the same as in 
paragraph (d)(2)(iv)(B)(9)(i) of this section (the facts in Example 
9), except that FP and FP2 are foreign related parties with respect 
to DC. FP2 sells and ships computers, tablets, and smartphones it 
manufactures with the silicon chips it purchases from FP to 
unrelated party wholesalers located within and outside the United 
States. The wholesalers within the United States only sell to 
retailers located within the United States and the wholesalers 
outside the United States only sell to retailers located outside the 
United States. The retailers within the United States only sell to 
customers located within the United States and the retailers located 
outside the United States only sell to customers located outside the 
United States. FP2 earns $15,000x of revenue from sales to unrelated 
party wholesalers located outside the United States and $10,000x of 
revenue from sales to unrelated party wholesalers located within the 
United States. FP2 also sells and ships motherboards with the 
silicon chips it purchases from FP to unrelated party manufacturers 
located outside the United States. FP2 does not sell motherboards 
with the silicon chips it purchases from FP to unrelated party 
manufacturers located within the United States. FP2 earns $5,000x of 
revenue from the sales of these motherboards to manufacturers 
located outside the United States. For purposes of this example, 
these manufacturers subject the motherboards to manufacture, 
assembly, or other processing outside the United States as provided 
in paragraph (d)(1)(iii) of this section.
    (ii) Analysis. FP is not the end user or treated as an end user 
(as defined in Sec.  1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of 
this section) of the intangible property because FP is not the end 
user of the general property in which the patent is embedded (the 
silicon chips). FP2 is also not the end user (as defined in Sec.  
1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of this section) of the 
intangible property because FP2 is not the end user of the silicon 
chips. Under paragraph (d)(2)(ii)(A) of this section, the customers 
of the retailers that purchase from the unrelated party wholesalers 
are the end users. Because the wholesalers located outside the 
United States only sell to retailers located outside the United 
States that sell to end users located outside the United States, the 
location of the wholesalers is a reliable basis for determining the 
location of the end users. Revenue from royalties paid for the 
patent is earned from end users outside the United States to the 
extent the sale of the general property is for a foreign use under 
paragraph (d)(1) of this section. A portion of the sales to the 
unrelated party wholesalers qualify as foreign use under paragraph 
(d)(1) of this section and the sales to the unrelated party 
manufacturers qualify as foreign use under paragraph (d)(1)(iii) of 
this section. Accordingly, revenue from royalties FP pays to DC is 
from a FDDEI sale to the extent of such sales to the unrelated party 
manufacturers and such potion of sales to unrelated party 
wholesalers that qualify for foreign use. As a result, $200x of 
annual royalties paid by FP to DC during the taxable year 
((($15,000x of sales to wholesalers located outside the United 
States plus $5,000x of sales to manufacturers located outside the 
United States) divided by $30,000x total sales) x $300x) is included 
in DC's gross FDDEI for the taxable year.
    (11) Example 11: License of intangible property followed by a 
sale of general property that incorporates the intangible property; 
unrelated parties with manufacturing within the United States--(i) 
Facts. The facts are the same as in paragraph (d)(2)(iv)(B)(9)(i) of 
this section (the facts in Example 9), except that FP2 manufactures 
its computers, tablets, smartphones, and motherboards in the United 
States.
    (ii) Analysis. FP is not the end user or treated as an end user 
(as defined in Sec.  1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(A) of 
this section) because FP is not the unrelated party recipient of the 
general property in which the patent is embedded (the silicon chips) 
and the patent does not qualify as a manufacturing method or 
process. Under paragraph (d)(2)(ii)(A) of this section, revenue from 
royalties paid for the patent is earned from end users outside the 
United States to the extent the sale of the general property is for 
a foreign use under paragraph (d)(1) of this section. Because FP2 is 
subjecting the silicon chips to manufacture, assembly, or other 
processing within the United States, the revenue from royalties FP 
pays to DC does not qualify as foreign use based on the location of 
FP2's manufacturing and therefore does not qualify as a FDDEI sale. 
As a result, none of the $300x of annual royalties paid by FP to DC 
during the taxable year is included in DC's gross FDDEI for the 
taxable year.
    (12) Example 12: License of intangible property used to provide 
a service--(i) Facts. DC licenses to FP worldwide rights to the 
copyrights on movies in exchange for an annual royalty of $100x. FP 
also licenses copyrights on movies from persons other than DC. FP 
provides a streaming service that meets the definition of an 
electronically supplied service in Sec.  1.250(b)-5(c)(5) to its 
customers within the United States and foreign countries. FP's 
streaming service provides its customers a catalog of movies to 
choose to stream. These movies include the copyrighted movies FP 
licenses from DC. FP does not provide DC with data showing how much 
revenue FP earned from streaming services during the taxable year, 
even after DC requests that FP provide it with such information. DC 
also is unable to determine how much revenue FP earned from 
streaming services to customers within the United States from the 
data it has with respect to FP and publicly available data with 
respect to FP. However, DC's economic analysis of the revenue DC 
expected it could earn annually from use of the copyrights as part 
of determining the annual payments DC would receive from FP from the 
license of the copyrights supports a determination that $10,000x of 
revenue would be earned during the taxable year from customers 
worldwide, and that 40 percent of that revenue would be earned from 
customers located outside the United States. During an examination 
of DC's return for the taxable year, DC provides the IRS with data 
explaining the economic analysis, inputs, and results from its 
valuation of the copyrights used in determining the amount of annual 
payments agreed to by DC and FP.
    (ii) Analysis. Under paragraph (d)(2)(ii)(B) of this section, 
FP's customers are the end users of the copyrights FP licenses from 
DC because FP uses those copyrights to provide the general service 
to FP's customers. Under paragraph (d)(2)(ii)(B) of this section, 
revenue from royalties paid for the copyrights is earned from end 
users outside the United States to the extent the service qualifies 
as a FDDEI service under Sec.  1.250(b)-5. DC is allowed to use 
reliable economic analysis to estimate revenue earned by FP from 
streaming the licensed movies under paragraph (d)(2)(iii)(A) of this 
section because DC was unable to obtain actual revenue earned by FP 
from use of the copyrights during the taxable year after reasonable 
efforts to obtain the actual revenue data. Based on DC's reliable 
economic analysis, $40x of the annual royalty payment to DC (0.40 x 
$100x total annual royalty payment) is included in DC's gross FDDEI 
for the taxable year.
    (13) Example 13: License of intangible property used to in 
research and development of other intangible property--(i) Facts. DC 
owns a patent (``patent A'') for an active pharmaceutical ingredient 
(``API'') approved for treatment of disease A in the United States 
and in foreign countries. DC licenses to FP worldwide rights to 
patent A for an annual royalty of $100x. FP uses patent A in 
research and development of a new API for treatment of disease B. 
Patent A does not consist of a manufacturing method or process (as 
defined in paragraph (d)(2)(ii)(C)(3) of this section). FP's 
research and development is successful, resulting in FP obtaining 
both a patent for the new API for treatment of disease B and 
approval for use in the United States and foreign countries. FP does 
not earn any revenue from

[[Page 43102]]

sales of finished pharmaceutical products containing the API during 
years 1 through 4 of the license of patent A. In year 5 of the 
license of patent A, FP earns $800x of revenue from sales of 
finished pharmaceutical products containing the API to customers 
located within the United States and $200x of revenue from sales to 
customers located in foreign countries.
    (ii) Analysis. FP is not the end user (as defined in Sec.  
1.250(b)-3(b)(2) and paragraph (d)(2)(ii)(D) of this section) of 
patent A because FP is not the end user described in paragraph 
(d)(2)(ii)(A) of this section of the product in which the API that 
was developed from patent A is embedded. The unrelated party 
customers that purchase the finished pharmaceutical product from FP 
are the end users (as defined in Sec.  1.250(b)-3(b)(2) and 
paragraph (d)(2)(ii)(D) of this section) because those customers are 
the end users described in paragraph (d)(2)(ii)(A) of this section 
of the pharmaceutical product in which the newly developed patent is 
embedded. During the taxable years that include years 1 through 4 of 
the license of patent A, FP earns no revenue from sales of the API 
to a foreign person for a foreign use. Under paragraph (d)(2)(ii)(D) 
of this section, none of the $100x annual royalty payments to DC for 
each of the tax years that include years 1 through 4 of the license 
of patent A is included in DC's gross FDDEI. Based on FP's sales of 
the API during the tax year that includes year 5 of the license of 
patent A, $20x of the annual royalty payment to DC ($200x of revenue 
from sales of API to customers located outside the United States 
divided by $1,000x total worldwide revenue earned from sales of the 
API) x $100x annual royalty) is included in DC's gross FDDEI for the 
taxable year.

    (3) Foreign use substantiation for certain sales of property--(i) 
In general. Except as provided in Sec.  1.250(b)-3(f)(3) (relating to 
certain loss transactions), a sale of property described in paragraphs 
(d)(1)(ii)(C) of this section (foreign use for sale of general property 
for resale), (d)(1)(iii) of this section (foreign use for sale of 
general property subject to manufacturing, assembly, or processing 
outside the United States), or (d)(2) of this section (foreign use for 
sale of intangible property) is a FDDEI transaction only if the 
taxpayer satisfies the substantiation requirements described in 
paragraphs (d)(3)(ii), (iii), or (iv) of this section, as applicable.
    (ii) Substantiation of foreign use for resale. A seller satisfies 
the substantiation requirements with respect to a sale of property 
described in paragraph (d)(1)(ii)(C) of this section (sales of general 
property for resale) only if the seller maintains one or more of the 
following items--
    (A) A binding contract that specifically limits subsequent sales to 
sales outside the United States;
    (B) Proof that property is specifically designed, labeled, or 
adapted for a foreign market;
    (C) Proof that the cost of shipping the property back to the United 
States relative to the value of the property makes it impractical that 
the property will be resold in the United States;
    (D) Credible evidence obtained or created in the ordinary course of 
business from the recipient evidencing that property will be sold to an 
end user outside the United States (or, in the case of sales of 
fungible mass property, stating what portion of the property will be 
sold to end users outside the United States); or
    (E) A written statement prepared by the seller containing the 
information described in paragraphs (d)(3)(ii)(E)(1) through (7) of 
this section corroborated by evidence that is credible and sufficient 
to support the information provided.
    (1) The name and address of the recipient;
    (2) The date or dates the property was shipped or delivered to the 
recipient;
    (3) The amount of gross income from the sale;
    (4) A full description of the property subject to resale;
    (5) A description of the method of sales to the end users, such as 
direct sales by the recipient or sales by the recipient to retail 
stores;
    (6) If known, a description of the end users; and
    (7) A description of how the seller determined that property will 
be ultimately sold to an end user outside the United States (or, in the 
case of sales of fungible mass property, of how the taxpayer determined 
what portion of the property that will ultimately be sold to end users 
outside the United States).
    (iii) Substantiation of foreign use for manufacturing, assembly, or 
other processing outside the United States. A seller satisfies the 
substantiation requirements with respect to a sale of property 
described in paragraph (d)(1)(iii) of this section (sales of general 
property subject to manufacturing, assembly, or other processing 
outside the United States) if the seller maintains one or more of the 
following items--
    (A) Credible evidence that the property has been sold to a foreign 
unrelated party that is a manufacturer and such property generally 
cannot be sold to end users without being subject to a physical and 
material change (for example, the sale of raw materials that cannot be 
used except in a manufacturing process);
    (B) Credible evidence obtained or created in the ordinary course of 
business from the recipient to support that the product purchased will 
be subject to manufacture, assembly, or other processing outside the 
United States within the meaning of paragraph (d)(1)(iii) of this 
section; or
    (C) A written statement prepared by the seller containing the 
information described in paragraphs (d)(3)(iii)(C)(1) through (7) of 
this section corroborated by evidence that is credible and sufficient 
to support the information provided.
    (1) The name and address of the manufacturer of the property;
    (2) The date or dates the property was shipped or delivered to the 
recipient;
    (3) The amount of gross income from the sale;
    (4) A full description of the general property sold and the type or 
types of finished goods that will incorporate the general property the 
taxpayer sold;
    (5) A description of the manufacturing, assembly, or other 
processing operations, including the location or locations of 
manufacture, assembly, or other processing; how the general property 
will be used in the finished good; and the nature of the finished 
good's manufacturing, assembly, or other processing operations as 
compared to the process used to make the general property used to make 
the finished good;
    (6) A description of how the seller determined the general property 
was substantially transformed or the activities were substantial in 
nature within the meaning of paragraph (d)(1)(iii)(B) or (C) of this 
section, whichever the case may be; and,
    (7) If the seller is relying on the rule described in paragraph 
(d)(1)(iii)(C) of this section (that the fair market value of the 
general property be no more than twenty percent of the fair market 
value when incorporated into the finished goods sold to end users), an 
explanation of how the seller satisfies the requirements in that 
paragraph.
    (iv) Substantiation of foreign use of intangible property. A 
taxpayer satisfies the substantiation requirements with respect to a 
sale of property described in paragraph (d)(2) of this section (foreign 
use for intangible property) if the seller maintains one or more of the 
following items--
    (A) A binding contract that specifically provides that the 
intangible property can be exploited solely outside the United States;
    (B) Credible evidence obtained or created in the ordinary course of 
business from the recipient establishing the portion of its revenue for 
a taxable year that was derived from exploiting the intangible property 
outside the United States; or
    (C) A written statement prepared by the seller containing the 
information described in paragraphs (d)(3)(iv)(C)(1)

[[Page 43103]]

through (9) of this section corroborated by evidence that is credible 
and sufficient to support the information provided.
    (1) The name and address of the recipient;
    (2) The date of the sale;
    (3) The amount of gross income from the sale;
    (4) A description of the intangible property;
    (5) An explanation of how the intangible property will be used by 
the recipient (embedded in general property, used to provide a service, 
used as a manufacturing method or process, or used in research and 
development);
    (6) An explanation of how the seller determined what portion of the 
sale is a FDDEI sale;
    (7) If the intangible property consists of a manufacturing method 
or process, an explanation of how the elements of paragraph 
(d)(2)(ii)(C) of this section are satisfied;
    (8) If the sale is for periodic payments, an explanation of how the 
seller determined the extent of foreign use based on the actual revenue 
earned by the recipient from the use of the intangible property for the 
taxable year in which a periodic payment is received as required by 
paragraph (d)(2)(iii)(A) of this section, or, if actual revenue cannot 
be obtained after reasonable efforts, an explanation of why actual 
revenue is unavailable and how the seller determined the extent of 
foreign use based on estimated revenue; and
    (9) If the sale is for a lump sum, an explanation of how the seller 
determined the total net present value of revenue it expected to earn 
from the exploitation of the intangible property outside the United 
States and the total net present value of revenue it expected to earn 
from the exploitation of the intangible property as required by 
paragraph (d)(2)(iii)(B) of this section.
    (v) Examples. The following examples illustrate the application of 
this paragraph (d)(3).
    (A) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (1) DC is a domestic corporation.
    (2) FP is a foreign person located within Country A that is a 
foreign unrelated party with respect to DC.
    (3) All of DC's income is DEI.
    (4) Except as otherwise provided, the substantive rule for foreign 
use as described in paragraphs (d)(1) and (2) of this section are 
satisfied.
    (B) Examples--

    (1) Example 1: Substantiation by seller of sale of products to 
distributor outside the United States with taxpayer statement and 
corroborating evidence--(i) Facts. DC sells smartphones to FP, a 
distributor of electronics that sells property to end users. As part 
of their regular business process and pursuant to DC's terms and 
conditions of sales, DC issues commercial invoices to FP that 
contain a condition that any subsequent sales must be to end users 
outside the United States. At or near the time of the FDII filing 
date, DC prepares a statement containing the information required in 
paragraph (d)(3)(ii)(E) of this section. During an examination of 
DC's return for the taxable year, the IRS requests substantiation 
information of foreign use. DC submits the commercial invoices 
issued to FP as supporting information that FP's customers are end 
users outside the United States and all other corroborating evidence 
to the IRS.
    (ii) Analysis. DC's sale to FP is a sale of general property for 
resale subject to the substantiation requirements of paragraph 
(d)(3)(ii) of this section. DC satisfies the substantiation 
requirement by providing the statement that satisfies the 
requirements of paragraph (d)(3)(ii)(E) of this section. The 
commercial invoices issued pursuant to the terms and conditions of 
sales sufficiently corroborate DC's statement that the smartphones 
will ultimately be sold to end users outside of the United States.
    (2) Example 2: Substantiation of sale of products to distributor 
outside the United States with recipient provided information--(i) 
Facts. DC sells cameras to FP, a distributor of electronics that 
sells property to end users outside the United States. FP issues 
sales invoices to its end users. The invoices contain detailed 
information about the nature of the subsequent sales of the cameras 
and the location of the end users for value added tax (VAT) 
purposes. DC is able to obtain copies of FP's VAT invoices with 
respect to the camera sales that were maintained and submitted 
pursuant to Country A law. Rather than prepare a statement described 
in paragraph (d)(3)(ii)(E) of this section, DC submits FP's invoices 
to the IRS as substantiation of foreign use.
    (ii) Analysis. DC's sale to FP is a sale of general property for 
resale subject to the substantiation requirements of paragraph 
(d)(3)(ii) of this section. DC satisfies the substantiation 
requirements by providing the invoices that satisfy the requirements 
of paragraph (d)(3)(ii)(D) of this section. The VAT invoices issued 
by FP pursuant to Country A law constitute credible evidence from FP 
that ultimate sales are to end users located outside the United 
States.

    (e) Sales of interests in a disregarded entity. Under Federal 
income tax principles, the sale of any interest in an entity that is 
disregarded for Federal income tax purposes is considered the sale of 
the assets of that entity, and this section applies to the sale of each 
such asset that is general property or intangible property for purposes 
of determining whether such sale qualifies as a FDDEI sale.
    (f) FDDEI sales hedging transactions--(1) In general. The amount of 
a corporation's or partnership's gross FDDEI from FDDEI sales of 
general property in a taxable year is increased by any gain, or 
decreased by any loss, taken into account in that taxable year with 
respect to any FDDEI sales hedging transactions (determined by taking 
into account the applicable Federal income tax accounting rules, 
including Sec.  1.446-4).
    (2) FDDEI sales hedging transaction--The term FDDEI sales hedging 
transaction means a transaction that meets the requirements of Sec.  
1.1221-2(a) through (e) and that is identified in accordance with the 
requirements of Sec.  1.1221-2(f), except that the transaction must 
manage risk of price changes or currency fluctuations with respect to 
ordinary property, as provided in Sec.  1.1221-2(b)(1), and the 
ordinary property whose price risk is being hedged must be general 
property that is sold in a FDDEI sale.


Sec.  1.250(b)-5  Foreign-derived deduction eligible income (FDDEI) 
services.

    (a) Scope. This section provides rules for determining whether a 
provision of a service is a FDDEI service. Paragraph (b) of this 
section defines a FDDEI service. Paragraph (c) of this section provides 
definitions relevant for determining whether a provision of a service 
is a FDDEI service. Paragraph (d) of this section provides rules for 
determining whether a general service is provided to a consumer located 
outside the United States. Paragraph (e) of this section provides rules 
for determining whether a general service is provided to a business 
recipient located outside the United States. Paragraph (f) of this 
section provides rules for determining whether a proximate service is 
provided to a recipient located outside the United States. Paragraph 
(g) of this section provides rules for determining whether a service is 
provided with respect to property located outside the United States. 
Paragraph (h) of this section provides rules for determining whether a 
transportation service is provided to a recipient, or with respect to 
property, located outside the United States.
    (b) Definition of FDDEI service. Except as provided in Sec.  
1.250(b)-6(d), the term FDDEI service means a provision of a service 
described in any one of paragraphs (b)(1) through (5) of this section. 
If only a portion of a service is treated as provided to a person, or 
with respect to property, outside the United States, the provision of 
the service is a FDDEI service only to the extent of the gross income 
derived with respect to such portion.
    (1) The provision of a general service to a consumer located 
outside the United States (as determined under paragraph (d) of this 
section).

[[Page 43104]]

    (2) The provision of a general service to a business recipient 
located outside the United States (as determined under paragraph (e) of 
this section).
    (3) The provision of a proximate service to a recipient located 
outside the United States (as determined under paragraph (f) of this 
section).
    (4) The provision of a property service with respect to tangible 
property located outside the United States (as determined under 
paragraph (g) of this section).
    (5) The provision of a transportation service to a recipient, or 
with respect to property, located outside the United States (as 
determined under paragraph (h) of this section).
    (c) Definitions. This paragraph (c) provides definitions that apply 
for purposes of this section and Sec.  1.250(b)-6.
    (1) Advertising service. The term advertising service means a 
general service that consists primarily of transmitting or displaying 
content (including via the internet) to consumers with a purpose to 
generate revenue based on the promotion of a product or service.
    (2) Benefit. The term benefit has the meaning set forth in Sec.  
1.482-9(l)(3).
    (3) Business recipient. The term business recipient means a 
recipient other than a consumer and includes all related parties of the 
recipient. However, if the recipient is a related party of the 
taxpayer, the term does not include the taxpayer.
    (4) Consumer. The term consumer means a recipient that is an 
individual that purchases a general service for personal use.
    (5) Electronically supplied service. The term electronically 
supplied service means, with respect to a general service other than an 
advertising service, a service that is delivered primarily over the 
internet or an electronic network. Electronically supplied services 
include the provision of access to digitized products (such as 
streaming content without downloading the content); on-demand network 
access to computing resources, such as networks, servers, storage, and 
software; the provision or support of a business or personal presence 
on a network (such as a website or a web page); services automatically 
generated from a computer via the internet or other network in response 
to data input by the recipient; the provision of information 
electronically; and similar services.
    (6) General service. The term general service means any service 
other than a property service, proximate service, or transportation 
service. The term general service includes advertising services and 
electronically supplied services.
    (7) Property service. The term property service means a service, 
other than a transportation service, provided with respect to tangible 
property, but only if substantially all of the service is performed at 
the location of the property and results in physical manipulation of 
the property such as through manufacturing, assembly, maintenance, or 
repair. Substantially all of a service is performed at the location of 
property only if the renderer spends more than 80 percent of the time 
providing the service at or near the location of the property.
    (8) Proximate service. The term proximate service means a service, 
other than a property service or a transportation service, provided to 
a consumer or business recipient, but only if substantially all of the 
service is performed in the physical presence of the consumer or, in 
the case of a business recipient, substantially all of the service is 
performed in the physical presence of persons working for the business 
recipient such as employees, contractors, or agents. Substantially all 
of a service is performed in the physical presence of a consumer or 
persons working for a business recipient only if the renderer spends 
more than 80 percent of the time providing the service in the physical 
presence of such persons.
    (9) Transportation service. The term transportation service means a 
service to transport a person or property using aircraft, railroad 
rolling stock, vessel, motor vehicle, or any other mode of 
transportation. Transportation services include freight forwarding and 
similar services.
    (d) General services provided to consumers--(1) In general. A 
general service is provided to a consumer located outside the United 
States if the consumer of a general service resides outside of the 
United States when the service is provided. Except as provided in 
paragraph (d)(2) of this section, if the renderer does not have or 
cannot after reasonable efforts obtain the consumer's location of 
residence when the service is provided, the consumer of a general 
service is treated as residing at the location of the consumer's 
billing address. However, the rule in the preceding sentence allowing 
for the use of a consumer's billing address does not apply if the 
renderer knows or has reason to know that the consumer does not reside 
outside the United States. A renderer has reason to know that the 
consumer does not reside outside the United States if the information 
received as part of the provision of the service indicates that the 
consumer resides in the United States and the renderer fails to obtain 
evidence establishing that the consumer resides outside the United 
States.
    (2) Electronically supplied services. The consumer of an 
electronically supplied service is deemed to reside at the location of 
the device used to receive the service. Such location may be determined 
based on the location of the IP address when the electronically 
supplied service is provided. However, if the renderer does not have or 
cannot after reasonable efforts obtain the consumer's device location, 
then the location of the device is treated as being outside the United 
States if the renderer's billing address for the consumer is outside of 
the United States, subject to the knowledge and reason to know 
standards described in paragraph (d)(1) of this section.
    (3) Example. The following example illustrates the application of 
paragraph (d) of this section.

    (i) Facts. DC, a domestic corporation, provides a streaming 
movie service on its website. The terms of the service allow 
consumers to watch movies over the internet. The terms of the 
service permit the consumer to view the movies for personal use, but 
convey no ownership of movies to the consumers.
    (ii) Analysis. The streaming service is a FDDEI service under 
paragraph (d)(1) of this section to the extent that the service is 
provided to consumers that reside outside the United States. The 
service that DC provides is a general service, provided to consumers 
that is an electronically supplied service under paragraph (c)(5) of 
this section. Therefore, the consumers are deemed to reside at the 
location of the devices used to receive the service under paragraph 
(d)(2) of this section. However, if the renderer cannot reasonably 
obtain the consumers' device location (such as IP addresses), the 
device location is treated as being outside the United States if 
their billing addresses are outside the United States. See Sec.  
1.250(b)-4(d)(1)(v)(B)(7) for an example of digital content provided 
to consumers as a sale rather than a service.

    (e) General services provided to business recipients--(1) In 
general. A general service is provided to a business recipient located 
outside the United States to the extent that the service confers a 
benefit on the business recipient's operations outside the United 
States under the rules in paragraph (e)(2) of this section. The 
location of residence, incorporation, or formation of a business 
recipient is not relevant to determining the location of the business 
recipient's operations that benefit from a general service.
    (2) Determination of business operations that benefit from the 
service--(i) In general. Except as otherwise provided in paragraph 
(e)(2)(ii) and (iii) of this section, the

[[Page 43105]]

determination of which operations of the business recipient located 
outside the United States benefit from a general service, and the 
extent to which such operations benefit, is made under the principles 
of Sec.  1.482-9 by treating the taxpayer as one controlled taxpayer, 
the portions of the business recipient's operations within the United 
States (if any) that may benefit from the general service as one or 
more controlled taxpayers, and the portions of the business recipient's 
operations outside the United States (if any) that may benefit from the 
general service, each as one or more controlled taxpayers. The extent 
to which a business recipient's operations within or outside of the 
United States are treated as one or more separate controlled taxpayers 
is determined under any reasonable method (for example, separate 
controlled taxpayers may be determined on a per entity or per country 
basis, or by aggregating all of the business recipient's operations 
outside the United States as one controlled taxpayer). The 
determination of the amount of the benefit conferred on the business 
recipient's operations that are treated as controlled taxpayers is 
determined under a reasonable method consistent with the principles of 
Sec.  1.482-9(k), treating the renderer's gross income from the 
services provided to the business recipient as if it were a ``cost'' as 
that term is used in Sec.  1.482-9(k). Reasonable methods may include, 
for example, allocations based on time spent or costs incurred by the 
renderer or sales, profits, or assets of the business recipient. The 
determination is made when the service is provided based on information 
obtained from the business recipient or on the renderer's own records 
(such as time spent working with the business recipient's offices 
located outside the United States).
    (ii) Advertising services. With respect to advertising services, 
the operations of the business recipient that benefit from the 
advertising service provided by the renderer are deemed to be located 
where the advertisements are viewed by individuals. If advertising 
services are displayed via the internet, the advertising services are 
viewed at the location of the device on which the advertisements are 
viewed. For this purpose, the IP address may be used to establish the 
location of a device on which an advertisement is viewed.
    (iii) Electronically supplied services. With respect to an 
electronically supplied service, the operations of the business 
recipient that benefit from that service provided by the renderer are 
deemed to be located where the business recipient (including employees, 
contractors, or agents) accesses the service. If it cannot be 
determined whether the location is within or outside the United States 
(such as where the location of access cannot be reliably determined 
using the location of the IP address of the device used to receive the 
service), and the gross receipts from all services with respect to the 
business recipient are in the aggregate less than $50,000 for the 
renderer's taxable year, the operations of the business recipient that 
benefit from the service provided by the renderer are deemed to be 
located at the recipient's billing address; otherwise, the operations 
of the business recipient that benefit is deemed to be located in the 
United States. If the renderer provides a service that is partially an 
electronically supplied service and partially a general service that is 
not an electronically supplied service (such as a service that is 
performed partially online and partially by mail or in person), the 
location of the business recipient is determined using the rule for 
electronically supplied services in this paragraph (e)(2)(iii) if the 
primary purpose of the service is to provide electronically supplied 
services; otherwise, the rule for general services described in 
paragraph (e)(2)(i) of this section applies.
    (3) Identification of business recipient's operations--(i) In 
general. For purposes of this paragraph (e), except with respect to 
advertising services and electronically supplied services, a business 
recipient is treated as having operations where it maintains an office 
or other fixed place of business. In general, an office or other fixed 
place of business is a fixed facility, that is, a place, site, 
structure, or other similar facility, through which the business 
recipient engages in a trade or business. For purposes of making the 
determination in this paragraph (e)(3)(i), the renderer may make 
reliable assumptions based on the information available to it.
    (ii) Advertising services and electronically supplied services. The 
location of a business recipient that receives advertising services or 
electronically supplied services will be determined under the rules of 
paragraph (e)(2)(ii) and (iii) of this section, respectively, even if 
the business recipient does not maintain an office or other fixed place 
of business in the locations where the advertisements are viewed (in 
the case of advertising services) or where the general service is 
accessed (in the case of electronically supplied services).
    (iii) No office or fixed place of business. In the case of general 
services other than advertising services and other than electronically 
supplied services, if the business recipient does not have an 
identifiable office or fixed place of business (including the office of 
a principal manager or managing owner), the business recipient is 
deemed to be located at its primary billing address.
    (4) Substantiation of the location of a business recipient's 
operations outside the United States. Except as provided in Sec.  
1.250(b)-3(f)(3) (relating to certain loss transactions), a general 
service provided to a business recipient is treated as a FDDEI service 
only if the renderer substantiates its determination of the extent to 
which the service benefits a business recipient's operations outside 
the United States. A renderer satisfies the preceding sentence if the 
renderer maintains one or more of the following items--
    (i) Credible evidence obtained or created in the ordinary course of 
business from the business recipient establishing the extent to which 
operations of the business recipient outside the United States benefit 
from the service; or
    (ii) A written statement prepared by the renderer containing the 
information described in paragraphs (e)(4)(ii)(A) through (F) of this 
section corroborated by evidence that is credible and sufficient to 
support the information provided.
    (A) The name of the business recipient;
    (B) The date or dates of the service;
    (C) The amount of gross income from the service;
    (D) A full description of the service;
    (E) A description of how the service will benefit the business 
recipient; and
    (F) An explanation of how the renderer determined what portion of 
the service will benefit the business recipient's operations located 
outside the United States.
    (5) Examples. The following examples illustrate the application of 
this paragraph (e).
    (i) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (A) DC is a domestic corporation.
    (B) A and R are not related parties of DC.
    (C) Except as otherwise provided, the substantiation requirements 
described in paragraph (e)(4) of this section are satisfied.
    (ii) Examples--

    (A) Example 1: Determination of business operations that benefit 
from the service--(1) Facts. For the taxable year, DC provides a 
consulting service to R, a company that operates restaurants within 
and outside of

[[Page 43106]]

the United States, in exchange for $150x. Fifty percent of the sales 
earned by R and its related parties are from customers located 
outside of the United States. However, the consulting service that 
DC provides relates specifically to a single chain of fast food 
restaurants that R operates. Sales information that R provides to DC 
indicates that 70 percent of the sales of the fast food restaurant 
chain are from locations within the United States and 30 percent of 
the sales are from Country X. DC determines that the use of sales is 
a reasonable method under the principles of Sec.  1.482-9(k) to 
allocate the benefit of the consulting service among R's fast food 
operations.
    (2) Analysis. Under paragraph (e)(1) of this section, DC's 
service is provided to a person located outside the United States to 
the extent that DC's service confers a benefit to R's operations 
outside the United States. Under paragraph (e)(2)(i) of this 
section, DC, R's fast food operations within the United States, and 
R's fast food operations in Country X, are treated as if they were 
controlled taxpayers because only these operations may benefit from 
DC's service. The principles of Sec.  1.482-9(k) apply to determine 
the amount of DC's service that benefits R's operations outside the 
United States. DC's gross income is allocated based on the sales of 
the fast food chain of restaurants that benefits from DC's service 
because using sales is a reasonable method. Therefore, 30 percent of 
the provision of the consulting service is treated as the provision 
of a service to a person located outside the United States and a 
FDDEI service under paragraph (b)(2) of this section. Accordingly, 
$45x ($150x x 0.30) of DC's gross income from the provision of the 
consulting service is included in DC's gross FDDEI for the taxable 
year.
    (B) Example 2: Determination of business operations that benefit 
from the service; alternative facts--(1) Facts. The facts are the 
same as in paragraph (e)(5)(ii)(A)(1) of this section (the facts in 
Example 1), except that DC provides an information technology 
service to R that benefits R's entire business. DC determines that 
the use of sales is a reasonable method under the principles of 
Sec.  1.482-9(k) to allocate the benefit of the information 
technology service among R's entire business.
    (2) Analysis. DC, R's operations within the United States, and 
R's operations in Country X, are treated as if they were controlled 
taxpayers because the service that DC provides relates to R's entire 
business. DC's gross income is allocated based on sales of the 
entire business because using sales is a reasonable method to 
determine the amount of DC's service that benefits R's operations 
outside the United States under the principles of Sec.  1.482-9(k). 
Therefore, 50 percent of the provision of the information technology 
service is treated as a service to a person located outside the 
United States and a FDDEI service under paragraph (b)(2) of this 
section. Accordingly, $75x ($150x x 0.50) of DC's gross income from 
the provision of the information technology service is included in 
DC's gross FDDEI for the taxable year.
    (C) Example 3: Advertising services--(1) Facts. The facts are 
the same as in paragraph (e)(5)(ii)(A)(1) of this section (the facts 
in Example 1), except that DC provides an advertising service to R. 
DC displays advertisements for R's restaurant chain on its social 
media website and smartphone application. Based on the IP addresses 
of the devices on which the advertisements are viewed, 20 percent of 
the views of the advertisements were from devices located outside 
the United States.
    (2) Analysis. Because the service that DC provides is an 
advertising service, under paragraph (e)(2)(i) of this section, as 
modified by paragraph (e)(2)(ii) of this section, R's operations 
that benefit from DC's advertising service are deemed to be where 
the advertisements are viewed. Therefore, 20 percent of the 
provision of the advertising service is treated as a service to a 
person located outside the United States and a FDDEI service under 
paragraph (b)(2) of this section. Accordingly, $30x ($150x x 0.20) 
of DC's gross income from the provision of the advertising service 
is included in DC's gross FDDEI for the taxable year.
    (D) Example 4: No reliable information about which operations 
benefit from the service or publicly available information--(1) 
Facts. For the taxable year, DC provides a consulting service to R, 
a business-facing company that does not advertise its business. All 
of DC's interaction with R is through R's employees that report to 
an office in the United States. Statements made by R's employees 
indicate that the service will benefit R's business operations 
located within and outside the United States, but do not provide 
information that would allow DC to reliably determine the extent to 
which its service will confer a benefit on R's business operations 
located outside the United States.
    (2) Analysis. DC is unable to determine the extent to which its 
service will confer a benefit on R's business operations located 
outside the United States under paragraph (e)(2)(i) of this section. 
Accordingly, DC cannot substantiate a determination of the extent to 
which the service benefits a business recipient's operations outside 
the United States under paragraph (e)(4) of this section. Therefore, 
no portion of DC's service is a FDDEI service.
    (E) Example 5: Electronically supplied services that are 
accessed by the business recipient's employees--(1) Facts. DC 
provides payroll services for R. As part of this service, DC 
maintains a website through which R can enter payroll information 
for its employees and through which R's employees can enter and 
change their personal information. DC also causes R's employees' 
paychecks to be directly deposited into their bank accounts and pays 
R's employment taxes on R's behalf. The primary purpose of the 
service is to pay R's employees. R has 100 user accounts that access 
DC's website. Sixty of the user accounts that access DC's website 
access the website from devices that are located outside the United 
States and forty of the user accounts access the website from 
devices that are located inside the United States.
    (2) Analysis. Under paragraph (e)(1) of this section, DC's 
service is provided to a person located outside the United States to 
the extent that DC's service confers a benefit to R's operations 
outside the United States. The service that DC provides to R is an 
electronically supplied service under paragraph (c)(5) of this 
section. Accordingly, under paragraph (e)(2)(i) of this section, as 
modified by paragraph (e)(2)(iii) of this section, R's operations 
that benefit from DC's services are deemed to be located where R 
accesses the service, which is where R's employees access the 
website. See paragraph (e)(2)(iii) of this section. Accordingly, the 
portion of the payroll service that is treated as a service to a 
person located outside the United States and a FDDEI service under 
paragraph (b)(2) of this section is determined based on the extent 
to which the locations where R accesses the website are located 
outside the United States. Because 60 percent (60/100) of user 
accounts access DC's website from locations outside the United 
States, 60 percent of the provision of the payroll service is 
treated as a service to a person located outside the United States 
and a FDDEI service under paragraph (b)(2) of this section.
    (F) Example 6: Electronically supplied services that are 
accessed by the business recipient's customers--(1) Facts. DC 
maintains a website for R, a company that sells consumer goods 
online. R's offices are in the United States, but R sells its 
products to customers both within and outside the United States. 
Based on the IP addresses of the devices on which the website is 
accessed, 30 percent of the devices that accessed the website during 
the taxable year were located outside the United States.
    (2) Analysis. Under paragraph (e)(1) of this section, DC's 
service is provided to a person located outside the United States to 
the extent that DC's service confers a benefit to R's operations 
outside the United States. The service that DC provides to R is an 
electronically supplied service under paragraph (c)(5) of this 
section. Accordingly, under paragraph (e)(2)(i) of this section, as 
modified by paragraph (e)(2)(iii) of this section, R's operations 
that benefit from DC's services are deemed to be located where the 
service is accessed, which is where R's website is accessed in this 
example. Therefore, 30 percent of the provision of the website 
maintenance service is treated as a service to a person located 
outside the United States and a FDDEI service under paragraph (b)(2) 
of this section.
    (G) Example 7: Service provided to a domestic person--(1) Facts. 
A, a domestic corporation that operates solely in the United States, 
enters into a services agreement with R, a company that operates 
solely outside the United States. Under the agreement, A agrees to 
perform a consulting service for R. A hires DC to provide a service 
to A that A will use in the provision of a consulting service to R.
    (2) Analysis. Because DC provides a service to A, a person 
located within the United States, DC's provision of the service to A 
is not a FDDEI service under paragraph (b)(2) of this section, even 
though the service is used by A in providing a service to R, a 
person located outside the United States. See also section 
250(b)(5)(B)(ii). However, A's provision of the consulting service 
to R may be a FDDEI service, in which case A's gross income from the 
provision of such service would be included in A's gross FDDEI.


[[Page 43107]]


    (f) Proximate services. A proximate service is provided to a 
recipient located outside the United States if the proximate service is 
performed outside the United States. In the case of a proximate service 
performed partly within the United States and partly outside of the 
United States, a proportionate amount of the service is treated as 
provided to a recipient located outside the United States corresponding 
to the portion of time the renderer spends providing the service 
outside of the United States.
    (g) Property services--(1) In general. Except as provided in 
paragraph (g)(2) of this section, a property service is provided with 
respect to tangible property located outside the United States only if 
the property is located outside the United States for the duration of 
the period the service is performed.
    (2) Exception for services provided with respect to property 
temporarily in the United States. A property service is deemed to be 
provided with respect to tangible property located outside the United 
States if the following conditions are satisfied--
    (i) The property is temporarily in the United States for the 
purpose of receiving the property service;
    (ii) After the completion of the service, the property will be 
primarily hangared, stored, or used outside the United States;
    (iii) The property is not used to generate revenue in the United 
States at any point during the duration of the service; and
    (iv) The property is owned by a foreign person that resides or 
primarily operates outside the United States.
    (h) Transportation services. Except as provided in this paragraph 
(h), a transportation service is provided to a recipient, or with 
respect to property, located outside the United States only if both the 
origin and the destination of the service are outside of the United 
States. However, in the case of a transportation service provided to a 
recipient, or with respect to property, where either the origin or the 
destination of the service is outside of the United States, but not 
both, then 50 percent of the gross income from the transportation 
service is considered derived from services provided to a recipient, or 
with respect to property, located outside the United States.


Sec.  1.250(b)-6   Related party transactions.

    (a) Scope. This section provides rules for determining whether a 
sale of property or a provision of a service to a related party is a 
FDDEI transaction. Paragraph (b) of this section provides definitions 
relevant for determining whether a sale of property or a provision of a 
service to a related party is a FDDEI transaction. Paragraph (c) of 
this section provides rules for determining whether a sale of general 
property to a foreign related party is a FDDEI sale. Paragraph (d) of 
this section provides rules for determining whether the provision of a 
general service to a business recipient that is a related party is a 
FDDEI service.
    (b) Definitions. This paragraph (b) provides definitions that apply 
for purposes of this section.
    (1) Related party sale. The term related party sale means a sale of 
general property to a foreign related party. See Sec.  1.250(b)-
1(e)(3)(ii)(D) (Example 4) for an illustration of a related party sale 
in the case of a seller that is a partnership.
    (2) Related party service. The term related party service means a 
provision of a general service to a business recipient that is a 
related party of the renderer and that is described in Sec.  1.250(b)-
5(b)(2) without regard to paragraph (d) of this section.
    (3) Unrelated party transaction. The term unrelated party 
transaction means, with respect to property purchased by a foreign 
related party (the ``purchased property'') in a related party sale from 
a seller--
    (i) A sale of the purchased property by the foreign related party 
in the ordinary course of its business to a foreign unrelated party 
with respect to the seller;
    (ii) A sale of property by the foreign related party to a foreign 
unrelated party with respect to the seller, if the purchased property 
is a constituent part of the property sold to the foreign unrelated 
party;
    (iii) A sale of property by the foreign related party to a foreign 
unrelated party with respect to the seller, if the purchased property 
is not a constituent part of the product sold to the foreign unrelated 
party but rather is used in connection with producing the property sold 
to the foreign unrelated party; or
    (iv) A provision of a service by the foreign related party to a 
foreign unrelated party with respect to the seller, if the purchased 
property was used in connection with the provision of the service.
    (c) Related party sales--(1) In general. A related party sale of 
general property is a FDDEI sale only if the requirements described in 
either paragraph (c)(1)(i) or (ii) of this section are satisfied with 
respect to the related party sale. This paragraph (c) does not apply in 
determining whether a sale of intangible property to a foreign related 
party is a FDDEI sale.
    (i) Sale of property in an unrelated party transaction. A related 
party sale is a FDDEI sale if an unrelated party transaction described 
in paragraph (b)(3)(i) or (ii) of this section occurs with respect to 
the property purchased in the related party sale and such unrelated 
party transaction is described in Sec.  1.250(b)-4(b) (definition of 
FDDEI sale). The seller in the related party sale may establish that an 
unrelated party transaction will occur with respect to the property, or 
what portion of the property will be sold in an unrelated party 
transaction in the case of sale of a fungible mass of general property, 
based on contractual terms (including, for example, that the related 
party is contractually bound to only sell the product to foreign 
unrelated parties), past practices of the foreign related party (such 
as practices to only sell products to foreign unrelated parties), a 
showing that the product sold is designed specifically for a foreign 
market, or books and records otherwise evidencing that sales will be 
made to foreign unrelated parties.
    (ii) Use of property in an unrelated party transaction. A related 
party sale is a FDDEI sale if one or more unrelated party transactions 
described in paragraph (b)(3)(iii) or (iv) of this section occurs with 
respect to the property purchased in the related party sale and such 
unrelated party transaction or transactions would be described in Sec.  
1.250(b)-4(b) or Sec.  1.250(b)-5(b) (definition of FDDEI service). If 
the property purchased in the related party sale will be used in 
unrelated party transactions described in the preceding sentence and 
other transactions, the amount of gross income from the related party 
sale that is attributable to a FDDEI sale is equal to the gross income 
from the related party sale multiplied by a fraction, the numerator of 
which is the revenue that the related party reasonably expects (as of 
the FDII filing date) to earn from all unrelated party transactions 
with respect to the property purchased in the related party sale that 
would be described in Sec.  1.250(b)-4(b) or Sec.  1.250(b)-5(b) and 
the denominator of which is the total revenue that the related party 
reasonably expects (as of the FDII filing date) to earn from all 
transactions with respect to the property purchased in the related 
party sale.
    (2) Treatment of foreign related party as seller or renderer. For 
purposes of determining whether a sale of property or provision of a 
service by a foreign related party is, or would be, described in Sec.  
1.250(b)-4(b) or Sec.  1.250(b)-5(b), the foreign related party that 
sells the property or provides the service is

[[Page 43108]]

treated as a seller or renderer, as applicable, and the foreign 
unrelated party is treated as the recipient.
    (3) Transactions between related parties. For purposes of 
determining whether an unrelated party sale has occurred and satisfies 
the requirements of paragraphs (c)(1) or (2) of this section with 
respect to a sale to a foreign related party (and not for purposes of 
determining whether a sale is to a foreign person as required by Sec.  
1.250(b)-4(b)), all related parties of the seller are treated as if 
they are part of a single foreign related party. For purposes of the 
preceding sentence, in determining whether a United States person is a 
member of the seller's modified affiliated group, and therefore a 
related party of the seller, the definition of the term modified 
affiliated group in Sec.  1.250(b)-1(c)(17) applies without the 
substitution of ``more than 50 percent'' for ``at least 80 percent'' 
each place it appears. Accordingly, if a foreign related party sells or 
uses property purchased in a related party sale in a transaction with a 
second related party of the seller, transactions between the second 
related party and an unrelated party may be treated as an unrelated 
party transaction for purposes of applying paragraph (c)(1) of this 
section to a related party sale.
    (4) Example. The following example illustrates the application of 
this paragraph (c).

    (i) Facts. DC, a domestic corporation, sells a machine to FC, a 
foreign related party of DC in a transaction described in Sec.  
1.250(b)-4(b) (without regard to this paragraph (c)). FC uses the 
machine solely to manufacture product A. As of the FDII filing date 
for the taxable year, 75 percent of future revenue from sales by FC 
to unrelated parties of product A will be from sales that would be 
described in Sec.  1.250(b)-4(b).
    (ii) Analysis. The sale by DC to FC is a related party sale. 
Because FC uses the machine to make product A, but the machine is 
not a constituent part of product A because FC does not undertake 
further manufacturing with respect to the machine itself, FC's sale 
of product A is an unrelated party transaction described in 
paragraph (b)(3)(iii) of this section. Therefore, DC's sale of the 
machine is only a FDDEI sale if the requirements of paragraph 
(c)(1)(ii) of this section are satisfied. Because 75 percent of the 
revenue from future sales of product A will be from unrelated party 
transactions that would be described in Sec.  1.250(b)-4(b), 75 
percent of the revenues from DC's sale of the machine to FC 
constitute FDDEI sales.

    (d) Related party services--(1) In general. Except as provided in 
this paragraph (d)(1), a related party service is a FDDEI service only 
if the related party service is not substantially similar to a service 
that has been provided or will be provided by the related party to a 
person located within the United States. However, if a related party 
service is substantially similar to a service provided (in whole or in 
part) by the related party to a person located in the United States 
solely by reason of paragraph (d)(2)(ii) of this section, the amount of 
gross income from the related party service attributable to a FDDEI 
service is equal to the difference between the gross income from the 
related party service and the amount of the price paid by persons 
located within the United States that is attributable to the related 
party service. Section 250(b)(5)(C)(ii) and this paragraph (d)(1) apply 
only to a general service provided to a related party that is a 
business recipient and are not applicable with respect to any other 
service provided to a related party.
    (2) Substantially similar services. A related party service is 
substantially similar to a service provided by the related party to a 
person located within the United States only if the related party 
service is used by the related party in whole or part to provide a 
service to a person located within the United States and either--
    (i) 60 percent or more of the benefits conferred by the related 
party service are directly used by the related party to confer benefits 
on consumers or business recipients located within the United States; 
or
    (ii) 60 percent or more of the price paid by consumers or business 
recipients located within the United States for the service provided by 
the related party is attributable to the related party service.
    (3) Special rules. For purposes of paragraph (d) of this section, 
the rules in paragraphs (d)(3)(i) and (ii) of this section apply.
    (i) Rules for determining the location of and price paid by 
recipients of a service provided by a related party. The location of a 
consumer or business recipient with respect to services provided by the 
related party is determined under Sec.  1.250(b)-5(d) and (e)(2), 
respectively, but treating the related party as the renderer. 
Accordingly, if the related party provides a service to a business 
recipient, the related party is treated as conferring benefits on a 
person located within the United States to the extent that the service 
confers a benefit on the business recipient's operations located within 
the United States. Similarly, for purposes of applying paragraph 
(d)(2)(ii) of this section with respect to business recipients, the 
price paid by a business recipient to the related party for services is 
allocated proportionally based on the locations of the business 
recipient that benefit from the services provided by the related party.
    (ii) Rules for allocating the benefits provided by and price paid 
to the renderer of a related party service. For purposes of applying 
paragraph (d)(2)(i) of this section with respect to benefits that are 
directly used by the related party to confer benefits on its 
recipients, the benefits provided by the renderer to the related party 
are allocated to the related party's consumers or business recipients 
within the United States based on the proportion of benefits conferred 
by the related party on consumers or business recipients located within 
the United States. For purposes of determining the amount of the price 
paid by persons located within the United States that is attributable 
to the related party service in applying paragraph (d)(2)(ii) of this 
section, if the related party provides services that confer benefits on 
persons located within the United States and outside the United States, 
the price paid for the related party service by the related party to 
the renderer is allocated proportionally based on the benefits 
conferred on each location by the related party to its recipients.
    (4) Examples. The following examples illustrate the application of 
this paragraph (d).
    (i) Assumed facts. The following facts are assumed for purposes of 
the examples--
    (A) DC is a domestic corporation.
    (B) FC is a foreign corporation and a foreign related party of DC 
that operates solely outside the United States.
    (C) The service DC provides to FC is a general service provided to 
a business recipient located outside the United States as described in 
Sec.  1.250(b)-5(b)(2) without regard to the application of paragraph 
(d) of this section.
    (D) The benefits conferred by DC's service to FC's customers are 
not indirect or remote within the meaning of Sec.  1.482-9(l)(3)(ii).
    (ii) Examples--

    (A) Example 1: Services that are substantially similar services 
under paragraph (d)(2)(i) of this section--(1) Facts. FC enters into 
a services agreement with R, a company that operates restaurant 
chains within and outside the United States. Under the agreement, FC 
agrees to furnish a design for the renovation of a chain of 
restaurants that R owns; the design will include architectural 
plans. FC hires DC to provide an architectural service to FC that FC 
will use in the provision of its design service to R. The 
architectural service that DC provides to FC will serve no other 
purpose than to enable FC to provide its service to R. The service 
that FC provides will benefit only R's operations within the United 
States. FC pays an arm's length price of $50x to DC for the

[[Page 43109]]

architectural service and DC recognizes $50x of gross income from 
the service. FC incurs additional costs to add additional design 
elements to the plans and charges R a total of $100x for its 
service.
    (2) Analysis. All of the service that DC provides to FC is 
directly used in the provision of a service to R because FC uses 
DC's architectural service to provide its design service to R, and 
the architectural service that DC provides to FC will serve no 
purpose other than to enable FC to provide its service to R. In 
addition, FC is treated as conferring benefits only to persons 
located within the United States under paragraph (d)(3)(i) of this 
section because only R's operations within the United States benefit 
from the service provided by FC that used the service provided by 
DC. Therefore, the service provided by DC to FC is substantially 
similar to the service provided by FC to R under paragraph (d)(2)(i) 
of this section. Accordingly, DC's provision of the architectural 
service to FC is not a FDDEI service under paragraph (d)(1) of this 
section, and DC's gross income from the architectural service ($50x) 
is not included in its gross FDDEI.
    (B) Example 2: Services that are not substantially similar 
services under paragraph (d)(2)(i) of this section--(1) Facts. The 
facts are the same as paragraph (d)(4)(ii)(A)(1) of this section 
(the facts in Example 1), except that 90 percent of R's operations 
that will benefit from FC's service are located outside the United 
States.
    (2) Analysis--(i) Analysis under paragraph (d)(2)(i) of this 
section. All of the service that DC provides to FC is directly used 
in the provision of a service to R. However, because 90 percent of 
R's operations that will benefit from FC's service are located 
outside the United States under paragraph (d)(3)(i) of this section, 
only 10 percent of the benefits of FC's service are conferred on 
person's located within the United States. Further, because FC's 
service confers a benefit on R's operations located within and 
outside the United States, the benefit provided by DC to FC is 
allocated proportionately based on the locations of R that benefit 
from the services provided by FC under paragraph (d)(3)(ii) of this 
section. Therefore, only 10 percent of DC's architectural service 
are directly used by FC to confer benefits on persons located within 
the United States under paragraph (d)(3)(ii) of this section. 
Therefore, the architectural service provided by DC to FC is not 
substantially similar to the design service provided by FC to 
persons located within the United States under paragraph (d)(2)(i) 
of this section.
    (C) Example 3: Services that are substantially similar services 
under paragraph (d)(2)(ii) of this section--(1) Facts. The facts are 
the same as paragraph (d)(4)(ii)(B)(1) of this section (the facts in 
Example 2), except that FC pays an arm's length price of $75x to DC 
for the architectural service and DC recognizes $75x of gross income 
from the service. As in paragraph (d)(4)(ii)(A)(1) and 
(d)(4)(ii)(B)(1) of this section (the facts in Example 1 and Example 
2), FC charges R a total of $100x for its service.
    (2) Analysis--(i) Price paid by persons located within the 
United States. Under paragraph (d)(3)(i) of this section, FC is 
treated as conferring benefits on a person located within the United 
States to the extent that R's operations that will benefit from FC's 
service are located within the United States. Further, because FC's 
service confers a benefit on R's operations located within and 
outside the United States, the price paid by R to FC ($100x) is 
allocated proportionately based on the locations of R that benefit 
from the services provided by FC under paragraph (d)(3)(i) of this 
section. Accordingly, because 10 percent of the R's operations that 
will benefit from FC's services are located within the United 
States, persons located within the United States are treated as 
paying $10x ($100x x 0.10) for FC's services for purposes of 
applying the test in paragraph (d)(2)(ii) of this section.
    (ii) Amount attributable to the related party service. The 
service that FC provides to R is attributable in part to DC's 
service because FC uses the architectural plans that DC provides to 
provide a service to R. Under paragraph (d)(3)(ii) of this section, 
because the benefits of the service provided by FC are conferred on 
persons located within the United States and outside the United 
States, a proportionate amount (10 percent) of the price paid to DC 
for the related party service ($75x), or $7.5x, is treated as 
attributable to the services provided to persons located within the 
United States.
    (iii) Application of test in paragraph (d)(2)(ii) of this 
section. For purposes of applying the test described in paragraph 
(d)(2)(ii) of this section, the price paid by persons located within 
the United States for the service provided by the related party (FC) 
is $10x, as determined in paragraph (d)(4)(ii)(C)(2)(i) of this 
section (the analysis of this Example 3). The amount of the price 
that is attributable to DC's service is $7.5x, as determined in 
paragraph (d)(4)(ii)(C)(2)(ii) of this section (the analysis of this 
Example 3). Accordingly, of the price treated as paid to FC by 
persons located within the United States, 75 percent ($7.5x/$10x) is 
attributable to the related party service. Because more than 60 
percent of the price treated as paid by persons within the United 
States for FC's service is attributable to DC's service, the service 
provided by DC to FC is substantially similar to the design service 
provided by FC to persons located within the United States under 
paragraph (d)(2)(ii) of this section.
    (iv) Conclusion. Under paragraph (d)(1) of this section, because 
the related party service provided by DC is substantially similar to 
the service provided by FC to a person located in the United States 
solely by reason of paragraph (d)(2)(ii) of this section, the 
difference between DC's gross income from the related party service 
and the amount of the price paid by persons located within the 
United States that is attributable to the related party service is 
treated as a FDDEI service. Accordingly, $67.5x ($75x--$7.5x) of 
DC's gross income from the provision of the service to FC is treated 
as a FDDEI service.


0
Par. 3. Section 1.861-8 is amended by revising the last sentence of 
paragraph (d)(2)(ii)(C)(1) and adding paragraph (f)(1)(vi)(N) as 
follows:


Sec.  1.861-8   Computation of taxable income from sources within the 
United States and from other sources and activities.

* * * * *
    (d) * * *
    (2) * * *
    (ii) * * *
    (C) * * *
    (1) * * * The term gross foreign-derived deduction eligible income, 
or gross FDDEI, has the meaning provided in Sec.  1.250(b)-1(c)(16).
* * * * *
    (f) * * *
    (1) * * *
    (vi) * * *
    (N) Deduction eligible income and foreign-derived deduction 
eligible income under section 250(b).
* * * * *

0
Par. 4. Section 1.962-1 is amended by:
0
1. Revising paragraph (a)(2).
0
2. Adding paragraphs (b)(1)(i)(A)(2) and (b)(1)(i)(B)(3).
0
3. Removing and reserving paragraph (b)(1)(ii).
0
4. Revising paragraphs (b)(2)(i) through (iii), (c), and (d)
    The revisions and additions read as follows:


Sec.  1.962-1   Limitation of tax for individuals on amounts included 
in gross income under section 951(a).

    (a) * * *
    (2) For purposes of applying sections 960(a) and 960(d) (relating 
to foreign tax credit) such amounts shall be treated as if received by 
a domestic corporation (as provided in paragraph (b)(2) of this 
section).
* * * * *
    (b) * * *
    (1) * * *
    (i) * * *
    (A) * * *
    (2) His GILTI inclusion amount (as defined in Sec.  1.951A-1(c)(1)) 
for the taxable year; plus
* * * * *
    (B) * * *
    (3) The portion of the deduction under section 250 and Sec.  
1.250(a)-1 that would be allowed to a domestic corporation equal to the 
percentage applicable to global intangible low-taxed income for the 
taxable year under section 250(a)(1)(B) (including as modified by 
section 250(a)(3)(B)) multiplied by the sum of the amount described in 
paragraph (b)(1)(i)(A)(2) of this section and the amount described in 
paragraph (b)(1)(i)(A)(3) of this section that is attributable to the 
amount described in paragraph (b)(1)(i)(A)(2) of this section.
* * * * *

[[Page 43110]]

    (2) * * *
    (i) In general. Subject to the applicable limitation of section 904 
and to the provisions of this paragraph (b)(2), there shall be allowed 
as a credit against the United States tax on the amounts described in 
paragraph (b)(1)(i) of this section the foreign income, war profits, 
and excess profits taxes deemed paid under section 960(a) or section 
960(d) by the electing United States shareholder with respect to such 
amounts.
    (ii) Application of sections 960(a) and 960(d). In applying 
sections 960(a) and 960(d) for purposes of this paragraph (b)(2) in the 
case of an electing United States shareholder, the term ``domestic 
corporation'' as used in sections 960(a), 960(d), and 78, and the term 
``corporation'' as used in sections 901 and 960(d)(2)(A) and (B), are 
treated as referring to such shareholder with respect to the amounts 
described in paragraph (b)(1)(i) of this section.
    (iii) Carryback and carryover of excess tax deemed paid. For 
purposes of this paragraph (b)(2), other than with respect to section 
951A category income (as defined in Sec.  1.904-4(g)) (including 
section 951A category income that is reassigned to a separate category 
for income resourced under a treaty), any amount by which the foreign 
income, war profits, and excess profits taxes deemed paid by the 
electing United States shareholder for any taxable year under section 
960 exceed the limitation determined under paragraph (b)(2)(iv)(A) of 
this section is treated as a carryback and carryover of excess tax paid 
under section 904(c), except that in no case will excess tax paid be 
deemed paid in another taxable year under section 904(c) if an election 
under section 962 by the shareholder does not apply for such taxable 
year. Such carrybacks and carryovers are applied only against the 
United States tax on amounts described in paragraph (b)(1)(i) of this 
section.
* * * * *
    (c) Example. The application of this section may be illustrated by 
the following example.

    (1) Facts--(i) Individual A is a U.S. resident who owns all of 
the shares of the one class of stock in CFC, a controlled foreign 
corporation. A and CFC each use the calendar year as their U.S. and 
foreign taxable years and the U.S. dollar as their functional 
currency. A owns no direct or indirect interest in any other 
controlled foreign corporation.
    (ii) For the 2019 taxable year, CFC has $6,000,000 of pre-
foreign tax earnings with respect to which it accrues and pays 
$1,000,000 of foreign income tax, leaving $5,000,000 of after-tax 
net income. Of this amount, $3,000,000 is general category tested 
income as defined in section 951A(c)(2), and $2,000,000 is passive 
category subpart F income described in sections 952 and 904(d)(1)(C) 
that is all in a single subpart F income group under Sec. Sec.  
1.954-1(c)(1)(iii) and 1.960-1(d)(2)(ii)(B)(2)(i). Of the $1,000,000 
of foreign income taxes paid or accrued by CFC, $600,000 is 
allocated and apportioned to its general category tested income 
group and $400,000 is allocated and apportioned to its passive 
category subpart F income group under Sec.  1.960-1(d)(3)(ii).
    (iii) For the 2019 taxable year, A includes under section 
951A(a) all $3,000,000 of the tested income of CFC as A's GILTI 
inclusion amount, as defined in Sec.  1.951A-1(c)(1). In addition, A 
includes under section 951(a)(1) the $2,000,000 of passive category 
subpart F income of CFC.
    (iv) For the 2019 taxable year, A earns $1,000,000 of foreign 
source passive category gross income and $3,000,000 of U.S. source 
gross income. A pays $100,000 of foreign withholding taxes with 
respect to the $1,000,000 of foreign source passive category gross 
income. A incurs $1,000,000 of deductible expenses for the 2019 
taxable year that are definitely related to all of A's gross income 
and are properly allocated and apportioned under Sec. Sec.  1.861-
8(b)(5) and 1.861-8T(c)(1) among the section 904 statutory and 
residual groupings on the basis of the relative amounts of gross 
income in each grouping.
    (v) A elects to apply section 962 and chooses to claim credits 
under section 901 for the 2019 taxable year.
    (2) Analysis with respect to section 962 taxable income--(i) 
Section 962(a)(1) and Sec.  1.962-1(a)(1) provide that when an 
individual United States shareholder elects to apply section 962 for 
a taxable year, the U.S. tax imposed with respect to amounts that 
the individual includes under section 951(a) (the ``section 951(a) 
inclusions'') equals the tax that would be imposed under section 11 
if the amounts were included by a domestic corporation under section 
951(a). For purposes of section 962, an amount included under 
section 951A is treated as an inclusion under section 951(a). See 
section 951A(f)(1)(A). Therefore, A has total section 951(a) 
inclusions of $5,000,000: a $2,000,000 passive category subpart F 
inclusion and a $3,000,000 GILTI inclusion amount. A is taxed at the 
corporate rates under section 11 with respect to these inclusions.
    (ii) Section 962(a)(2), Sec.  1.962-1(a)(2), and Sec.  1.962-
1(b)(2) provide that sections 960(a) and 960(d) apply to the section 
951(a) inclusions of an electing individual United States 
shareholder as though the inclusions were received by a domestic 
corporation, and the electing individual United States shareholder 
is allowed a credit against the U.S. tax imposed with respect to the 
section 951(a) inclusions.
    (iii) Section 960(a) deems a domestic corporation that is a 
United States shareholder of a controlled foreign corporation to pay 
the foreign income taxes paid or accrued by the foreign corporation 
that are properly attributable to the foreign corporation's items of 
income included in the domestic corporation's income under section 
951(a). The foreign income taxes of a CFC that are properly 
attributable to such items are the domestic corporation's 
proportionate share of the taxes that are allocated and apportioned 
to the relevant subpart F income group. See Sec.  1.960-1(c) and 
Sec.  1.960-2(b). A owns 100 percent of CFC, and includes all of its 
subpart F income, which is in a single subpart F income group. 
Therefore, all of the $400,000 of foreign income taxes that are 
allocable to CFC's subpart F income are properly attributable to the 
section 951(a) inclusion of A, and A is deemed to pay these taxes.
    (iv) Section 960(d) provides that a domestic corporation that 
has an inclusion in income under section 951A is deemed to pay an 
amount of foreign income taxes equal to 80 percent of the product of 
the domestic corporation's inclusion percentage multiplied by the 
sum of all tested foreign income taxes. Tested foreign income taxes 
are the foreign income taxes of a controlled foreign corporation 
that are properly attributable to its tested income that the 
domestic corporation takes into account under section 951A. The 
foreign income taxes that are properly attributable to the tested 
income taken into account by a domestic corporation are the domestic 
corporation's proportionate share of the controlled foreign 
corporation's foreign income taxes that are allocated and 
apportioned to the relevant tested income. See Sec.  1.960-1(c) and 
Sec.  1.960-2(c). Because A owns 100% of CFC and takes all 
$3,000,000 of CFC's tested income into account in computing A's 
GILTI inclusion amount, all $600,000 of the foreign income taxes 
that are allocated and apportioned to the general category tested 
income group of CFC are tested foreign income taxes. A has an 
inclusion percentage of 100 percent because A's GILTI inclusion 
amount equals all of A's share of the tested income of CFC. A is 
therefore deemed to pay under section 960(d) 80 percent of the 
$600,000 of tested foreign income taxes of CFC, or $480,000 of the 
tested foreign income taxes.
    (v) Section 1.962-1(b)(1)(i)(A) provides that, for purposes of 
computing taxable income under section 962, gross income includes 
amounts that would be included under section 78 if the shareholder 
with the section 951(a) inclusions were a domestic corporation. 
Section 78 requires a domestic corporation to include in its gross 
income the foreign income taxes that it is deemed to pay under 
section 960, computed without regard to the 80 percent limitation 
under section 960(d), and to which the benefits of section 901 
apply. See section 78. A therefore includes in gross income the 
$600,000 of foreign income taxes that A is deemed to pay under 
section 960(d), computed without regard to the 80 percent 
limitation, and the $400,000 of taxes that A is deemed to pay under 
section 960(a).
    (vi) Section 1.962-1(b)(1)(i)(B)(3) provides that, for purposes 
of computing taxable income under section 962, gross income is 
reduced only by specified deductions, which include the deduction 
allowed to a domestic corporation under section 250 and Sec.  
1.250(a)-1 equal to 50 percent of the sum of the GILTI inclusion 
amount and the

[[Page 43111]]

inclusion under section 78 with respect to the GILTI inclusion 
amount. See section 250(a). A is therefore allowed a deduction under 
section 250 equal to 50 percent of $3,600,000 (the $3,000,000 GILTI 
inclusion amount plus the $600,000 inclusion under section 78), or 
$1,800,000.
    (vii) A's taxable income and pre-credit U.S. tax liability with 
respect to the section 951(a) inclusions are computed as follows:

                    Table 1 to Paragraph (c)(2)(vii)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Section 951(a) inclusions with respect to CFC...........      $5,000,000
Section 78 inclusions...................................       1,000,000
Deduction under section 250.............................     (1,800,000)
Taxable income under section 962........................       4,200,000
Pre-credit U.S. tax (0.21 x $4,200,000).................         882,000
------------------------------------------------------------------------

    (viii) Section 962 and Sec.  1.962-1(b)(2) provide that, in 
computing the section 904 limitation on the credit for foreign 
income taxes that an electing individual United States shareholder 
is deemed to pay under sections 960(a) and (d), the individual's 
taxable income for a taxable year is considered to consist only of 
section 951(a) inclusions and the deductions allowed under section 
962. Section 904 limits the credit that a taxpayer may claim for the 
taxes that it pays or accrues, or is deemed to pay, to the amount of 
its U.S. tax that is attributable to the taxpayer's foreign source 
income, and applies this limitation separately with respect to each 
separate category of income. The limitation amount is computed by 
multiplying the taxpayer's total pre-credit U.S. tax by the ratio of 
the taxpayer's foreign source taxable income in a separate category 
for the taxable year to the taxpayer's total taxable income for the 
taxable year. See section 904(a) and Sec.  1.904-1(a).
    (ix) A must compute the limitation on the credit for the foreign 
income taxes deemed paid under section 960(d) separately with 
respect to A's taxable income in the separate category described in 
section 904(d)(1)(A) (the ``GILTI category''), namely, taxable 
income attributable to the GILTI inclusion amount. The limitation is 
computed using only A's 2019 taxable income under section 962 and 
the pre-credit U.S. tax of $882,000 on this income. A therefore 
computes the limitation by multiplying $882,000 by the ratio of A's 
foreign source GILTI category taxable income under section 962 to 
A's total taxable income under section 962, as follows:

                     Table 2 to Paragraph (c)(2)(ix)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
GILTI inclusion amount..................................      $3,000,000
Section 78 inclusion....................................        $600,000
Section 250 deduction...................................    ($1,800,000)
Total GILTI category taxable income under section 962...      $1,800,000
Ratio of GILTI category taxable income to total taxable           42.86%
 income under section 962 (1,800,000/$4,200,000)........
Limitation amount (pre-credit U.S. tax of $882,000 x            $378,000
 ($1,800,000/$4,200,000))...............................
------------------------------------------------------------------------

    (x) A also must compute the limitation on the credit for the 
foreign income taxes deemed paid under section 960(a) separately 
with respect to the foreign source passive category taxable income 
under section 962, namely, A's taxable income attributable to the 
subpart F inclusion. A computes the limitation by multiplying A's 
pre-credit U.S. tax of $882,000 by the ratio of A's foreign source 
passive category taxable income under section 962 to A's total 
taxable income under section 962, as follows:

                     Table 3 to Paragraph (c)(2)(x)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Subpart F inclusion.....................................      $2,000,000
Section 78 inclusion....................................        $400,000
Total foreign source passive category taxable income....      $2,400,000
Ratio of foreign source passive category taxable income           57.14%
 to total taxable income under section 962 ($2,400,000/
 $4,200,000)............................................
Limitation amount (pre-credit U.S. tax of $882,000 x            $504,000
 ($2,400,000/$4,200,000))...............................
------------------------------------------------------------------------

    (xi) A may claim a foreign tax credit for $378,000 of the 
$480,000 of foreign income taxes deemed paid under section 960(d), 
and a foreign tax credit for all $400,000 of the foreign income 
taxes deemed paid under section 960(a), for a total foreign tax 
credit of $778,000. The U.S. tax on A's 2019 taxable income with 
respect to CFC under section 962 is reduced from $882,000 to 
$104,000 ($882,000 minus $778,000).
    (3) Analysis with respect to other income--(i) A's taxable 
income and pre-credit U.S. tax liability with respect to A's other 
income is computed as follows:

                     Table 4 to Paragraph (c)(3)(i)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Gross income............................................      $4,000,000
Deductions..............................................       1,000,000
Taxable Income..........................................       3,000,000
Pre-credit U.S. tax computed under section 1(j).........       1,074,988
------------------------------------------------------------------------

    (ii) A must compute a separate limitation on the credit for the 
foreign withholding taxes paid with respect to A's other foreign 
source passive category taxable income. Under Sec.  1.962-
1(b)(2)(iv)(B), A's section 904 limitation on this income is 
computed on the basis of A's taxable income other than the amounts 
taken into account under Sec.  1.962-1(b)(1)(i). Accordingly, 
$250,000 of A's deductions ($1,000,000 x $1,000,000/$4,000,000) are 
apportioned to A's $1,000,000 of other foreign source passive 
category gross income, and $750,000 of deductions ($1,000,000 x 
$3,000,000/$4,000,000) are apportioned to A's $3,000,000 of U.S. 
source gross income, resulting in $750,000 of other foreign source 
passive category taxable income and $2,250,000 of U.S. source 
taxable income A computes the limitation by multiplying A's pre-
credit U.S. tax on A's other income of

[[Page 43112]]

$1,074,988 by the ratio of A's other foreign source passive category 
taxable income to A's other total taxable income, as follows:

                     Table 5 to Paragraph (c)(3)(ii)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Total other foreign source passive category taxable             $750,000
 income.................................................
Ratio of other foreign source passive category taxable               25%
 income to total other taxable income ($750,000/
 $3,000,000)............................................
Limitation amount (pre-credit U.S. tax of $1,074,988 x          $268,747
 ($750,000/$3,000,000)).................................
------------------------------------------------------------------------

    (iii) A may claim a foreign tax credit under section 901 for all 
$100,000 of the foreign withholding taxes on the other passive 
income. The U.S. tax on A's $3,000,000 of other taxable income is 
reduced from $1,074,988 to $974,988 ($1,074,88 minus $100,000).

    (d) Applicability dates. Except as otherwise provided in this 
paragraph (d), paragraph (b)(1)(i) of this section applies beginning 
the last taxable year of a foreign corporation that begins before 
January 1, 2018, and with respect to a United States person, for the 
taxable year in which or with which such taxable year of the foreign 
corporation ends. Paragraphs (b)(1)(i)(A)(2) and (b)(1)(i)(B)(3) of 
this section apply to taxable years of a foreign corporation that end 
on or after March 4, 2019, and with respect to a United States person, 
for the taxable year in which or with which such taxable year of the 
foreign corporation ends. Paragraphs (a)(2), (b)(1)(ii), (b)(2)(i) 
through (iii), and (c) of this section apply to taxable years of a 
foreign corporation that end on or after July 15, 2020, and with 
respect to a United States person, for the taxable year in which or 
with which such taxable year of the foreign corporation ends. For 
taxable years that precede the applicability dates described in the 
preceding two sentences, taxpayers may choose to apply the provisions 
of paragraphs (a)(2), (b)(1)(i)(A)(2), (b)(1)(i)(B)(3), (b)(1)(ii), 
(b)(2)(i) through (iii), and (c) of this section for taxable years of a 
foreign corporation beginning on or after January 1, 2018, and with 
respect to a United States person, for the taxable year in which or 
with which such taxable year of the foreign corporation ends.

0
Par. 5. Section 1.1502-12 is amended by adding paragraph (t) to read as 
follows:


Sec.  1.1502-12   Separate taxable income.

* * * * *
    (t) See Sec.  1.1502-50 for rules relating to the computation of a 
member's deduction under section 250.
* * * * *

0
Par. 6. Section 1.1502-13 is amended by:
0
1. In paragraph (a)(6)(ii), under the heading ``Matching rule. (Sec.  
1.1502-13(c)(7)(ii))'', designating Examples 1 through 17 as entries 
(A) through (Q).
0
2. In paragraph (a)(6)(ii), under the heading ``Matching rule. (Sec.  
1.1502-13(c)(7)(ii))'', adding entry (R).
0
3. In paragraph (c)(7)(ii), Examples 1 through 17 are designated as 
paragraphs (c)(7)(ii)(A) through (Q), respectively.
0
4. Redesignating newly designated paragraphs (c)(7)(ii)(A)(a) through 
(i) as paragraphs (c)(7)(ii)(A)(1) through (9).
0
5. Redesignating newly designated paragraphs (c)(7)(ii)(B)(a) and (b) 
as paragraphs (c)(7)(ii)(B)(1) and (2).
0
6. Redesignating newly designated paragraphs (c)(7)(ii)(C)(a) through 
(d) as paragraphs (c)(7)(ii)(C)(1) through (4).
0
7. Redesignating newly designated paragraphs (c)(7)(ii)(D)(a) through 
(e) as paragraphs (c)(7)(ii)(D)(1) through (5).
0
8. Redesignating newly designated paragraphs (c)(7)(ii)(E)(a) through 
(f) as paragraphs (c)(7)(ii)(E)(1) through (6).
0
9. Redesignating newly designated paragraphs (c)(7)(ii)(F)(a) through 
(d) as paragraphs (c)(7)(ii)(F)(1) through (4).
0
10. Redesignating newly designated paragraphs (c)(7)(ii)(G)(a) through 
(d) as paragraphs (c)(7)(ii)(G)(1) through (4).
0
11. Redesignating newly designated paragraphs (c)(7)(ii)(I)(a) through 
(e) as paragraphs (c)(7)(ii)(I)(1) through (5).
0
12. Redesignating newly designated paragraphs (c)(7)(ii)(J)(a) through 
(d) as paragraphs (c)(7)(ii)(J)(1) through (4).
0
13. Redesignating newly designated paragraphs (c)(7)(ii)(K)(a) through 
(d) as paragraphs (c)(7)(ii)(K)(1) through (4).
0
14. Redesignating newly designated paragraphs (c)(7)(ii)(L)(a) and (b) 
as paragraphs (c)(7)(ii)(L)(1) and (2).
0
15. Redesignating newly designated paragraphs (c)(7)(ii)(N)(a) through 
(c) as paragraphs (c)(7)(ii)(N)(1) through (3).
0
16. Redesignating newly designated paragraphs (c)(7)(ii)(O)(a) through 
(d) as paragraphs (c)(7)(ii)(O)(1) through (4).
0
17. Redesignating newly designated paragraphs (c)(7)(ii)(P)(a) and (b) 
as paragraphs (c)(7)(ii)(P)(1) and (2).
0
18. Redesignating newly designated paragraphs (c)(7)(ii)(Q)(a) through 
(c) as paragraphs (c)(7)(Q)(1) through (3).
0
19. In the table in this paragraph, for each newly redesignated 
paragraph listed in the ``Paragraph'' column, remove the text indicated 
in the ``Remove'' column and add in its place the text indicated in the 
``Add'' column:

------------------------------------------------------------------------
          Paragraph                  Remove                 Add
------------------------------------------------------------------------
(c)(7)(ii)(A)(5).............  paragraph (a) of   Example 1 in paragraph
                                this Example 1.    (c)(7)(ii)(A)(1) of
                                                   this section.
(c)(7)(ii)(A)(5).............  paragraphs (c)     Example 1 in
                                and (d) of this    paragraphs
                                Example 1.         (c)(7)(ii)(A)(3) and
                                                   (4) of this section.
(c)(7)(ii)(A)(6).............  paragraph (a) of   Example 1 in paragraph
                                this Example 1.    (c)(7)(ii)(A)(1) of
                                                   this section.
(c)(7)(ii)(A)(7).............  paragraph (a) of   Example 1 in paragraph
                                this Example 1.    (c)(7)(ii)(A)(1) of
                                                   this section.
(c)(7)(ii)(A)(8).............  paragraph (a) of   Example 1 in paragraph
                                this Example 1.    (c)(7)(ii)(A)(1) of
                                                   this section.
(c)(7)(ii)(A)(9).............  paragraph (a) of   Example 1 in paragraph
                                this Example 1.    (c)(7)(ii)(A)(1) of
                                                   this section.
(c)(7)(ii)(C)(3).............  paragraph (a) of   Example 3 in paragraph
                                this Example 3.    (c)(7)(ii)(C)(1) of
                                                   this section.
(c)(7)(ii)(C)(4).............  paragraph (c) of   Example 3 in paragraph
                                this Example 3.    (c)(7)(ii)(C)(3) of
                                                   this section.
(c)(7)(ii)(C)(4).............  paragraph (b) of   Example 3 in paragraph
                                this Example 3.    (c)(7)(ii)(C)(2) of
                                                   this section.
(c)(7)(ii)(D)(5).............  paragraph (a) of   Example 4 in paragraph
                                this Example 4.    (c)(7)(ii)(D)(1) of
                                                   this section.
(c)(7)(ii)(D)(5).............  paragraphs (c)     Example 4 in
                                and (d) of this    paragraphs
                                Example 4.         (c)(7)(ii)(D)(3) and
                                                   (4) of this section.
(c)(7)(ii)(E)(3).............  paragraph (a) of   Example 5 in paragraph
                                this Example 5.    (c)(7)(ii)(E)(1) of
                                                   this section.
(c)(7)(ii)(E)(4).............  paragraph (a) of   Example 5 in paragraph
                                this Example 5.    (c)(7)(ii)(E)(1) of
                                                   this section.
(c)(7)(ii)(E)(5).............  paragraph (a) of   Example 5 in paragraph
                                this Example 5.    (c)(7)(ii)(E)(1) of
                                                   this section.
(c)(7)(ii)(E)(6).............  paragraph (a) of   Example 5 in paragraph
                                this Example 5.    (c)(7)(ii)(E)(1) of
                                                   this section.
(c)(7)(ii)(F)(3).............  paragraph (a) of   Example 6 in paragraph
                                this Example 6.    (c)(7)(ii)(F)(1) of
                                                   this section.
(c)(7)(ii)(F)(4).............  paragraph (a) of   Example 6 in paragraph
                                this Example 6.    (c)(7)(ii)(F)(1) of
                                                   this section.
(c)(7)(ii)(G)(4).............  paragraph (a) of   Example 7 in paragraph
                                this Example 7.    (c)(7)(ii)(G)(1) of
                                                   this section.

[[Page 43113]]

 
(c)(7)(ii)(G)(4).............  paragraph (c) of   Example 7 in paragraph
                                this Example 7.    (c)(7)(ii)(G)(3) of
                                                   this section.
(c)(7)(ii)(I)(3).............  paragraph (a) of   Example 9 in paragraph
                                this Example 9.    (c)(7)(ii)(I)(1) of
                                                   this section.
(c)(7)(ii)(I)(4).............  paragraph (a) of   Example 9 in paragraph
                                this Example 9.    (c)(7)(ii)(I)(1) of
                                                   this section.
(c)(7)(ii)(I)(5).............  paragraph (d) of   Example 9 in paragraph
                                this Example 9.    (c)(7)(ii)(I)(4) of
                                                   this section.
(c)(7)(ii)(J)(3).............  paragraph (a) of   Example 10 in
                                this Example 10.   paragraph
                                                   (c)(7)(ii)(J)(1) of
                                                   this section.
(c)(7)(ii)(J)(4).............  paragraph (a) of   Example 10 in
                                this Example 10.   paragraph
                                                   (c)(7)(ii)(J)(1) of
                                                   this section.
(c)(7)(ii)(K)(4).............  paragraph (a) of   Example 11 in
                                this Example 11.   paragraph
                                                   (c)(7)(ii)(K)(1) of
                                                   this section.
(c)(7)(ii)(N)(2).............  paragraph (a) of   Example 14 in
                                this Example 14.   paragraph
                                                   (c)(7)(ii)(N)(1) of
                                                   this section.
(c)(7)(ii)(O)(4).............  paragraph (a) of   Example 15 in
                                this Example 15.   paragraph
                                                   (c)(7)(ii)(O)(1) of
                                                   this section.
(c)(7)(ii)(Q)(1).............  Example 16.......  Example 16 in
                                                   paragraph
                                                   (c)(7)(ii)(P) of this
                                                   section.
(c)(7)(ii)(Q)(2).............  paragraph (f)(7),  Example 2 in paragraph
                                Example 2 of       (f)(7) of this
                                this section.      section.
(c)(7)(iii)(A)...............  Paragraphs         Paragraphs
                                (c)(6)(ii)(C),     (c)(6)(ii)(C) and (D)
                                (c)(6)(ii)(D),     of this section,
                                and (c)(7)(ii),    Example 16 in
                                Examples 16 and    paragraph
                                17 of this         (c)(7)(ii)(P) of this
                                section.           section, and Example
                                                   17 in paragraph
                                                   (c)(7)(ii)(Q) of this
                                                   section.
------------------------------------------------------------------------


0
20. Adding paragraph (c)(7)(ii)(R).
    The additions read as follows:


Sec.  1.1502-13   Intercompany transactions.

    (a) * * *
    (6) * * *
    (ii) * * *
    Matching rule. (Sec.  1.1502-13(c)(7)(ii))
* * * * *
    (R) Example 18. Redetermination of attributes for section 250 
purposes.
* * * * *
    (c) * * *
    (7) * * *
    (ii) * * *

    (R) Example 18: Redetermination of attributes for section 250 
purposes--(1) Facts. S manufactures equipment in the United States 
and recognizes $75 of gross income included in gross DEI (as defined 
in Sec.  1.250(b)-1(c)(15)) on the sale of Asset, which is not 
depreciable property, to B in Year 1 for $100. In Year 2, B sells 
Asset to X for $125 and recognizes $25 of gross income. The sale is 
a FDDEI sale (as defined in Sec.  1.250(b)-1(c)(8)), and thus the 
$25 of income is included in B's gross FDDEI (as defined in Sec.  
1.250(b)-1(c)(16)) for Year 2.
    (2) Timing and attributes. S's $75 of intercompany income is 
taken into account in Year 2 under the matching rule to reflect the 
$75 difference between B's $25 corresponding item taken into account 
(based on B's $100 cost basis in Asset) and the recomputed 
corresponding item (based on the $25 basis that B would have if S 
and B were divisions of a single corporation and B's basis were 
determined by reference to S's basis). In determining whether S's 
gross income included in gross DEI from the sale of Asset is 
included in gross FDDEI, S and B are treated as divisions of a 
single corporation. See paragraph (a)(6) of this section. In 
determining the amount of income included in gross DEI that is 
included in gross FDDEI, the attributes of S's intercompany item and 
B's corresponding item may be redetermined to the extent necessary 
to produce the same effect on consolidated taxable income (and 
consolidated tax liability) as if S and B were divisions of a single 
corporation. See paragraph (c)(1)(i) of this section. Applying 
section 250 and Sec.  1.1502-50 on a single entity basis, all $100 
of income included in gross DEI would be gross FDDEI. On a separate 
entity basis, S would have $75 of gross income included in gross DEI 
that is included in gross RDEI (as defined in Sec.  1.250(b)-
1(c)(14)) and B would have $25 of gross income included in gross DEI 
that is included in gross FDDEI. Thus, on a separate entity basis, S 
and B would have, in the aggregate, $100 of gross income included in 
gross DEI, of which only $25 is included gross FDDEI. Accordingly, 
under single entity treatment, $75 that would be treated as gross 
income included in gross DEI that is included in gross RDEI on a 
separate entity basis is redetermined to be included in gross FDDEI.
    (3) Intercompany sale for loss. The facts are the same as in 
paragraph (c)(7)(ii)(R)(1) of this section (the facts in Example 
18), except that S recognizes $25 of loss on the sale of Asset. S's 
$25 of intercompany loss is taken into account under the matching 
rule to reflect the $25 difference between B's $25 corresponding 
item taken into account (based on B's $100 cost basis in Asset) and 
the recomputed corresponding item (based on the $125 basis that B 
would have if S and B were divisions of a single corporation and B's 
basis were determined by reference to S's $125 of costs). Applying 
section 250 and Sec.  1.1502-50 on a single entity basis, $0 of 
income would be included in gross DEI. In order to reflect this 
result, under the matching rule, S's $25 loss is allocated and 
apportioned solely to B's $25 of gross income from the sale of Asset 
for purposes of determining B's DEI and FDDEI. Furthermore, B's $25 
of gross income is not taken into account for purposes of 
apportioning any other deductions under section 861 and the 
regulations under that section for purposes of determining any 
member's DEI or FDDEI.
* * * * *

0
Par. 7. Section 1.1502-50 is added to read as follows:


Sec.  1.1502-50   Consolidated section 250.

    (a) In general--(1) Scope. This section provides rules for applying 
section 250 and Sec. Sec.  1.250-1 through 1.250(b)-6 (the section 250 
regulations) to a member of a consolidated group (member). Paragraph 
(b) of this section provides rules for the determination of the amount 
of the deduction allowed to a member under section 250(a)(1). Paragraph 
(c) of this section provides rules governing the impact of intercompany 
transactions on the determination of a member's qualified business 
asset investment (QBAI) and the effect of intercompany transactions on 
the determination of a member's foreign-derived deduction eligible 
income (FDDEI). Paragraph (d) of this section provides rules governing 
basis adjustments to member stock resulting from the application of 
paragraph (b)(1) of this section. Paragraph (e) of this section 
provides definitions. Paragraph (f) of this section provides examples 
illustrating the rules of this section. Paragraph (g) of this section 
provides an applicability date.
    (2) Overview. The rules of this section ensure that the aggregate 
amount of deductions allowed under section 250 to members appropriately 
reflects the income, expenses, gains, losses, and property of all 
members. Paragraph (b) of this section allocates the consolidated 
group's overall deduction amount under section 250 to each member on 
the basis of its contribution to the consolidated foreign-derived 
deduction eligible income (consolidated FDDEI) and consolidated global 
intangible low-taxed income (consolidated GILTI). The definitions in 
paragraph (e) of this section provide for the aggregation of the 
deduction eligible income (DEI), FDDEI, deemed tangible income return, 
and global intangible low-taxed income (GILTI) of all members in order 
to calculate the consolidated group's overall deduction amount under 
section 250.
    (b) Allowance of deduction--(1) In general. A member is allowed a 
deduction for a consolidated return year under section 250. See Sec.  
1.250(a)-1(b). The amount of the deduction is equal to the sum of--
    (i) The product of the consolidated FDII deduction amount and the 
member's FDII deduction allocation ratio; and

[[Page 43114]]

    (ii) The product of the consolidated GILTI deduction amount and the 
member's GILTI deduction allocation ratio.
    (2) Consolidated taxable income limitation. For purposes of 
applying the limitation described in Sec.  1.250(a)-1(b)(2) to the 
determination of the consolidated FDII deduction amount and the 
consolidated GILTI deduction amount of a consolidated group for a 
consolidated return year--
    (i) The consolidated foreign-derived intangible income 
(consolidated FDII) (if any) is reduced (but not below zero) by an 
amount which bears the same ratio to the consolidated section 250(a)(2) 
amount that such consolidated FDII bears to the sum of the consolidated 
FDII and the consolidated GILTI; and
    (ii) The consolidated GILTI (if any) is reduced (but not below 
zero) by the excess of the consolidated section 250(a)(2) amount over 
the reduction described in paragraph (b)(2)(i) of this section.
    (c) Impact of intercompany transactions--(1) Impact on qualified 
business asset investment determination--(i) In general. For purposes 
of determining a member's QBAI, the basis of specified tangible 
property does not include an amount equal to any gain or loss 
recognized with respect to such property by another member in an 
intercompany transaction (as defined in Sec.  1.1502-13(b)(1)) until 
the time that such gain or loss is no longer deferred under Sec.  
1.1502-13. Thus, for example, if a selling member owns specified 
tangible property with an adjusted basis (within the meaning of section 
1011) of $60x and an adjusted basis (for purposes of calculating QBAI) 
of $80x, and sells it for $50x to the purchasing member (and the 
intercompany loss remains deferred), the basis of such property for 
purposes of computing the purchasing member's QBAI is $80x.
    (ii) Partner-specific QBAI basis. A member's partner-specific QBAI 
basis (as defined in Sec.  1.250(b)-2(g)(7)) includes a basis 
adjustment under section 743(b) resulting from an intercompany 
transaction only at the time, and to the extent, gain or loss, if any, 
is recognized in the transaction and no longer deferred under Sec.  
1.1502-13.
    (2) Impact on foreign-derived deduction eligible income 
characterization. For purposes of redetermining attributes of members 
from an intercompany transaction as FDDEI, see Sec.  1.1502-13(c)(1)(i) 
and (c)(7)(ii)(R) (Example 18).
    (d) Adjustments to the basis of a member. For adjustments to the 
basis of a member related to paragraph (b)(1) of this section, see 
Sec.  1.1502-32(b)(3)(ii)(B).
    (e) Definitions. The following definitions apply for purposes of 
this section.
    (1) Consolidated deduction eligible income (consolidated DEI). With 
respect to a consolidated group for a consolidated return year, the 
term consolidated deduction eligible income or consolidated DEI means 
the greater of the sum of the DEI (whether positive or negative) of all 
members or zero.
    (2) Consolidated deemed intangible income. With respect to a 
consolidated group for a consolidated return year, the term 
consolidated deemed intangible income means the excess (if any) of the 
consolidated DEI, over the consolidated deemed tangible income return.
    (3) Consolidated deemed tangible income return. With respect to a 
consolidated group for a consolidated return year, the term 
consolidated deemed tangible income return means the sum of the deemed 
tangible income return of all members.
    (4) Consolidated FDII deduction amount. With respect to a 
consolidated group for a consolidated return year, the term 
consolidated FDII deduction amount means the product of the FDII 
deduction rate and the consolidated FDII, as adjusted by paragraph 
(b)(2) of this section.
    (5) Consolidated foreign-derived deduction eligible income 
(consolidated FDDEI). With respect to a consolidated group for a 
consolidated return year, the term consolidated foreign-derived 
deduction eligible income or consolidated FDDEI means the greater of 
the sum of the FDDEI (whether positive or negative) of all members or 
zero.
    (6) Consolidated foreign-derived intangible income (consolidated 
FDII). With respect to a consolidated group for a consolidated return 
year, the term consolidated foreign-derived intangible income or 
consolidated FDII means the product of the consolidated deemed 
intangible income and the consolidated foreign-derived ratio.
    (7) Consolidated foreign-derived ratio. With respect to a 
consolidated group for a consolidated return year, the term 
consolidated foreign-derived ratio means the ratio (not to exceed one) 
of--
    (i) The consolidated FDDEI; to
    (ii) The consolidated DEI.
    (8) Consolidated GILTI deduction amount. With respect to a 
consolidated group for a consolidated return year, the term 
consolidated GILTI deduction amount means the product of the GILTI 
deduction rate and the sum of the consolidated GILTI, as adjusted by 
paragraph (b)(2) of this section, and the amounts treated as dividends 
received by the members under section 78 which are attributable to 
their GILTI for the consolidated return year.
    (9) Consolidated global intangible low-taxed income (consolidated 
GILTI). With respect to a consolidated group for a consolidated return 
year, the term consolidated global intangible low-taxed income or 
consolidated GILTI means the sum of the GILTI of all members.
    (10) Consolidated section 250(a)(2) amount. With respect to a 
consolidated group for a consolidated return year, the term 
consolidated section 250(a)(2) amount means the excess (if any) of the 
sum of the consolidated FDII and the consolidated GILTI (determined 
without regard to section 250(a)(2) and paragraph (b)(2) of this 
section), over the consolidated taxable income of the consolidated 
group (within the meaning of Sec.  1.1502-11).
    (11) Deduction eligible income (DEI). With respect to a member for 
a consolidated return year, the term deduction eligible income or DEI 
means the member's gross DEI for the year (within the meaning of Sec.  
1.250(b)-1(c)(15)) reduced (including below zero) by the deductions 
properly allocable to gross DEI for the year (as determined under Sec.  
1.250(b)-1(d)(2)).
    (12) Deemed tangible income return. With respect to a member for a 
consolidated return year, the term deemed tangible income return means 
an amount equal to 10 percent of the member's QBAI, as adjusted by 
paragraph (c)(1) of this section.
    (13) FDII deduction allocation ratio. With respect to a member for 
a consolidated return year, the term FDII deduction allocation ratio 
means the ratio of--
    (i) The member's positive FDDEI (if any); to
    (ii) The sum of the positive FDDEI of all members.
    (14) FDII deduction rate. The term FDII deduction rate means 37.5 
percent for consolidated return years beginning before January 1, 2026, 
and 21.875 percent for consolidated return years beginning after 
December 31, 2025.
    (15) Foreign-derived deduction eligible income (FDDEI). With 
respect to a member for a consolidated return year, the term foreign-
derived deduction eligible income or FDDEI means the member's gross 
FDDEI for the year (within the meaning of Sec.  1.250(b)-1(c)(16)) 
reduced (including below zero) by the deductions properly allocable to 
gross FDDEI for the year (as determined under Sec.  1.250(b)-1(d)(2)).
    (16) GILTI deduction allocation ratio. With respect to a member for 
a consolidated return year, the term GILTI

[[Page 43115]]

deduction allocation ratio means the ratio of--
    (i) The sum of the member's GILTI and the amount treated as a 
dividend received by the member under section 78 which is attributable 
to its GILTI for the consolidated return year; to
    (ii) The sum of consolidated GILTI and the amounts treated as 
dividends received by the members under section 78 which are 
attributable to their GILTI for the consolidated return year.
    (17) GILTI deduction rate. The term GILTI deduction rate means 50 
percent for consolidated return years beginning before January 1, 2026, 
and 37.5 percent for consolidated return years beginning after December 
31, 2025.
    (18) Global intangible low-taxed income (GILTI). With respect to a 
member for a consolidated return year, the term global intangible low-
taxed income or GILTI means the sum of the member's GILTI inclusion 
amount under Sec.  1.1502-51(b) and the member's distributive share of 
any domestic partnership's GILTI inclusion amount under Sec.  1.951A-
5(b)(2).
    (19) Qualified business asset investment (QBAI). The term qualified 
business asset investment or QBAI has the meaning provided in Sec.  
1.250(b)-2(b).
    (20) Specified tangible property. The term specified tangible 
property has the meaning provided in Sec.  1.250(b)-2(c)(1).

    (f) Examples. The following examples illustrate the rules of 
this section.
    (1) Example 1: Calculation of deduction attributable to FDII--
(i) Facts. P is the common parent of the P group and owns all of the 
only class of stock of subsidiaries USS1 and USS2. The consolidated 
return year of all persons is the calendar year. In 2018, P has DEI 
of $400x, FDDEI of $0, and QBAI of $0; USS1 has DEI of $200x, FDDEI 
of $200x, and QBAI of $600x; and USS2 has DEI of -$100x, FDDEI of 
$100x, and QBAI of $400x. The P group has consolidated taxable 
income that is sufficient to make inapplicable the limitation in 
paragraph (b)(2) of this section. No member of the P group has 
GILTI.
    (ii) Analysis--(A) Consolidated DEI. Under paragraph (e)(1) of 
this section, the P group's consolidated DEI is $500x, the greater 
of the sum of the DEI (whether positive or negative) of all members 
($400x + $200x-$100x) or zero.
    (B) Consolidated FDDEI. Under paragraph (e)(5) of this section, 
the P group's consolidated FDDEI is $300x, the greater of the sum of 
the FDDEI (whether positive or negative) of all members ($0 + $200x 
+ $100x) or zero.
    (C) Consolidated deemed tangible income return. Under paragraph 
(e)(12) of this section, a member's deemed tangible income return is 
10 percent of its QBAI. Therefore, P's deemed tangible income return 
is $0 (0.10 x $0), USS1's deemed tangible income return is $60x 
(0.10 x $600x), and USS2's deemed tangible income return is $40x 
(0.10 x $400x). Under paragraph (e)(3) of this section, the P 
group's consolidated deemed tangible income return is $100x, the sum 
of the deemed tangible income return of all members ($0 + $60x + 
$40x).
    (D) Consolidated deemed intangible income. Under paragraph 
(e)(2) of this section, the P group's consolidated deemed intangible 
income is $400x, the excess of its consolidated DEI over its 
consolidated deemed tangible income return ($500x -$100x).
    (E) Consolidated FDII. Under paragraph (e)(7) of this section, 
the P group's consolidated foreign-derived ratio is 0.60, the ratio 
of its consolidated FDDEI to its consolidated DEI ($300x/$500x). 
Under paragraph (e)(6) of this section, the P group's consolidated 
FDII is $240x, the product of its consolidated deemed intangible 
income and its consolidated foreign-derived ratio ($400x x 0.60).
    (F) Consolidated FDII deduction amount. Under paragraph (e)(4) 
of this section, the P group's consolidated FDII deduction amount is 
$90x, the product of the FDII deduction rate and the consolidated 
FDII (0.375 x $240x).
    (G) Member's deduction attributable to consolidated FDII 
deduction amount. Under paragraph (b)(1) of this section, a member 
is allowed a deduction equal, in part, to the product of the 
consolidated FDII deduction amount of the consolidated group to 
which the member belongs and the member's FDII deduction allocation 
ratio. Under paragraph (e)(13) of this section, a member's FDII 
deduction allocation ratio is the ratio of its positive FDDEI to the 
sum of each member's positive FDDEI for such consolidated return 
year. As a result, the FDII deduction allocation ratios of P, USS1, 
and USS2 are 0 ($0/$300x), \2/3\ ($200x/$300x), and \1/3\ ($100x/
$300x), respectively. Therefore, P, USS1, and USS2 are permitted 
deductions under paragraph (b)(1) of this section in the amount of 
$0 (0 x $90x), $60x (\2/3\ x $90x), and $30x (\1/3\ x $90x), 
respectively.
    (2) Example 2: Limitation on consolidated foreign-derived 
deduction eligible income--(i) Facts. The facts are the same as in 
paragraph (f)(1)(i) of this section (the facts in Example 1), except 
that P's FDDEI is $300x.
    (ii) Analysis--(A) Consolidated DEI and consolidated deemed 
tangible income return. As in paragraphs (f)(1)(ii)(A) and (C) of 
this section (the analysis in Example 1), the P group's consolidated 
DEI is $500x and the P group's consolidated deemed tangible income 
return is $100x.
    (B) Consolidated FDDEI. Under paragraph (e)(5) of this section, 
the P group's consolidated FDDEI is $600x, the greater of the sum of 
the FDDEI (whether positive or negative) of all members ($300x + 
$200x + $100x) or zero.
    (C) Consolidated deemed intangible income and consolidated FDII. 
Under paragraph (e)(2) of this section, the P group's consolidated 
deemed intangible income is $400x ($500x - $100x). Under paragraph 
(e)(7) of this section, the P group's consolidated foreign-derived 
ratio is 1.00 ($600x/$500x, but not in excess of one). Under 
paragraph (e)(6) of this section, the P group's consolidated FDII is 
$400x ($400x x 1.00).
    (D) Consolidated FDII deduction amount and member's deduction 
attributable to consolidated FDII deduction amount. Under paragraph 
(e)(4) of this section, the P group's consolidated FDII deduction 
amount is $150x (0.375 x $400x). Under paragraph (e)(13) of this 
section, the FDII deduction allocation ratios of P, USS1, and USS2 
are \1/2\ ($300/$600x), \1/3\ ($200x/$600x), and \1/6\ ($100x/
$600x), respectively. Therefore, P, USS1, and USS2 are permitted 
deductions under paragraph (b)(1) of this section in the amounts of 
$75x (\1/2\ x $150x), $50x (\1/3\ x $150x), and $25x (\1/6\ x 
$150x), respectively.
    (3) Example 3: Member with negative FDDEI--(i) Facts. The facts 
are the same as in paragraph (f)(1)(i) of this section (the facts in 
Example 1), except that P's FDDEI is -$100x.
    (ii) Analysis--(A) Consolidated DEI and consolidated deemed 
tangible income return. As in paragraphs (f)(1)(ii)(A) and (C) of 
this section (the facts in Example 1), the P group's consolidated 
DEI is $500x and the P group's consolidated deemed tangible income 
return is $100x.
    (B) Consolidated FDDEI. Under paragraph (e)(5) of this section, 
the P group's consolidated FDDEI is $200x, the greater of the sum of 
the FDDEI (whether positive or negative) of all members (-$100x + 
$200x + $100x) or zero.
    (C) Consolidated deemed intangible income and consolidated FDII. 
Under paragraphs (e)(2) and (6) of this section, the P group's 
consolidated deemed intangible income is $400x ($500x -$100x), and 
the P group's consolidated FDII is $160x ($400x x ($200x/$500x)).
    (D) Consolidated FDII deduction amount and member's deduction 
attributable to consolidated FDII deduction amount. Under paragraph 
(e)(4) of this section, the P group's consolidated FDII deduction 
amount is $60x (0.375 x $160x). Under paragraph (e)(13) of this 
section, the FDII deduction allocation ratios of P, USS1, and USS2 
are 0 ($0/$300x), \2/3\ ($200x/$300x), and \1/3\ ($100x/$300x), 
respectively. Therefore, P, USS1, and USS2 are permitted deductions 
under paragraph (b)(1) of this section in the amounts of $0 (0 x 
$60x), $40x (\2/3\ x $60x), and $20x (\1/3\ x $60x), respectively.
    (4) Example 4: Calculation of deduction attributable to GILTI--
(i) Facts. The facts are the same as in paragraph (f)(1)(i) of this 
section (the facts in Example 1), except that USS1 owns CFC1 and 
USS2 owns CFC2. USS1 and USS2 have GILTI of $65x and $20x, 
respectively, and amounts treated as dividends received under 
section 78 attributable to their GILTI of $10x and $5x, 
respectively.
    (ii) Analysis--(A) Consolidated GILTI. Under paragraph (e)(9) of 
this section, the P group's consolidated GILTI is $85x, the sum of 
the GILTI of all members ($0 + $65x + $20x).
    (B) Consolidated GILTI deduction amount. Under paragraph (e)(8) 
of this section, the P group's consolidated GILTI deduction amount 
is $50x, the product of the GILTI deduction rate and the sum of its 
consolidated GILTI and the amounts treated as dividends received by 
the members under section 78 which are attributable to their

[[Page 43116]]

GILTI for the consolidated return year (0.50 x ($85x + $10x + $5x)).
    (C) Member's deduction attributable to consolidated GILTI 
deduction amount. Under paragraph (b)(1) of this section, a member 
is allowed a deduction equal, in part, to the product of the 
consolidated GILTI deduction amount of the consolidated group to 
which the member belongs and the member's GILTI deduction allocation 
ratio. Under paragraph (e)(16) of this section, a member's GILTI 
deduction allocation ratio is the ratio of the sum of its GILTI and 
the amount treated as a dividend received by the member under 
section 78 which is attributable to its GILTI for the consolidated 
return year to the sum of the consolidated GILTI and the amounts 
treated as dividends received by the members under section 78 which 
are attributable to their GILTI for the consolidated return year. As 
a result, the GILTI deduction allocation ratios of P, USS1, and USS2 
are 0 ($0/($85x + $10x + $5x)), \3/4\ (($65x + $10x)/($85x + $10x + 
$5x)), and \1/4\ (($20x + $5x)/($85x + $10x + $5x)), respectively. 
Therefore, P, USS1, and USS2 are permitted deductions of $0 (0 x 
$50x), $37.50x (\3/4\ x $50x), and $12.50x (\1/4\ x $50x), 
respectively.
    (D) Member's deduction under section 250. Under paragraph (b)(1) 
of this section, a member is allowed a deduction equal to the sum of 
the member's deduction attributable to the consolidated FDII 
deduction amount and the member's deduction attributable to the 
consolidated GILTI deduction amount. As a result P, USS1, and USS2 
are entitled to deductions under paragraph (b)(1) of this section of 
$0 ($0 + $0), $97.50x ($60x + $37.50x), and $42.50x ($30x + 
$12.50x), respectively.
    (5) Example 5: Taxable income limitation--(i) Facts. The facts 
are the same as in paragraph (f)(4)(i) of this section (the facts in 
Example 4), except that the P group's consolidated taxable income 
(within the meaning of paragraph (e)(10) of this section) is $300x.
    (ii) Analysis--(A) Determination of whether the limitation 
described in paragraph (b)(2) of this section applies. Under 
paragraph (b)(2) of this section, in the case of a consolidated 
group with a consolidated section 250(a)(2) amount for a 
consolidated year, the amount of the consolidated FDII and the 
consolidated GILTI otherwise taken into account in the determination 
of the consolidated FDII deduction amount and the consolidated GILTI 
deduction amount are subject to reduction. As in paragraph 
(f)(1)(ii)(E) of this section (the facts in Example 1), the P 
group's consolidated FDII is $240x. As in paragraph (f)(4)(ii)(A) of 
this section (the analysis in Example 4), the P group's consolidated 
GILTI is $85x. The P group's consolidated taxable income is $300x. 
Under paragraph (e)(10) of this section, the P group's consolidated 
section 250(a)(2) amount is $25x (($240x + $85x) - $300x), the 
excess of the sum of the consolidated FDII and the consolidated 
GILTI, over the P group's consolidated taxable income. Therefore, 
the limitation described in paragraph (b)(2) of this section 
applies.
    (B) Allocation of reduction. Under paragraph (b)(2)(i) of this 
section, the P group's consolidated FDII is reduced by an amount 
which bears the same ratio to the consolidated section 250(a)(2) 
amount as the consolidated FDII bears to the sum of the consolidated 
FDII and consolidated GILTI, and the P group's consolidated GILTI is 
reduced by the excess of the consolidated section 250(a)(2) amount 
over the reduction described in paragraph (b)(2)(i) of this section. 
Therefore, for purposes of determining the P group's consolidated 
FDII deduction amount and consolidated GILTI deduction amount, its 
consolidated FDII is reduced to $221.54x ($240x -($25x x ($240x/
$325x))) and its consolidated GILTI is reduced to $78.46x ($85x -
($25x -($25x x ($240x/$325x)))).
    (C) Calculation of consolidated FDII deduction amount and 
consolidated GILTI deduction amount. Under paragraph (e)(4) of this 
section, the P group's consolidated FDII deduction amount is $83.08x 
($221.54x x 0.375). Under paragraph (e)(8) of this section, the P 
group's consolidated GILTI deduction amount is $46.73x (($78.46x + 
10x + 5x) x 0.50).
    (D) Member's deduction attributable to the consolidated FDII 
deduction amount. As in paragraph (f)(1)(ii)(G) of this section (the 
analysis in Example 1), the FDII deduction allocation ratios of P, 
USS1, and USS2 are 0, \2/3\, and \1/3\, respectively. Therefore, P, 
USS1, and USS2 are permitted deductions attributable to the 
consolidated FDII deduction amount of $0 (0 x $83.08x), $55.39x (\2/
3\ x $83.08x), and $27.69x (\1/3\ x $83.08x), respectively.
    (E) Member's deduction attributable to the consolidated GILTI 
deduction amount. As in paragraph (f)(4)(ii)(C) of this section (the 
analysis in Example 4), the GILTI deduction allocation ratios of P, 
USS1, and USS2 are 0, \3/4\, and \1/4\, respectively. Therefore, P, 
USS1, and USS2 are permitted deductions attributable to the 
consolidated GILTI deduction amount of $0 (0 x $46.73x), $35.05x 
(\3/4\ x $46.73x), and $11.68x (\1/4\ x $46.73x), respectively.
    (F) Member's deduction pursuant section 250. Under paragraph 
(b)(1) of this section, a member is allowed a deduction equal to the 
sum of the member's deduction attributable to the consolidated FDII 
deduction amount and the member's deduction attributable to the 
consolidated GILTI deduction amount. As a result, P, USS1, and USS2 
are entitled to deductions under paragraph (b)(1) of this section of 
$0 ($0 + $0), $90.44x ($55.39x + $35.05x), and $39.37 x ($27.69x + 
$11.68x), respectively.

    (g) Applicability date. This section applies to consolidated return 
years beginning on or after January 1, 2021. A taxpayer that chooses to 
apply the rules in Sec. Sec.  1.250(a)-1 and 1.250(b)-1 through 
1.250(b)-6 to taxable years beginning before January 1, 2021, pursuant 
to Sec.  1.250-1(b), must also apply the rules of this section in their 
entirety to consolidated return years beginning after December 31, 
2017, and before January 1, 2021.

0
Par. 8. Section 1.6038-2 is amended by adding paragraphs (f)(15) and 
(m)(4) to read as follows:


Sec.  1.6038-2   Information returns required of United States persons 
with respect to annual accounting periods of certain foreign 
corporations.

* * * * *
    (f) * * *
    (15) Information reporting under section 250. If the person 
required to file Form 5471 (or any successor form) claims a deduction 
under section 250(a) that is determined, in whole or part, by reference 
to its foreign-derived intangible income, and any amount required to be 
reported under paragraph (f)(11) of this section is included in its 
computation of foreign-derived deduction eligible income, such person 
will provide on Form 5471 (or any successor form) such information that 
is prescribed by the form, instructions to the form, publication, or 
other guidance published in the Internal Revenue Bulletin.
* * * * *
    (m) * * *
    (4) Paragraph (f)(15) of this section applies with respect to 
information for annual accounting periods beginning on or after March 
4, 2019.

0
Par. 9. Section 1.6038-3 is amended by adding paragraph (g)(4) and a 
sentence to the end of paragraph (l) to read as follows:


Sec.  1.6038-3   Information returns required of certain United States 
persons with respect to controlled foreign partnerships (CFPs).

* * * * *
    (g) * * *
    (4) Additional information required to be submitted by a 
controlling ten-percent or a controlling fifty-percent partner that has 
a deduction under section 250 by reason of FDII. In addition to the 
information required pursuant to paragraphs (g)(1), (2), and (3) of 
this section, if, with respect to the partnership's tax year for which 
the Form 8865 is being filed, a controlling ten-percent partner or a 
controlling fifty-percent partner has a deduction under section 250 (by 
reason of having foreign-derived intangible income), determined, in 
whole or in part, by reference to the income, assets, or activities of 
the partnership, or transactions between the controlling-ten percent 
partner or controlling fifty-percent partner and the partnership, the 
controlling ten-percent partner or controlling fifty-percent partner 
must provide its share of the partnership's gross DEI, gross FDDEI, 
deductions that are properly allocable to the partnership's gross DEI 
and gross FDDEI, and partnership QBAI (as those terms are defined in 
the section 250 regulations) in the form and manner and to the extent 
prescribed by Form 8865 (or any successor form), instructions to

[[Page 43117]]

the form, publication, or other guidance published in the Internal 
Revenue Bulletin. To the extent that the partnership amounts described 
in the previous sentence cannot be determined, the controlling ten-
percent partner or controlling fifty-percent partner must provide its 
share of the partnership's attributes that the partner uses to 
determine the partner's gross DEI, gross FDDEI, deductions that are 
properly allocable to the partner's gross DEI and gross FDDEI, and the 
partner's adjusted bases in partnership specified tangible property.
* * * * *
    (l) * * * Paragraph (g)(4) of this section applies for tax years of 
a foreign partnership beginning on or after March 4, 2019.

0
Par. 10. Section 1.6038A-2 is amended by adding paragraph (b)(5)(iv) 
and a sentence at the end of paragraph (g) to read as follows:


Sec.  1.6038A-2   Requirement of return.

* * * * *
    (b) * * *
    (5) * * *
    (iv) If, for the taxable year, the reporting corporation has a 
deduction under section 250 (by reason of having foreign-derived 
intangible income) with respect to any amount required to be reported 
under paragraph (b)(3) or (4) of this section, the reporting 
corporation will provide on Form 5472 (or any successor form) such 
information about the deduction in the form and manner and to the 
extent prescribed by Form 5472 (or any successor form), instructions to 
the form, publication, or other guidance published in the Internal 
Revenue Bulletin.
* * * * *
    (g) * * * Paragraph (b)(5)(iv) of this section applies with respect 
to information for annual accounting periods beginning on or after 
March 4, 2019.


Douglas W. O'Donnell,
Acting Deputy Commissioner for Services and Enforcement.
    Approved: June 12, 2020.
David J. Kautter
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2020-14649 Filed 7-9-20; 11:15 am]
BILLING CODE 4830-01-P