USA Update: IRS Proposes New Deduction Allocation Rules for CFC Income and FDII, Comments Close 10 November 2026

by Ariful | Sep 28, 2026 | US Updates

The IRS has proposed new rules that could change how certain deductions affect foreign tax credit calculations and the FDII deduction for tax years beginning after 31 December 2025.

The proposal is most relevant to US C corporations claiming the FDII deduction and US shareholders of controlled foreign corporations (CFCs). It may also matter to non-US founders who own US entities that elect corporate treatment.

The IRS published the proposal as REG-117273-25 in Internal Revenue Bulletin 2026-40 on 28 September 2026. Written comments and requests for a public hearing must be submitted by 10 November 2026 through Regulations.gov.

The rules are still proposed. Their mechanics may change before finalisation. However, taxpayers may generally rely on them for qualifying tax years beginning after 31 December 2025, provided they follow the proposed rules in full.

Check whether the proposal affects your US group

You should review these changes if your business includes any of the following:

• A US C corporation claiming the section 250 FDII deduction.
• A US corporation with one or more foreign subsidiaries that are CFCs.
• A US-headquartered ecommerce, SaaS, agency or digital services group selling internationally.
• A UK, Canadian, Australian or UAE-based founder operating a US corporation.
• A foreign-owned US LLC or single-member entity that has elected corporate tax treatment.
• A group claiming foreign tax credits against foreign-source income.

The rules are less directly relevant to a foreign-owned US LLC that remains a disregarded entity for US federal income tax purposes. However, its reporting and bookkeeping records may still need to support the US entity’s tax classification, transactions and compliance filings.

Understand the new section 904(b)(5) allocation rules

The One Big Beautiful Bill Act (OBBBA), Public Law 119-21, added new section 904(b)(5). The change applies to tax years beginning after 31 December 2025.

Section 904 limits the foreign tax credit to the US tax attributable to foreign-source taxable income. To calculate that limitation, taxpayers must allocate and apportion deductions between US-source income and foreign-source income categories.

The proposed regulations create special rules for foreign-source section 951A category income, commonly associated with GILTI or CFC tested income.

Under the proposal:

1. Section 250 deductions attributable to net CFC tested income are allocated to foreign-source section 951A category income.
2. Certain state and local income tax deductions connected with that income are also allocated to the section 951A category.
3. Interest expense is not allocated to foreign-source section 951A category income.
4. Research and experimental expenditure deductions are not allocated to that category.
5. Other deductions are allocated to section 951A category income only if they are directly allocable.

Any excluded deduction that would previously have been allocated to foreign-source section 951A category income is instead reallocated to US-source income.

This is important because the reallocation can change your foreign tax credit limitation, US-source loss position and future overall domestic loss calculations.

Identify which deductions are directly allocable

The IRS proposal interprets “directly allocable” more narrowly than “properly allocable”.

A deduction may be properly allocable under the general section 861 rules but still fail the closer connection required under section 904(b)(5).

The proposed rules specifically identify the following as not directly allocable to foreign-source section 951A category income:

• Stewardship expenses.
• Legal and accounting fees and expenses.
• Damages awards.
• Prejudgment interest.
• Settlement payments.
• Overhead costs.
• General and administrative expenses.
• Supervisory and other supportive expenses.

These costs may have supported the group’s wider operations. That does not necessarily create the direct connection required to reduce section 951A category income under the proposed rules.

The proposal identifies certain items that may be directly allocable, including:

• Section 986(c) foreign currency losses arising from distributions of previously taxed earnings and profits (PTEP).
• Net operating loss deductions allocated to the section 951A category under the applicable rules.

This makes accurate transaction tagging essential. For example, your accounting records should separately identify PTEP distributions, related foreign exchange movements and the CFC income category connected with each distribution.

See how reallocation can create a US-source loss

The IRS provides an example showing why these rules may produce a significant result.

In simplified terms, a US corporation has:

• $100x of US-source income.
• $60x of foreign-source section 951A category income.
• $50x of foreign-source general category income.
• Interest expense and supportive expenses that would previously have reduced section 951A income.

Under the proposed rules, $40x of interest expense and $10x of supportive deductions are reallocated to US-source income.

That changes the company’s US-source position from $30x of income to a $20x domestic loss.

The section 951A category income is no longer reduced by those reallocated deductions. Instead, the domestic loss may reduce foreign-source income across relevant categories under the section 904 rules. It may also create an overall domestic loss (ODL).

An ODL can affect how US-source income is treated as foreign-source income in later years. In practical terms, an allocation decision made for the current year may affect foreign tax credit calculations and income sourcing in future periods.

Recalculate DEI and FDDEI for the FDII deduction

The proposal also updates the calculation of deduction eligible income (DEI) and foreign-derived deduction eligible income (FDDEI) under section 250.

For tax years beginning after 31 December 2025, DEI and FDDEI are reduced by expenses and deductions, including taxes, that are properly allocable to the relevant gross income.

However, the calculation is made without regard to interest expense and research or experimental expenditures.

This means DEI and FDDEI are treated as measures of taxable income after the relevant deductions, but before interest expense and R&E deductions are taken into account for this purpose.

For an international seller, this may affect the amount of income eligible for the section 250 deduction. You should review how your accounting system identifies:

• Foreign-use sales.
• Services provided to non-US persons or relating to property outside the United States.
• Revenue by customer location.
• Revenue by product, service and market.
• Operating expenses connected with FDDEI.
• State and local income taxes.
• Interest expense and R&E expenditure categories.

The IRS has also stated that it intends to issue separate section 250 guidance on other OBBBA changes, including the removal of the deemed tangible income return and deemed intangible income from the FDII calculation.

USA Update: IRS Extends Remittance Transfer Tax Penalty Relief, What International Sellers Must Know Before the 2 November Form 720 Deadline

by Ariful | Sep 27, 2026 | US Updates

TITLE: IRS Extends Penalty Relief for the 1% Remittance Transfer Tax

The IRS Has Extended Penalty Relief for the New US Remittance Transfer Excise Tax

On 24 September 2026, the IRS issued Notice 2026-52. The notice extends relief previously provided by Notice 2025-55.

The relief now continues for eligible semimonthly deposit periods until final regulations under Internal Revenue Code section 4475 become applicable. It is no longer limited to the first three quarters of 2026.

For international sellers, ecommerce businesses and non-US owners of US LLCs, the key question is simple:

Did any business or personal transfer from the United States use cash or another physical payment instrument?

For most businesses using ordinary bank-to-bank wires, the 1% tax does not apply.

What Changed on 24 September 2026?

Notice 2026-52 extends temporary relief from the failure-to-deposit penalty under IRC section 6656.

A remittance transfer provider can be treated as meeting the reasonable cause standard if it:

1. Makes timely semimonthly deposits, even if the amounts are calculated incorrectly.
2. Pays any quarterly underpayment in full by the Form 720 filing deadline.

The notice also preserves access to the deposit safe harbour under Treasury Regulation section 40.6302(c)-1(b)(2), provided the reasonable cause conditions are satisfied.

This relief is important because the rules are new, the final regulations are still pending, and providers have had to build systems while the IRS continues to clarify the tax treatment.

The relief does not remove the tax itself. It also does not excuse a late Form 720 or an unpaid balance after the return deadline.

Understand the 1% Remittance Transfer Tax Before Reviewing Your Records

IRC section 4475 was added by section 70604 of the One, Big, Beautiful Bill Act, Public Law 119-21.

It imposes a 1% excise tax on certain remittance transfers made after 31 December 2025.

The tax generally applies when:

• A sender in the United States transfers money to a recipient outside the United States.
• The sender funds the transfer with cash.
• The sender uses a money order, cashier’s check, traveller’s check or similar physical instrument.

The tax generally does not apply when the transfer is funded:

• From an account at a regulated financial institution.
• With a US-issued debit card.
• With a US-issued credit card.

The sender is liable for the tax. However, the remittance transfer provider must collect and remit it. If the provider fails to collect the tax, the liability can become the provider’s responsibility.

The first semimonthly deposit was due on 29 January 2026. Providers report the liability on Form 720, Quarterly Federal Excise Tax Return, using IRS No. 155.

The IRS Form 720 instructions confirm that providers must make semimonthly deposits and file quarterly returns.

When Does the Tax Attach?

The tax attaches at the earlier of:

• The provider initiating the transfer.
• The sender paying for the transfer.

It can apply even if the money is never paid to the recipient.

If a transfer is cancelled or expires and the funds are returned, refund or credit rights may be available. Keep the cancellation evidence, original receipt, payment record and proof of returned funds. This documentation will support the accounting treatment and any claim.

What Notice 2026-52 Actually Changes

Notice 2025-55 covered the first three calendar quarters of 2026.

Notice 2026-52 modifies and amplifies that relief. It now applies to semimonthly periods ending before the applicability date of final section 4475 regulations.

This creates an open-ended transition period. The relief continues until final regulations become applicable, rather than ending automatically after September 2026.

However, you must still act carefully:

• Make each required deposit on time.
• Record how the deposit was calculated.
• Reconcile the actual quarterly liability.
• Pay any shortfall by the Form 720 due date.
• Monitor when final regulations become applicable.

The Treasury and IRS published proposed regulations under REG-114499-25 in April 2026. The comment period closed on 12 June 2026. The proposal includes anti-avoidance rules that may allow the IRS to disregard or recharacterise arrangements designed mainly to avoid the tax.

Examples include using prepaid or gift cards as pass-through instruments before sending money overseas.

Mark 2 November 2026 for the Third-Quarter Form 720

The third-quarter 2026 Form 720 covers transfers made during July, August and September.

The normal deadline is 31 October. Because that date falls on a Saturday, the return is due on Monday, 2 November 2026.

By that deadline, a qualifying provider must:

• File the third-quarter Form 720.
• Report the remittance transfer tax under IRS No. 155.
• Pay the full quarterly liability.
• Pay any underpayment arising from earlier semimonthly deposits.

Do not treat the extended penalty relief as permission to delay payment. It protects against a specific failure-to-deposit penalty where the stated conditions are met. It does not provide a general filing or payment extension.

The IRS recommends electronic filing for excise tax returns where available. The IRS excise tax guidance also explains that some Form 720 filers must make semimonthly deposits in addition to filing the quarterly return.

New Examiner Guidance Signals Closer Review

On 8 September 2026, IRS Small Business/Self-Employed issued interim guidance updating IRM 4.26.6.5.3.16.

The SB/SE memorandum allows examiners to refer potential foreign remittance tax issues to the excise tax function using Form 5346.

The guidance highlights:

• Foreign transfers funded by cash where no remittance tax was collected or paid.
• Prepaid or gift card purchases followed by an overseas transfer for the same or a similar amount.
• Unusual patterns of cancelled or expired foreign transfers.
• Transactions that may have been structured mainly to avoid the tax.

The memorandum also confirms an important boundary: inbound money transmissions received in the United States are not subject to the section 4475 tax.

This does not mean every international seller is automatically at risk. It means your records should clearly distinguish:

• Money received from customers or marketplaces.
• Ordinary bank payments to suppliers.
• Cash-funded outbound remittances.
• Transfers that were cancelled or refunded.

Money transfer counters are common in major US trade and immigrant communities, including parts of California, Texas, Florida, New York, New Jersey and Illinois. If your business, owner or staff uses a counter-based service, review those transactions now.

Three Examples for International Sellers

1. UK Owner of a Wyoming Single-Member LLC

A UK resident owns a Wyoming single-member LLC. The owner withdraws profits and sends the money