Disclaimer: The rules related to FDII is complex and will require guidance from Congress or the IRS for additional clarification. Please contact your Lurie advisor to discuss your specific situation.
The tax act introduced a new preferential rate on deemed intangible income related to export activities of domestic C-Corporations for tax years starting in 2018. We anticipate this was an incentive for Corporations to promote US production activities.
Foreign-derived intangible income (FDII) is essentially a new category of income and is a permanent deduction. To the extent that the FDII exceeds 10% of the taxpayer’s Qualified Business Asset Investment (QBAI)* there is a special deduction available to reduce the effective tax rate to 13.125% (rather than 21%) for tax years 2018-2025, increasing to 16.406% starting in 2026.
FDII implies the revenue stream relates to intangible income, however, this deduction actually applies to the revenue streams generated from export activities.
What income qualifies for the deduction?
Qualifying income is often referred to as “deemed intangible income.” At a high level, corporate taxpayers who generate gross receipts from the following activities qualify for the deduction:
- Sales of property to a non-US party for use outside the US
- Sales include sale, lease, license, exchange or other dispositions
- Services provided to any person, or with respect to property, not located in the US
Transactions with foreign related parties are subject to special rules.
Income generally not included:
- Gross income from sources attributable to controlled foreign corporations (CFCs) or foreign branches (including Subpart F income and GILTI** income)
- Financial services income
- Income from domestic oil and gas extraction
Calculation to determine taxable income
The formula to determine FDII is complex, however, to determine the FDII and the QBAI, there are limitations related to taxable income such as the deduction available cannot reduce taxable income below zero. Further, Corporations also subject to GILTI** tax have additional calculation considerations in determining the final deduction available.
For corporations with export activities (products and services), this new provision may help reduce taxable income. Certain corporations with lower levels of tangible personal property may receive a larger benefit based on their specific situation. Overall, the FDII calculation is complex and analysis will be necessary to maximize the benefit.
If you have any questions or would like additional information on how this change could affect you or your business, please contact your Lurie advisor.
*QBAI – qualifying assets used by the taxpayer in their trade or business that are depreciable on section 167.
**Refer to article – The GILTI Tax | New anti-deferral rules for shareholders of controlled foreign corporations published August 14, 2018.