Allocation & Apportionment Tx 8300

Learning Objectives 1.Explain the __________ of allocation and apportionment rules, 2.Apply _______ allocation and apportionment rules, 3.Apportion _________ deductions, and 4.Apportion ____ deductions You should be able to:

Purpose of Apportionment ____ taxpayers claim the foreign tax credit for foreign ______ tax paid or accrued. However, the FTC is limited to the following result:

Purpose: FTC Example Domco earns $____ U.S. taxable income and $____ foreign taxable income. The U.S. and foreign tax rates are 35% and ___%, respectively. What is Domco’s foreign tax credit?

Purpose of Apportionment The U.S. taxes foreign persons on two categories of income: –Effectively _________ income –U.S. ______ investment income

Initial Remarks Sourcing income –Identify ____ of income –Apply appropriate source rule Allocating and apportioning deductions –Allocate deductions to _____ income ________ –Apportion deductions to FSI or USSI Most rules appear in Reg. §1.861-__ to -__.

Terminology Operative section IRC section requiring _______ income from an activity or source Allocation Apportionment Statutory grouping Categorization of deductions to _______ of _____ income Categorization of deductions between _______ and _________ groupings Gross income from an ________ or _____ that an operative section identifies Residual grouping Gross income not falling into _________ grouping

Allocation Rules Allocate deductions to gross income classes when they _________ ______ Allocate deductions to ___ gross income classes when they definitely ______ Do not allocate deductions _________ to any gross income class Do not ________ personal and dependency exemptions

Allocation: U.S. Person Domco sells and leases construction equipment, deriving $500 gross profit from sales and $300 rental income. It incurs the following deductions: Sales commissions Rental expenses Administrative expenses How should Domco allocate these deductions?

Gross Profit from Sales Sales commissions Rental deductions Administrative deductions Rental Income Allocation: U.S. Person

Apportionment Rules When deductions definitely relate to one or more gross income classes, apportion based on _______ relationship When deductions do not definitely relate to gross income classes, apportion based on _____ income Do not _________ personal and dependency exemptions

Assume that ___% of Domco’s sales occur abroad and apportion sales deduction on this basis. Assume that ___% of Domco’s rental equipment is located abroad and apportion rental deductions on this basis. Gross Profit from Sales Rental Income Apportionment: U.S. Person

Gross Profit from Sales Apportioned Against FSI Apportioned Against USSI Apportionment: U.S. Person Factual relationship: __% of sales occur abroad

Apportioned Against FSI Apportioned Against USSI Rental Income Apportionment: U.S. Person Factual relationship: __% of equipment is located abroad

Allocation: Foreign Person Forco sells DVD players and licenses its DVD technology, deriving $300 gross profit from sales and $700 royalty income. It incurs the following deductions: Selling expenses Royalty expenses Administrative expenses How should Forco allocate these deductions?

DVD Sales Selling expenses Royalty expenses Administrative expenses DVD Royalties Allocation: Foreign Person

Assume that 40% of Forco’s sales result in ECI and apportion selling expenses on this basis. Assume that Forco licenses 20% of its technology for U.S. use and apportion royalty deductions on this basis. DVD SalesDVD Royalties Apportionment: Foreign Person

DVD Sales Apportioned Against ECI Apportioned Against Other Apportionment: Foreign Person Factual relationship: __% of sales yield ECI

Apportioned Against ECI Apportioned Against Other DVD Royalties Apportionment: Foreign Person Factual relationship: __% of technology relates to U.S. use

Special Rules for Interest Procedures differ for U.S. and foreign persons Rules based on money’s _________ nature Cannot apportion based on gross income Must apportion based on _______

U.S. Taxpayers: Interest Apportionment ___-taxpayer rule Based on _____ values: –Tax ____ value method or –Fair market value method

Apportionment: Example Domco incurs $__ interest expense, and its foreign subsidiary incurs $__. Apportion interest based on the following asset values: U.S. AssetsForeign Assets Domco$200$100 Foreign sub0120

Special Rules for Research Product categories are gross income _______ Apportionment based on: –_____ method Exclusive apportionment of ___% Residual apportioned based on sales within product classes –_____ income method Exclusive apportionment of ___% Residual apportioned based on overall _____ income Apportionment must be ≥ ___% of apportionment to statutory and residual groupings under sales method

Apportioning R&E: Example Domco conducts research in Phoenix for products X and Y. Its R&E deduction is $400, ___% attributable to Product Y. Apportion R&E for Product X based on the information below: U.S. SalesForeign Sales Product X70%30% Allocation Product X Product Y Product X Apportionment via Sales Method USSI FSI

Apportioning R&E: Example Domco conducts research in Phoenix for products X and Y. Its R&E deduction is $400, ___% attributable to Product Y. Apportion R&E for Product Y based on the information below: U.S. SalesForeign Sales Product Y60%40% Allocation Product X Product Y Product Y Apportionment via Sales Method USSI FSI

Apportioning R&E: Example Domco conducts research in Phoenix for products X and Y. Its R&E deduction is $400, ___% attributable to Product Y. Apportion R&E using the gross income method. Assume that ___% of Domco’s gross income is from U.S. sources. Gross Income Method Apportionment USSI FSI Sales Method Apportionment USSI FSI R&E deduction