Allocation & Apportionment
Tx 8300
Learning Objectives
You should be able to:
1. Explain the __________ of allocation and
apportionment rules,
2. Apply _______ allocation and
apportionment rules,
3. Apportion _________ deductions, and
4. Apportion ____ deductions
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
Categorization of deductions to
_______ of _____ income
Apportionment
Categorization of deductions between
_______ and _________ groupings
Statutory grouping
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?
Allocation: U.S. Person
Sales commissions
Rental deductions
Administrative deductions
Gross Profit
from Sales
Rental Income
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
Apportionment: U.S. Person
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 USSI
Apportioned
Against FSI
Factual relationship: __% of
sales occur abroad
Apportionment: U.S. Person
Rental Income
Apportioned
Against USSI
Apportioned
Against FSI
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?
Allocation: Foreign Person
Selling expenses
Royalty expenses
Administrative expenses
DVD Sales
DVD Royalties
Apportionment: 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 Sales
DVD Royalties
Apportionment: Foreign Person
DVD Sales
Apportioned
Against Other
Apportioned
Against ECI
Factual relationship: __% of
sales yield ECI
Apportionment: Foreign Person
DVD Royalties
Apportioned
Against ECI
Factual relationship: __% of
technology relates to U.S. use
Apportioned
Against Other
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:
Domco
Foreign sub
U.S. Assets
$200
0
Foreign Assets
$100
120
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:
Product X
Allocation
Product X
Product Y
U.S. Sales
70%
Foreign Sales
30%
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:
Product Y
Allocation
Product X
Product Y
U.S. Sales
60%
Foreign Sales
40%
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.
Sales Method Apportionment
USSI
FSI
R&E deduction
Gross Income Method Apportionment
USSI
FSI