Making the Most of U.S. Tax Incentives for Foreign Sales through IC-DISC and FDII
May 1, 2020
More than 90 percent of the global market for goods and services is outside the United States. To encourage U.S. companies to expand domestic operations by selling goods and services abroad, the U.S. tax code features two tax incentives: (1) the IC-DISC, and (2) the FDII deduction.
The Interest-Charge Domestic International Sales Corporation (“IC-DISC”)
The IC-DISC is a separate corporate entity set up to earn a deemed commission from the U.S. operating company that actually receives income from export sales. While the commission is fully deductible by the U.S. operating company, the IC-DISC pays no income tax on its commission income. These export profits may be deferred from tax until the IC-DISC income is actually distributed or deemed distributed to the IC-DISC shareholders.
If deferred, the shareholders pay interest on the amount deferred, but at the base period T-bill rate for the one-year period ending September 30. In today’s interest rate environment, this is a very low rate. Upon distribution of export profits, IC-DISC dividends are taxable at capital gains rates for individual shareholders.
The IC-DISC must comply with strict statutory reporting requirements, but is not required to perform any substantive economic activities. The shareholders of the IC-DISC may include any type of person (corporation, partnership, trust, individual, etc.).
The Foreign-Derived Intangible Income (“FDII”) Deduction
For taxable years beginning after December 31, 2017, a U.S. corporation may claim a deduction based on the amount of its foreign-derived intangible income (“FDII”). The FDII deduction is generally driven by two factors: (1) the amount of the corporation’s net “foreign-derived” income relative to its total net income; and (2) the corporation’s deemed intangible income, which is generally equal to the excess of the corporation’s total net income over a routine 10-percent rate of return on the adjusted tax basis of its total fixed assets.
Under this broad definition of FDII, a corporation’s foreign-derived income may include sales of intangible or tangible products (whether manufactured or purchased for resale by the corporation) to a foreign person for use outside the U.S., as well as income derived from a broad range of services. Under certain circumstances, foreign-derived services income may include amounts received from a U.S. person, and amounts received related to services physically performed within the U.S.
| IC-DISC | FDII | |
| What type of person can benefit? | Anyone, including individual, partnership, S-corporation, C-corporation | C-corporation only |
| What income qualifies? | More restrictive – limited to sale or lease of qualified export property and certain services (engineering, architectural). Export property must be produced in US and cannot be more than 50% attributable to foreign content. | Broader – includes sales of any intangible or tangible property to a foreign person for foreign use. Various services with a foreign connection. |
| Taxable income limitation? | No | Yes |
| Definition of “US” or “domestic” (“Foreign” = not “domestic”) |
50 States, D.C., Puerto Rico, and US possessions | 50 States and D.C. only |
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