Guidance released on new exclusion of certain income from FDII under OBBBA

Notice 2025-78 has been released by the IRS and Treasury which further clarifies and expands upon the new exclusion of income or gain from the sale or disposition of certain intangible and other depreciable, amortizable or depletable property from deduction eligible income (DEI) for the purposes of the foreign derived intangible income (FDII) deduction (or rather foreign derived deduction eligible income (FDDEI) post-2025). This change will apply to sales and dispositions of in-scope property occurring after June 16, 2025. 

Overview

Since the enactment of the Tax Cuts and Jobs Act (TCJA), C corporation taxpayers have generally been allowed a 37.5% deduction (i.e., the FDII deduction) for qualifying foreign export income (net of properly allocable and apportionable expenses). FDDEI generally includes income from qualifying export sales (or export services) that are ultimately consumed (or benefitted from) abroad. DEI (and FDDEI) have historically included income or gain from the sale or exchange of intangible property or tangible property that is of a depreciable, amortizable or depletable nature to persons outside the U.S.

The One Big Beautiful Bill Act (OBBBA) amends the FDII (FDDEI post-2025) deduction in a few ways, which includes its notable transition from FDII to FDDEI post-2025 due to the removal of the substance-based hurdle derived from qualified business asset investment (QBAI). For a complete review of all changes to the FDII deduction, please see

• Revamp and rebrand of the FDII regime
• 2025 Year-end tax considerations for international tax planning
• Key international tax provisions in the Senate-approved bill

The OBBBA change relevant here is the elimination of income or gain from the sale or disposition of intangible property or any other property of a type that is subject to depreciation, amortization or depletion by the seller from being DEI. This change applies to applicable sales or dispositions beginning after June 16, 2025, which is an earlier effective date than that of other changes to the FDII regime, which are generally applicable to taxable years beginning after Dec. 31, 2025.

Notice 2025-78

The IRS and Treasury released Notice 2025-78 (the Notice), the fourth of four notices released to clarify various OBBBA international provision changes, which announces the intent to issue proposed regulations on point. The Notice further defines certain terms relevant to the exclusion of income or gain from the sale or disposition of intangible property or other property that is depreciable, amortizable or depletable, providing definitions for a “sale or other disposition,” “intangible property,” “other excluded property,” and “seller” as well as introduces a related-party anti-abuse rule. Further, the notice clarifies by way of example (Example 4) that in the case of sales of in-scope property between members of the same consolidated group for federal tax purposes, the redetermination rules apply to achieve single entity treatment pursuant to Treas. Reg. section 1.1502-13.

Definitions

The Notice describes a “sale or other disposition” as a sale or disposition under general tax principles and includes deemed sales or dispositions (including transfers described under section 367(d)).

“Intangible property” (IP) is defined by leveraging section 367(d)(4), which describes IP as generally including items such as patents, copyrights, trademarks, franchises, licenses, methods and/or goodwill but notably excluding certain copyrighted articles that are copies of digital content in any medium “from which the work can be perceived, reproduced, or otherwise communicated, either directly or with the aid of a machine or device” (see section 1.861-18(c)(3)).

The Notice defines “other excludable property” as other property that is subject to depreciation (under section 167), amortization or depletion (under section 611) by the seller other than that considered to be intangible property as defined above. The “seller” in this context means any domestic corporation that sells intangible property or other excludable property relevant to the calculation of a FDII (pre-2026) or FDDEI (post- 2025) deduction.

Related-party anti-abuse rule

The related-party anti-abuse rule generally will treat certain property as other excludable property if such property was other excludable property of a member of the seller’s modified affiliated group that was acquired by the seller in a transaction where the basis carries over and the principal purpose of such transaction was the avoidance of this income exclusion rule. For this purpose, the term modified affiliated group is generally as defined under section 1504(a) and including related corporations that have at least 80% common ownership (by vote and value) and noncorporate entities where the noncorporate entity is controlled by, or has control of (by at least 80%), another member of the modified affiliated group.

Single entity treatment under the consolidated group regulations

As stated above, Example 4 in the Notice specifies that single entity treatment applies with regards to sales of in-scope property within a consolidated group that is subsequently sold outside the consolidated group. For example, in the case of a transaction where one member of a consolidated group sells 10 airplanes (excludable property in that member’s hands) to another member of the same consolidated group (who holds the airplanes in inventory, which is not excludable property) who resells them to a unrelated foreign party, must view each of the members as if they were divisions of the same corporation to determine if there is any necessary redetermination. In this case, the airplanes would have generally retained their character as excludable property, and, thus, any gain resulting from the sale (i.e., the collective gain from both the intercompany sale and the third-party sale) would be excluded from DEI.

Applicability and reliance

The Notice can be relied upon until such time the forthcoming regulations are published with those regulations expected to apply to sales or dispositions (including deemed sales and dispositions and transactions subject to section 367(d)) occurring after June 16, 2025. Comments on rules set forth in the Notice are requested and must be submitted by Feb. 2, 2026.

If you have questions on how the above may impact your tax situation, please reach out to your Baker Tilly tax advisor.