As many taxpayers move past the transition tax and other provisions that needed to be addressed immediately, next on the list are the foreign-derived intangible income deduction (FDII) and the global intangible low-taxed income (GILTI). Despite having similar terms and measurements, these two new laws are actually very different, and this is likely what is causing confusion.
Many scholars and articles have deemed the interaction of GILTI and FDII as a carrot and stick approach to tax reform. This is a good way to conceptualize the interplay, as these two provisions work in tandem to encourage operations from the U.S. and discourage earning intangible income through a foreign subsidiary. However, one major difference is that GILTI applies to any U.S. shareholder, while FDII only applies to C corporations.
The Carrot – FDII
Under FDII, a benefit is given for income that is deemed to be generated using foreign intangibles. This is not based on the actual income generating of an intangible but rather it is backed into through a complex formula comparing foreign sourced income to the U.S. asset base. The benefit is that if the income qualifies, it can enjoy a lower tax rate on this income through a deduction. The incentive here is for U.S. C corporations to conduct their global business from the U.S.
The Stick – GILTI
We have received many calls with taxpayers asking, “if they can use GILTI.” GILTI is not a benefit, it is a deemed income inclusion when certain foreign income is earned through intangibles by a foreign subsidiary, similar to Subpart F. Therefore, you do not want GILTI. GILTI is to discourage earning intangible income through a controlled foreign corporation by imputing current taxable income. Without this inclusion, the foreign earned intangible income of the subsidiary would not be taxable in the U.S. until it was repatriated, or possibly never if it qualified for the participation exemption.
In the future, we will dive into these topics in more depth, but it is very important to understand the differences. Overall, both provisions fit the standard format for U.S. international tax law; encourage investment into the U.S. and discourage investment out of the U.S.