Tax Insight

Proposed rules address OBBBA expense apportionment of deductions to foreign source income

Insight
5 minute read
September 11, 2026

What happened?

Treasury and the IRS on September 11 published proposed regulations implementing the One Big Beautiful Bill Act (OBBBA) amendments to Section 250(b)(3) and the new Section 904(b)(5). With respect to Section 904(b)(5), the proposal interprets the statutory ‘directly allocable’ standard to determine which expenses continue to reduce Section 951A category income and provides rules for reallocating other deductions from Section 951A category income to US source income.

Why is it relevant?

The proposed rules may require taxpayers to reassess deductions historically apportioned to Section 951A category income. Treasury would treat the vast majority of expenses (e.g., stewardship, legal and accounting, damages and settlement payments, and supportive expenses) as not directly allocable. Interest expense and other deductions that are not ‘directly allocable’ and that otherwise would have been allocated or apportioned to the Section 951A category generally would instead reduce US source income for all purposes of Section 904. Given this broad reallocation mechanic, the proposed rules also clarify the interaction of reallocated expenses and the overall domestic loss (ODL), overall foreign loss (OFL), and separate limitation loss (SLL) rules. Finally, the proposed rules also provide guidance on the interaction of Section 904(b)(5) and net operating loss (NOL) deductions, as well as the OBBBA amendments to allocating expenses for purposes of determining foreign-derived deduction eligible income (FDDEI).

Actions to consider

Taxpayers should identify the deductions currently allocated or apportioned to Section 951A category income before applying Section 904(b)(5). Taxpayers should then evaluate those deductions under the proposed ‘directly allocable’ standard and model the effect of any reallocation on the Section 951A limitation, US source income, NOL attributes, and ODL accounts. Taxpayers also should evaluate the deductions currently allocated and apportioned for FDDEI purposes.

Companies should consider providing comments on the proposed regulations, which are due by November 10, 2026.