Article

Proposed section 899 would increase tax rates on payments to foreign persons

House and Senate are marking a new period of retaliatory tax enforcement

June 27, 2025

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This article, originally published the morning of June 26, has been updated to reflect that Republican congressional leaders in the evening of June 26 announced they would remove the section 899 proposal from the broad taxation-and-spending package after the secretary of the U.S. Department of the Treasury announced a tax agreement with G7 countries.   

Executive summary

Section 899 would mark a new era of retaliatory tax enforcement

Congress is considering a new section of tax code designed to target inbound investment from countries that have in force an “unfair foreign tax.” Section 899, titled “Enforcement of Remedies Against Unfair Foreign Taxes,” could have significant, complex repercussions for inbound business activities and investment from impacted countries, including:

  • Increased tax rates on various classifications of income
  • Modified application of tax treaties
  • More stringent application of the base erosion and anti-abuse tax (BEAT)

The U.S. House of Representatives on May 22 approved its proposed version of section 899 as part of the One Big Beautiful Bill Act (OBBBA). The Senate subsequently took up the legislation and on June 16 proposed changes. The form section 899 will take in the final legislation has yet to be determined. Republicans have set a working deadline of July Fourth for enactment.

Then, Republican congressional leaders on June 26 announced they would remove the section 899 proposal from the broad taxation-and-spending package after the secretary of the U.S. Department of the Treasury announced a tax agreement with G7 countries.


Section 899 proposals

The Senate Finance Committee on June 16 released its version of the tax bill, which includes the following changes to section 899 from the House version:

  • Reduces the tax rate cap from 20% to 15% and allows it to apply to reduced rates (i.e., a maximum rate of 15% on income that would otherwise qualify for an exemption)
  • Delays the effective date to 2027 at the earliest
  • Applies the rate increases to countries based on an undertaxed profits rule (UTPR) but not a digital service tax (DST) or diverted profits tax (DPT)
  • Applies the base erosion and anti-abuse tax (BEAT) provisions based on a UTPR or DST, but not a DPT
  • Introduces a base erosion threshold of 0.5% for BEAT
  • Includes broad language that could apply the rate increases to many tax code and treaty exemptions, other than exemptions applied to the branch profits tax and income earned by nonresident individuals from a disposition of U.S. real property

The new code section 899 would increase the rate of tax on the following types of income:

  • Fixed, determinable, annual, and periodical Income (FDAP) (e.g., interest, dividends, and royalties)
  • Income effectively connected to a U.S. trade or business (ECI) (e.g., U.S. sourced service fees)
  • Branch profits tax (dividend equivalent amount on ECI earnings and profits)
  • Gains on U.S. real property (FIRPTA)
  • Investment income earned by private foundations

The U.S. tax rates would increase by 5% every year the “unfair foreign tax” is in effect. The House version would cap the rate increase at 20% above the statutory rate regardless of whether a lower rate or exemption applies.

The Senate version would cap the rate increase at 15% above the applicable rate (the statutory or reduced rate). However, both versions of the legislation would generally allow section 899 to override the lower rates in U.S. tax treaties up to the rate cap.

The draft legislation would disallow the section 892(a)(1)(A) exemption for investment income earned by foreign governments from countries with an “unfair foreign tax.” The House version would also disallow the section 892(a)(1)(B) exemption for bank deposit interest earned by foreign governments with an “unfair foreign tax.”

Both versions of the legislation would significantly expand the scope of BEAT for U.S. corporations that are more than 50% owned (directly or indirectly) by persons from countries with an “unfair foreign tax.” This is referred to as “Super BEAT.”

The Super BEAT changes include eliminating the gross receipts tests, reducing or eliminating the base erosion percentage threshold, and eliminating the service cost method exception. The Senate version would reduce the base erosion percentage test to 0.5%. The House version would eliminate the base erosion test altogether.

Unfair foreign taxes

An “unfair foreign tax” is defined as including both a DST and UTPR under both versions of the proposed legislation. However, under the Senate version, the rate increase would only apply based on the UTPR (and any other tax that satisfies the definition of an “extraterritorial tax”). The rate increase would not apply based on a DST or other “discriminatory tax” under the Senate version. In contrast, the House version would apply the rate increase based on a UTPR, DSTs or a DPT. However, both the House and Senate versions would apply the Super BEAT rules based on a DST or UTPR.

A country with an “unfair foreign tax” would be considered a “discriminatory foreign country” under the House version and an “offending foreign country” under the Senate version. For ease of reference, these countries have been referred to below as an “offending foreign country.”

Applicable persons

Proposed section 899 would apply to “applicable persons,” which are defined in both versions of the proposed legislation as including the following:

  • An individual (other than a U.S. citizen or resident of the U.S.) who is tax resident in an offending foreign country
  • A foreign corporation resident in an offending foreign country (other than a “U.S. owned foreign corporation”)
  • A foreign corporation (other than a “publicly held corporation”) which is not tax-resident in an offending foreign country if more than 50% of the voting power or value of the corporation is owned (directly or indirectly within the meaning of section 958(a)) by other applicable persons
  • A government of an offending foreign country, including controlled entities of a foreign government
  • A private foundation created or organized in an offending foreign country
  • Any trust the majority of the beneficial interests of which are held directly or indirectly by applicable persons
  • Foreign partnerships, branches, and other entities identified by Treasury as applicable persons

Scope of section 899: U.S.-owned foreign corporations

A foreign corporation that is a “U.S.-owned foreign corporation” would not fall within the scope of proposed section 899, even if it is resident in an offending foreign country. A “U.S.-owned foreign corporation” for this purpose is defined by cross-reference to section 904(h)(6) as any foreign corporation if 50% or more of the voting power or value of its shares are held (directly, or indirectly within the meaning of section 958(a)) by U.S. persons.

“U.S.-owned foreign corporations” include, but are not limited to, controlled foreign corporations (CFCs) other than CFCs based on constructive ownership. Unlike the rules for determining CFC status, which consider U.S. owners only to the extent they hold at least 10% of the voting power or value of the foreign corporation, a “U.S. owned-foreign corporation” also considers U.S. shareholders that own less than 10% of the voting power or value of the foreign corporation. This definition could allow certain fund structures to avoid the application of section 899 if a sufficient percentage of U.S. persons own an interest in a foreign holding company.

For example, assume a foreign corporation organized in an offending foreign country has various U.S. investors, (none of whom own 10% or more in the foreign corporation). The U.S. investors collectively own at least 50% of the foreign corporation. The remaining shares of the foreign corporation are owned by various investors resident in an offending foreign country. The foreign corporation would likely be classified as a “U.S. owned foreign corporation” and, therefore, not fall within the scope of proposed section 899, even though it is organized in an offending foreign country and is not classified as a CFC.

Scope of section 899: Privately held foreign corporations

Included within the scope of proposed section 899 are privately held foreign corporations that are not organized in an offending foreign country but are owned (directly or indirectly within the meaning of section 958(a)) more than 50% by persons resident in an offending foreign country.

For example, assume a foreign corporation is organized in an unoffending foreign country. Investors resident in offending foreign countries own 51%, and U.S. investors and residents in un-offending foreign countries own 49%. The foreign corporation could be considered an “applicable person” and would fall within the scope of section 899 even though it is not resident in an offending foreign country.

However, if the percentage of owners in the foreign corporation held by investors organized in an un-offending foreign country drops to 50%, the foreign corporation may not fall within the scope of section 899.

Ownership of a corporation would be determined for this purpose based on direct or indirect ownership. For purposes of applying the rate increases, both the House and Senate versions would determine indirect ownership under section 958(a). Under section 958(a), proportionate ownership is attributed through foreign corporations, but not U.S. corporations. Therefore, a U.S. corporation may block ownership attribution even if the U.S. corporation is owned by persons resident in an offending foreign country.

Increase in tax rates

Applicable persons would be subject to the tax rate increase on FDAP, ECI, the branch profits tax, and the section 4948(a) tax on private foundations.

All applicable persons would be subject to the increased ECI rates on gains from the disposition of U.S. real property. However, the tax rates on ECI earned by nonresident individuals from an active U.S. trade or business would not increase. This may exclude U.S. sourced service fees earned by nonresident individuals from the rate increases.

The tax rates would increase by 5% every year the “unfair foreign tax” in the relevant foreign jurisdiction is applicable to U.S. persons or their CFCs. The rate increase applies to the substantive tax liability and the withholding tax rates.

The rate increase would be applied either to the statutory rate of tax or any rate of tax appliable in lieu of the statutory rate. Taxpayers that are eligible for an exemption or reduced rate under the Code or treaty would start with the 0% or lower rate and then layer on the rate increase imposed by section 899.

Under the House version, the 5% annual rate increase would be capped at 20% above the statutory rate (determined without regard to any rate applicable in lieu of such statutory rate).

For example: Under the House version, if a taxpayer qualifies under a treaty for a 0% rate on dividends, the first-year section 899 applies the tax rate on the dividends would be 5%, the second year it would increase to 10%, and after 10 years the rate would be capped at 50%. In the absence of a reduced rate, under the House version the FDAP and branch profits tax would be capped at 50% (the statutory rate of 30% + 20%), the ECI tax for foreign corporations would be capped at 41% (the statutory rate of 21% + 20%), and the tax on foreign private foundations would be capped at 24% (the statutory rate of 4% + 20%).

Under the Senate version, the 5% annual rate increase would be capped at 15%. In contrast to the House version, the Senate version appears to apply the rate cap to rates that are applicable in lieu of the statutory rate. Income that would otherwise be subject to a reduced rate or exemption would appear to be subject only to a maximum rate increase of 15% above that lower rate (not 15% above the statutory rate). Consequently, the tax rate on income that would otherwise be exempt may be capped at 15%. 

For example: If a treaty provides an exemption on dividends, the maximum FDAP rate on the dividends would be 15% under the Senate version. Similarly, if the treaty rate on the dividends is 5%, the maximum FDAP rate on the dividends under the Senate version would be 20%. In the absence of a reduced rate, under the Senate version, the FDAP and branch profits tax would be capped at 45%, ECI for foreign corporations would be capped at 36%, and the tax on foreign private foundations would be capped at 19%.

Interplay with treaties and exemptions

It seems relatively clear that section 899 is intended to override the lower treaty rates on investment income such as dividends, interest, and royalties. However, it is not clear to what extent the section 899 rate increases would also apply where income is exempt under a treaty based on special conditions that restrict the circumstances under which the source country can tax the income (e.g., permanent establishment activity thresholds that could be viewed as imposing additional conditions on the ability of the U.S. to assert its taxing jurisdiction, rather than a rate at which a tax is applied).

Exemptions provided under the Code may also be overridden by the rate increases in section 899. Both the House and Senate versions expressly make the section 892(a)(1) exemption for investment income earned by a foreign government inapplicable to a foreign government from an offending foreign country. No other exemptions are expressly identified in the draft legislation as having been overridden.

However, the Senate version includes language stating that the rate increase would apply to income (other than the branch profits tax dividend equivalent amount or ECI earned by an individual) that is not subject to tax “by reason of an exemption or exception.” This language indicates that the rate increases could apply to income that would otherwise be exempt under the Code or treaty. The Senate version also specifically exempts portfolio interest and original issue discount (OID) from the rate increases. One could interpret the express exclusions for portfolio interest and OID as an indication that the rate increases apply to income that would otherwise be exempt under other Code (or treaty). However, the types of exemptions that would be subject to the rate increase is far from clear. 

For example: It is not clear whether the section 897(l) exemption from FIRPTA for qualified foreign pension funds (QFPF) would be subject to the section 899 rate increase. When a foreign corporation falls within the section 897(l) definition of a QFPF, it changes the status of the corporation and deems the QFPF not to be treated as a non-resident individual or foreign corporation. The substantive FIRPTA tax under section 897(a) only applies to persons taxable as non-resident individuals or foreign corporations. 

Additionally, because section 899 would make the section 892 exemption inapplicable to a government from an offending foreign country, governments and their controlled entities (e.g., sovereign wealth funds) from these countries may be subject to both the statutory (or treaty reduced) rate on investment income and the section 899 rate increase.

“Super BEAT” provisions

Proposed section 899 would modify the section 59A base erosion anti-abuse tax (BEAT) for privately held U.S. corporations that are more than 50% owned (directly or indirectly) by “applicable persons.”

The modifications to BEAT would also apply to foreign corporations with ECI that are organized in a discriminatory foreign country or are more than 50% owned (directly or indirectly) by “applicable persons.” Thus, the application of “Super BEAT” depends on the ownership of the company making the payment, not the residency of the beneficial owner of the payment.

As a result, U.S. corporations (and foreign corporations with ECI) that are subject to “Super BEAT” may have a BEAT liability based on payments to persons who are not classified as “applicable persons.” 

Under both versions of the bill, these corporations would be subject to BEAT regardless of whether they satisfy the $500 million gross receipts test, which normally excludes from the scope of the BEAT small and medium sized taxpayers. The Senate version would also reduce the base erosion threshold to 0.5%. The House bill would eliminate the base erosion threshold altogether.

The elimination of the gross receipts test (and reduction or elimination of the base erosion threshold) would cause BEAT to apply to nearly any U.S. corporation or foreign corporation with ECI that makes deductible payments to foreign related parties. 

For example: Assume that persons from Switzerland (which does not have a UTPR) and the UK (which has a UTPR) invest 40% and 60% respectively, in a U.S. partnership through a U.S. corporation that functions as a “blocker” for ECI. The U.S. “blocker” corporation would likely be subject to the Super BEAT rules and the interest payments it makes to both the Swiss owner and the UK owner could be considered base eroding payments, subject to BEAT.  

Corporations subject to the Super BEAT rules would be required to apply BEAT without the benefit of the service cost method, which normally excludes from the scope of BEAT deductible payments that can be charged out at cost or a markup of 7% or less under section 482 principles. This change could make service fees paid by U.S. corporations to foreign affiliates subject to BEAT regardless of whether those fees include a markup.

Under the regular BEAT rules currently in force, deductible payments that are subject to full withholding are not considered base eroding payments. The Senate tax bill would revise those regular BEAT rules to exclude payments that are subject to an effective tax rate of more than 18.9%. However, under both the House and Senate versions, payments made by corporations subject to Super BEAT would be considered base eroding payments regardless of extent to which withholding was imposed.

The Senate version would require that certain capitalized interest costs be treated as base eroding payments. The “Super BEAT” rules would also treat other capitalized cost as base eroding payments if they would have been base eroding payments had they not been capitalized. However, the purchase price of depreciable or amortizable property and inventory would not be treated as base eroding payments under the Super BEAT rules.

Under regular BEAT rules, the BEAT tax rate is currently at 10% and is scheduled to increase to 12.5% starting in 2026. Under the Senate version, the regular BEAT rate would increase to 14% regardless of whether a corporation was subject to the regular BEAT or Super BEAT rules. Under the House version, the regular BEAT tax rate of 10% would be extended, but corporations subject to “Super BEAT” would pay a BEAT tax of 12.5%.

Applicable date

The House version would apply at the earliest Jan. 1, 2026. The Senate version would extend the effective date by a year, starting at the earliest Jan. 1, 2027.

Under the House version of section 899, the provision would apply the first day of the first calendar year beginning on or after the latest of the following dates:

  1. 90 days after the date section 899 was enacted
  2. 180 days after the date the unfair foreign tax was enacted
  3. The first date that an unfair foreign tax begins to apply

If section 899 is enacted before October 2025, the House version would begin applying starting Jan. 1, 2026 for countries that have a DST, UTPR, or DPT in force on Jan. 1, 2026.

Under the Senate version of section 899, the provision would apply the first day of the first calendar year beginning on or after the latest of the following dates:

  1. One year after the date section 899 was enacted
  2. 180 days after the date the unfair foreign tax was enacted
  3. The first date that an unfair foreign tax begins to apply

If section 899 is enacted before the end of 2025, the earliest it could apply under the Senate version is Jan. 1, 2027.

Implications for multinationals and foreign investors

Multinational enterprises and foreign investors would face a period of retaliatory tax enforcement if either version of section 899 were to become law. However, some countries are currently negotiating with the U.S. regarding the application of their UTPR and DSTs to U.S. persons.

We understand Treasury is also engaged in negotiation with the Organisation of Economic Co-operation and Development regarding a permanent safe harbor for U.S. companies from the Pillar Two taxes, including the UTPR. Indeed, Treasury Secretary Scott Bessent on June 26 announced a tax agreement with G7 countries, about which he did not disclose details.

As a result of that agreement, he recommended that Congress remove the proposed section 899 from its legislation. Republican congressional leaders subsequently announced they would heed that recommendation.

Republican leaders are aiming to enact the taxation-and-spending bill by July Fourth.

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