Republicans in the U.S. House of Representatives on May 22, 2025, passed the One Big Beautiful Bill Act, which would add a new section to the tax code that would target inbound investment by individuals, entities and governments from countries that have in force any of the following:
- A digital service tax (DST)
- A Pillar II undertaxed profits rule (UTPR)
- A diverted profits tax (DPT)
- Similar extraterritorial or discriminatory taxes that Treasury determines are borne disproportionately by U.S. persons.
The new code section 899—titled Enforcement of Remedies Against Unfair Foreign Taxes—would increase the rate of tax on income classified as FDAP (including interest, dividends, and royalties), ECI (income that is treated as effectively connected to a U.S. trade or business, including gains from U.S. real property), and investment income earned by private foundations. The U.S. tax rate would increase by 5% every year the foreign “discriminatory” tax is in effect, with a maximum increase of 20% above the statutory rate.
The House-approved legislation would generally allow section 899 to override the lower rates in U.S. tax treaties. However, it is not clear whether the rate increase would also apply where the income is exempt under a treaty (e.g., where the treaty provides an exemption from ECI in the absence of a permanent establishment or provides an exemption for interest, dividends, royalties, and “other income”).
The draft legislation also prevents the section 892 exemption for income earned by foreign governments from applying to countries with these types of “discriminatory” taxes in effect. This may create an incentive for these governments (including sovereign wealth funds) to invest in other countries or to modify the nature of their U.S. investments to qualify for an alternative U.S. exemption that turns off the U.S. taxing rights on the income (e.g., the ECI trading safe harbors in section 864(b) or the section 897(l) U.S. real property exemption for foreign pensions).
The draft legislation would also modify BEAT (base erosion and anti-abuse tax) for U.S. corporations that are more than 50% owned (directly or indirectly) by persons from these countries by treating the gross receipts and the base-eroding percentage tests as having been met. It would also eliminate the exceptions for deductible payments subject to full withholding and payments qualifying for the service cost method. This will likely cause BEAT to play a more significant role in tax considerations for U.S. corporations with affiliates from these countries.
Implications of the proposed section 899
Section 899 is designed to put pressure on foreign countries to repeal these types of taxes. However, one can expect that not all impacted countries will respond immediately to revise their domestic laws in response. Consequently, the provision may have significant repercussions on foreign investment.
Taxpayers that are resident in a treaty jurisdiction may challenge section 899 tax in court on the basis that it violates the nondiscrimination article in an applicable tax treaty. However, because the statute overrides existing treaty obligations, foreign countries that do not seek to repeal their DSTs or UTPRs may decide to terminate their treaty with the U.S.
If section 899 is enacted, U.S. investment funds may need to develop a new parallel structure for foreign investors from countries impacted by this provision and may want to consider forming holding structures in countries without these types of taxes to mitigate the impact.
With respect to ECI earned by individuals, the rate increase would only apply to ECI from the sale of U.S. real property interests. It would not apply to ECI from a U.S. trade or business. This may create an incentive for inbound investors from these countries to avoid using foreign blocker corporations to prevent an application of the higher rates on income from a U.S. trade or business.
Proposed section 899 would generally apply to tax years beginning 90 days after the date of enactment for taxpayers resident in a country with a UTPR, DST or DPT in force on the date section 899 is enacted. Therefore, if the provision is enacted this year, it could begin impacting taxpayers starting in 2026. Taxpayers resident in countries that have enacted a UTPR, DST, or DPT that does not enter into force until after the start of 2026 may not need to apply section 899 until 2027.
