Treasury Issues Guidance on One-Month Deferral, Foreign Tax Credit Under the OBBBA

Treasury and the IRS on July 31, 2026 issued proposed regulations under Sections 898(c) and 960(d)(4) of the Internal Revenue Code to implement two significant international tax changes enacted as part of the One Big Beautiful Bill Act (OBBBA). The guidance addresses the repeal of the long-standing one-month deferral election for specified foreign corporations (SFCs) and establishes rules for the new 10% foreign tax credit (FTC) disallowance applicable to certain distributions of Global Intangible Low-Taxed Income (GILTI) previously taxed earnings and profits (PTEP). These rules are expected to affect a broad range of multinational groups with controlled foreign corporations (CFCs), particularly those that historically utilized November 30 tax year ends and those maintaining significant GILTI PTEP balances. 

Section 898 One-Month Deferral

The repeal of the one-month deferral election may create significant FTC consequences for affected taxpayers. Historically, many CFCs were permitted to use a taxable year beginning one month earlier than the taxable year of their majority U.S. shareholder. The OBBBA repealed this election for taxable years beginning after November 30, 2025. As a result, many affected corporations will be required to adopt a short taxable year from December 1, 2025 through December 31, 2025. Without relief, a full year of foreign income taxes could accrue during that one-month transition period, potentially creating tested losses, impacting high-tax exception calculations, reducing deemed-paid credits under Section 960, and resulting in permanent FTC inefficiencies. 

Transition Rules

To address these concerns, the proposed regulations generally require certain foreign income taxes accrued during the transition year to be allocated between the short transition year and the succeeding taxable year. The allocation regime applies to “specified foreign income taxes,” which generally include foreign net income taxes accrued by an affected corporation during its first required year where the corporation is the relevant Section 901 taxpayer. Foreign withholding taxes and most other taxes that naturally accrue close in time to the income giving rise to the tax are generally excluded from the allocation regime. Treasury explained that the objective of the rules is to prevent the concentration of a full year’s foreign tax liability in a one-month taxable year while preserving the relationship between income and tax for FTC purposes. 

Under the proposed default methodology, the amount of foreign tax allocated to the transition year is determined using a ratio of foreign taxable income attributable to the short year divided by total foreign taxable income for the relevant foreign taxable year. Treasury rejected suggestions that taxpayers be permitted to select alternative allocation methods and instead adopted a single prescribed framework intended to provide consistency across taxpayers. The regulations permit taxpayers to apply principles similar to those used under the consolidated return regulations for allocating income between short periods, including the use of either a closing-of-the-books approach or a ratable allocation approach, depending on the circumstances. 

Optional Elections

Importantly, the proposed regulations provide flexibility in transitioning from a one-month deferral tax year by introducing several elections that could materially affect a taxpayer's FTC position: 

• Taxpayers may elect to apply an income-group-specific allocation methodology, allowing separate allocation percentages to be calculated for each income group rather than using a single allocation percentage across all categories of income. Treasury acknowledged that this approach may provide a better matching of taxes and income in situations where different income categories fluctuate significantly between years. 
• Taxpayers may elect to include certain partnership creditable foreign tax expenditures within the allocation regime if the partnership itself is required to change its taxable year because of an affected foreign corporate partner. 
• Taxpayers may elect to allocate certain “relevant succeeding year taxes” back to the transition year when foreign taxable years overlap both the transition year and the succeeding year. 
• Treasury has provided a broad election allowing taxpayers to opt out of the allocation regime entirely and continue to take all specified foreign income taxes into account under normal accrual principles during the transition year. 

Each of these elections may significantly affect FTC utilization and should be modeled carefully before filing returns. 

Section 960(d)(4) FTC Disallowance

The second major component of the proposed regulations implements new Section 960(d)(4). As part of the OBBBA, Congress increased the percentage of tested foreign taxes deemed paid with respect to GILTI inclusions from 80% to 90%, effectively reducing the historical haircut from 20% to 10%. To offset this more favorable deemed-paid credit regime, Congress simultaneously enacted Section 960(d)(4), which disallows FTCs for 10% of foreign taxes associated with distributions of GILTI-related PTEP. The proposed regulations largely follow Notice 2025-77 and provide detailed rules regarding the identification of the affected PTEP and foreign taxes. 

PTEP Categories

Under the proposed rules, the 10% credit disallowance applies only to PTEP arising from Section 951A inclusions occurring in taxable years of a U.S. shareholder ending after June 28, 2025. To implement this distinction, Treasury would divide existing GILTI PTEP into two separate categories: pre-June 29, 2025 GILTI PTEP and post-June 28, 2025 GILTI PTEP. Foreign taxes attributable to distributions of the post-June 28, 2025 category are subject to the new 10% disallowance, while taxes associated with pre-June 29, 2025 GILTI PTEP remain fully creditable under existing rules. The regulations apply both to direct foreign taxes, such as withholding taxes imposed on Section 959 distributions, and to indirect foreign taxes deemed paid under Section 960(b) through lower-tier foreign corporation structures. 

Effective Dates

The proposed regulations generally would apply to taxable years of SFCs beginning after November 30, 2025. Taxpayers may rely on the proposed regulations before finalization if they apply the rules consistently and in their entirety. Treasury has requested comments on all aspects of the proposed rules, including the mechanics of the election procedures and the proposed 24-month window for making certain election changes on amended returns. Comments are due 45 days after publication in the Federal Register.