A domestic corporation’s royalty income derived in connection with business conducted outside the United States generally is eligible for the reduced 13.125 percent effective tax rate on foreign derived intangible income (FDII). To qualify, the licensee must be a foreign person, and the intangible property must be used outside the US for the ultimate benefit of an unrelated foreign person.
For example, the lower rate generally should be available for royalties from licensing intangible property to an unrelated foreign person for use: (1) in the production and sale of products to foreign customers; (2) to provide services to foreign customers; or (3) to sublicense the intangible property to foreign persons.
Royalties from licensing intangible property to an unrelated US corporation that is for use outside the US may not qualify for FDII benefits. Such royalties should qualify, however, if instead the license is with a foreign subsidiary of the US corporation, or if a foreign subsidiary otherwise economically is considered the licensee.
The 13.125 percent tax rate is also available for certain royalties derived from licensing intangible property to related foreign persons. For example, royalties generally should qualify if the related foreign person uses the intangibles outside the United States to (1) produce and sell products to unrelated foreign customers; (2) provide services to unrelated foreign customers, or (3) sublicense the intangibles to unrelated foreign persons.