Base Erosion Test: Payments, Percentage, and Form 8991

The base erosion test decides whether a large U.S. corporation owes the Base Erosion and Anti-Abuse Tax (BEAT) on deductible payments it makes to foreign related parties. A C corporation fails the test, and owes BEAT, when three conditions all hold for the tax year: it is a C corporation other than a RIC, REIT, or S corporation; its aggregated group averages at least $500 million in annual gross receipts over the prior three years; and its base erosion percentage reaches 3 percent (2 percent for an affiliated group that includes a bank or registered securities dealer).¹ For tax years beginning after December 31, 2025, the tax is 10.5 percent of modified taxable income minus the corporation’s adjusted regular tax liability.

Which Corporations Have to Run the Test

All three prongs of the applicable taxpayer definition have to be satisfied. Regulated investment companies, real estate investment trusts, and S corporations are outside the rule entirely.²

The $500 million gross receipts figure is measured across the entire aggregated group, not each entity in isolation. Every person treated as a single employer under Section 52(a) is combined for this purpose.² Splitting operations among subsidiaries does not move the threshold. If the combined group averages $500 million or more, every member that pays foreign related parties needs to run its own base erosion percentage.

What Counts as a Base Erosion Payment

A base erosion payment is a deductible amount paid or accrued by a domestic corporation to a foreign related party. Interest on intercompany loans, royalties for intellectual property, and management or service fees are the common examples. Each shrinks U.S. taxable income while shifting cash to a related entity abroad.²

Property purchases from foreign affiliates are also caught. If the acquired asset is depreciable or amortizable, the resulting annual deductions count as base erosion tax benefits. Reinsurance premiums paid to a foreign related party, and certain payments to surrogate foreign corporations that reduce gross receipts, are pulled in as well.³

Payments the Test Leaves Out

Not every dollar sent to a foreign affiliate feeds into the calculation. Three carve-outs matter most.

Payments for services that qualify for the services cost method under Section 482 transfer pricing rules are excluded, but only up to the total cost of providing those services. Any markup above bare cost stays in as a base erosion payment even when the cost portion is stripped out.⁴ The exception depends on records showing the amount charged, the actual costs, a description of the services, and how any markup was calculated.

Qualified derivative payments are also excluded when the taxpayer marks the derivative to market at year-end, treats gain or loss as ordinary, and reports the payments on its information return. This carve-out does not save an embedded interest or royalty payment that would independently be a base erosion payment.²

Amounts already subject to U.S. withholding tax under Sections 871 or 881, with tax actually withheld, generally do not produce base erosion tax benefits. The theory is that the U.S. has already collected on the payment. When a meaningful share of a corporation’s outbound flows go out under treaty withholding, this can pull the base erosion percentage back under the threshold.²

Calculating the Base Erosion Percentage

The percentage is a fraction. On top: the year’s total base erosion tax benefits. On the bottom: all deductions allowed to the taxpayer for the year, plus reinsurance and gross-receipts-reduction base erosion tax benefits.²

Several deductions are pulled out of the denominator, which shrinks the bottom of the fraction and pushes the percentage upward:

Net operating loss deductions under Section 172
Dividends-received deductions under Section 245A for foreign-source dividends
FDII deductions under Section 250 for foreign-derived intangible income
Services cost method amounts that qualify for the exception
Qualified derivative payments excluded from the base erosion payment definition

If the fraction lands below 3 percent (or 2 percent for banking and securities groups), the corporation is not an applicable taxpayer for that year and owes no BEAT. The test resets every year, so a corporation that clears one year can trip the next as its mix of foreign-related-party payments shifts. Employer aggregation applies here too: the group’s deductions and base erosion payments are the inputs, not any one entity’s.

What Happens If You Fail: Calculating the Tax

A corporation that meets all three prongs computes its Base Erosion Minimum Tax Amount (BEMTA). The starting point is modified taxable income, which is regular taxable income recomputed as if no base erosion tax benefits existed. Every deduction tied to a base erosion payment is added back, along with the base erosion percentage of any NOL deduction claimed for the year.²

Modified taxable income is multiplied by 10.5 percent, or 11.5 percent for affiliated groups that include a bank or registered securities dealer. These rates apply to tax years beginning after December 31, 2025, following amendments made by the One Big Beautiful Bill Act. The BEMTA is the excess of that figure over the corporation’s adjusted regular tax liability. If regular tax already exceeds the BEAT calculation, no additional tax is owed. If the BEAT figure is higher, the difference is paid on the corporate return.¹ The result functions as a floor: deductible payments to foreign affiliates cannot pull the effective rate below it.

How Credits Change the Answer

Credits feed into BEAT through the “adjusted regular tax liability” side of the equation. Most credits reduce regular tax liability before it is compared to the BEAT amount, and a lower adjusted regular tax liability makes it more likely that the BEAT number wins and additional tax is owed.

Certain credits get protected treatment and do not reduce regular tax liability for BEAT purposes in tax years beginning after December 31, 2025:

The research credit under Section 41(a) allocated through Section 38
The low-income housing credit under Section 42(a)
The renewable electricity production credit under Section 45(a)
The energy investment credit portion of the Section 46 investment credit allocable to Section 48

For the last three, collectively the “applicable section 38 credits,” protection is capped at 80 percent of the lesser of those credits or the BEMTA. The research credit is fully protected with no 80 percent cap.⁵ Credits under Section 33 (tax withheld on wages), Section 37 (elderly or disabled credit), and Section 53 (minimum tax credit) are also left out of the regular tax liability reduction.

Every other credit, including the foreign tax credit, does reduce regular tax liability for BEAT purposes. A multinational with substantial foreign tax credits can find its adjusted regular tax liability driven down far enough to trigger BEAT even when its overall U.S. tax position looked comfortable on the regular return.

Reporting on Form 8991

Any corporation other than a RIC, REIT, or S corporation whose aggregate group has gross receipts of at least $500 million in any of the three preceding tax years must file Form 8991, “Tax on Base Erosion Payments of Taxpayers With Substantial Gross Receipts.” The filing obligation applies even when the base erosion percentage lands below the threshold and no BEAT is owed.⁶ The form steps through gross receipts aggregation, base erosion payments, the percentage test, modified taxable income, and the final BEMTA computation.

Form 8991 is attached to the income tax return and filed by the return’s due date, including extensions. Corporations claiming the services cost method or qualified derivative payment exceptions should hold records sufficient for the IRS to verify each excluded payment. For the services cost method, the required documentation covers the services cost, the markup calculation, a description of the services, and the allocation of costs to each service.⁴

Penalties for Getting It Wrong

Failure to furnish required information or maintain records for transactions with foreign related parties carries a $25,000 penalty per taxable year under Section 6038A.⁷ If noncompliance continues more than 90 days after IRS notice, an additional $25,000 penalty accrues for each 30-day period it persists. Each related party is a separate penalty stream, so the numbers stack quickly for a group with several foreign affiliates.

Underreporting BEAT also exposes the corporation to the standard accuracy-related penalties, including the 20 percent penalty for substantial understatement of income tax. Because the calculation turns on identifying every base erosion payment and correctly applying the exceptions, the IRS has room to challenge positions that lower modified taxable income. Contemporaneous documentation, especially for the services cost method and qualified derivative payment exceptions, is the most durable defense.

Anti-Abuse Rules for Workarounds

Treasury regulations at § 1.59A-9 target arrangements designed to sidestep the base erosion payment definition. If a corporation routes a payment through an unrelated intermediary or conduit with the principal purpose of avoiding a base erosion payment, the IRS can disregard the intermediary and treat the payment as if it went directly to the foreign related party.⁸ The regulations also reach derivatives acquired to substitute for a direct partnership interest, partnership income allocations that shift base erosion payments without changing the economics among partners, and nonrecognition transactions that inflate depreciable basis. A basis increase within six months before the taxpayer acquires the property carries an irrebuttable presumption of the prohibited purpose.

The unifying standard is “principal purpose.” The IRS need not show the transaction lacked a business purpose entirely, only that reducing or avoiding a base erosion payment was a principal reason for the structure. Intercompany arrangements built with BEAT planning in mind should expect these rules to be the first thing an examiner tests.

1
Internal Revenue Service. IRC 59A Base Erosion Anti-Abuse Tax Overview
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Office of the Law Revision Counsel. 26 USC 59A – Tax on Base Erosion Payments of Taxpayers With Substantial Gross Receipts
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eCFR. 26 CFR 1.59A-3 – Base Erosion Payments and Base Erosion Tax Benefits
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Internal Revenue Service. Chief Counsel Advice 202529008
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Office of the Law Revision Counsel. 26 USC 59A – Tax on Base Erosion Payments of Taxpayers With Substantial Gross Receipts
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Internal Revenue Service. Instructions for Form 8991
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eCFR. 26 CFR 1.6038A-4 – Monetary Penalty
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Federal Register. Base Erosion and Anti-Abuse Tax