To file Form 1118, a domestic corporation completes a separate copy of the form for each category of foreign-source income, works through Schedules A through G and Schedules I, K, and L to compute a foreign tax credit under the Section 904 limitation, and attaches every copy to its Form 1120 by the return’s due date. Learning how to file Form 1118 is really a matter of two things: assigning your foreign income to the right baskets, and running each basket cleanly through the schedules in the order the form expects.
Confirm You Should Be Filing at All
Form 1118 is for domestic C-corporations electing the foreign tax credit under Section 901, plus foreign corporations claiming a credit under Section 906 on income effectively connected with a U.S. trade or business.1Internal Revenue Service. Instructions for Form 11182Office of the Law Revision Counsel. 26 US Code 906 The creditable taxes are foreign income taxes, war profits taxes, and excess profits taxes paid or accrued to a foreign country or U.S. territory.3Office of the Law Revision Counsel. 26 US Code 901
The credit election is all-or-nothing for the year. If your corporation credits any foreign taxes for a tax year, it must credit all of them; you cannot mix credit and deduction treatment in the same year.4eCFR. 26 CFR 1.901-1 The credit usually beats the deduction because it reduces tax dollar-for-dollar, while a deduction only shrinks taxable income.5Internal Revenue Service. Foreign Tax Credit The deduction can be the better answer when foreign rates already exceed U.S. rates across every category, leaving no room in the limitation for the credit to help.
Sort Foreign Income Into the Right Basket
Section 904(d) requires you to separate foreign-source income into distinct categories and compute the credit limitation for each one on its own.6Office of the Law Revision Counsel. 26 US Code 904 This basket system stops a company from using high tax on one kind of income to shelter low-taxed income of another kind. The four main categories are:
- Section 951A category: Global intangible low-taxed income (GILTI) included under Section 951A, other than passive category income.
- Foreign branch category: Income attributable to business operations conducted through an unincorporated foreign branch.
- Passive category: Interest, dividends, rents, royalties, and similar investment-type earnings not produced by an active trade or business.
- General category: A catch-all for foreign-source earnings that do not fit any of the other three baskets.
Two more categories appear on the form: Section 901(j) income from sanctioned countries and income re-sourced by treaty.7Internal Revenue Service. Instructions for Form 1118 (12/2025) File a separate Form 1118 for each category that applies to you, and check the box at the top of each copy to identify which basket it covers. A corporation with activity in the general, passive, and GILTI baskets submits three complete copies, each with its own Schedules A through G and Schedules I, K, and L. Misclassifying income into the wrong basket produces an incorrect credit and is the most common trigger for an IRS adjustment on this form.
Work Through the Schedules in Order
Form 1118 is built as a chain: each schedule feeds the next, and every dollar figure must be reported in U.S. dollars. Complete them in this sequence for each basket.
Schedule A: Foreign-Source Income and Deductions
Report gross income from sources outside the United States, broken out by type: Subpart F inclusions, GILTI inclusions, dividends, interest, rents, royalties, license fees, sales income, service income, and currency gains. Below those lines, allocate and apportion deductions against that foreign-source income. The bottom line is foreign-source taxable income for the category, and it becomes the numerator of the credit limitation formula.
Expense allocation is where filers most often go wrong. Under the rules derived from Section 861, expenses are allocated based on their factual relationship to gross income. Interest expense generally must be apportioned using the asset method for domestic corporations. Research and development, stewardship costs, and general overhead each require their own analysis. An error at this stage ripples through every downstream schedule and every limitation calculation.
Schedules C, D, and E: Deemed Paid Taxes
These schedules capture indirect credits under Section 960. When a domestic corporation owns stock in a controlled foreign corporation and includes the CFC’s earnings in its own income under Subpart F or GILTI, it is deemed to have paid a share of the CFC’s foreign taxes.8Office of the Law Revision Counsel. 26 US Code 960
- Schedule C covers deemed paid taxes on Subpart F inclusions under Section 960(a).
- Schedule D covers deemed paid taxes on GILTI inclusions under Section 960(d).
- Schedule E covers taxes paid or deemed paid on distributions of previously taxed earnings and profits under Section 960(b).
Any deemed paid amount must also be grossed up under Section 78. The corporation treats the deemed paid tax as if it were a dividend received from the foreign corporation and includes it in gross income.9Office of the Law Revision Counsel. 26 USC 78 The gross-up increases both income and the credit, so the net effect turns on whether your limitation lets you use the full credit.
Schedule B: Compute the Credit
Schedule B has three parts. Part I lists actual foreign taxes paid or accrued and pulls in the deemed paid amounts from Schedules C, D, and E. Part II applies the limitation formula to produce the separate credit for this category. Part III summarizes the credits across all categories, and that summary is what flows onto Form 1120.
Schedule G: Reductions to Foreign Taxes
Schedule G is where otherwise creditable taxes get reduced. Common reductions include taxes attributable to boycott-related income, penalties under Section 6038(c) for failure to file information returns, taxes suspended under Section 909 splitter rules, and taxes disallowed under Sections 245A and 965(g). Leaving Schedule G blank when a reduction actually applies is a routine audit trigger, so work through it even when you expect no adjustment.
Schedules I, K, and L
Schedule I computes the overall foreign loss and overall domestic loss accounts that track how losses in one year affect credit limitations in later years. Schedule K reduces the foreign tax credit for international boycott operations. Schedule L reconciles carryback and carryforward amounts. Complete all three for each category.
Apply the Section 904 Limitation
The credit for each basket is capped. You cannot credit more foreign tax than the U.S. tax attributable to that category of foreign income. The formula, computed on Schedule B Part II, is:
Credit Limit = (Foreign-Source Taxable Income in Category ÷ Worldwide Taxable Income) × U.S. Tax Liability
The fraction ensures the credit only offsets U.S. tax on foreign earnings, not on domestic income.6Office of the Law Revision Counsel. 26 US Code 904 If foreign taxes for a category exceed the limit, the excess becomes a carryback or carryforward. If they fall below, you credit the full amount with nothing to carry.
Watch the denominator. Worldwide taxable income includes both foreign and domestic earnings, and the expense allocation from Schedule A shapes the numerator directly. Under-allocating domestic expenses to foreign income overstates the numerator, inflates the credit limit, and invites scrutiny on examination.
Convert Foreign Currency Correctly
Foreign taxes paid in a non-U.S. currency must be translated into dollars under Section 986(a). The rate depends on whether you take taxes into account on the paid or accrual basis:10Internal Revenue Service. Foreign Currency Translation – LBI Practice Unit
- Paid basis: Use the exchange rate on the date of payment. The same rule covers taxes withheld at the source.
- Accrual basis: Use the average exchange rate for the foreign tax year the taxes relate to. Use the payment-date rate instead if the taxes are paid more than 24 months after that foreign tax year closes, are paid before the tax year begins, or are denominated in an inflationary currency.
- Unpaid accrued taxes: Translate using the rate on the last day of the U.S. tax year. When the taxes are eventually paid, go back and adjust the credit and U.S. tax for the accrual year using the actual payment-date rate.
Corporations can also elect to translate accrued taxes at the payment-date rate for taxes denominated in a nonfunctional currency. Keep a ledger recording each foreign tax payment, its date, the currency, and the exchange rate you used. That single document is the most useful thing you can have if the IRS examines the return.
Attach and File
Every copy of Form 1118 rides with your Form 1120. Calendar-year corporations file by April 15; fiscal-year filers file by the 15th day of the fourth month after the tax year ends. Filing Form 7004 buys an automatic six-month extension.11Internal Revenue Service. About Form 1118, Foreign Tax Credit – Corporations Electronic filers upload Form 1118 and all schedules as digital attachments through approved software. Paper filers place the forms in order behind Form 1120. Confirm the category box is checked at the top of each copy before you submit.
Excess Credits and Later Corrections
When foreign taxes in a category exceed the limitation, the excess does not vanish. Under Section 904(c), unused foreign tax credits carry back one year and then forward for ten years, in chronological order, until absorbed.12eCFR. 26 CFR 1.904-2 Schedule L is where you track them. A few rules matter here:
- Basket integrity. Excess credits from one category can only offset U.S. tax on income in that same category in the carryback or carryforward year. General category excess cannot absorb passive category limitation space.
- Carryback claims. To carry credits back, the corporation generally files an amended return (Form 1120X) for the prior year or reports the carryback on the current-year Form 1118.
- Expiration. Any credits not used within the one-back-plus-ten-forward window are lost.
The correction window for the credit itself is unusually long. A corporation can make or change its election to claim the credit, or switch to a deduction, at any time within 10 years from the regular due date of the return (without regard to extensions) for the year the foreign taxes were paid or accrued.13Internal Revenue Service. Foreign Tax Credit – Special Issues The 10-year period also generally covers refund claims tied to the foreign tax credit. Refund claims based on a deduction of foreign taxes follow the standard three-years-from-filing or two-years-from-payment rule instead.
Because foreign audits, amended assessments, and currency adjustments often finalize years after the original U.S. return, keep foreign tax receipts, official assessment notices, proof of payment, and exchange rate documentation for at least 10 years from the original due date of the return.14Internal Revenue Service. How Long Should I Keep Records The standard three-year retention window that covers most corporate records is not enough for Form 1118 purposes.