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                                                                                                       Department of the Treasury
                                                                                                       Internal Revenue Service
2022

Instructions for

Schedule M-3

(Form 1120-F)

Net Income (Loss) Reconciliation for Foreign Corporations with Reportable Assets 
of $10 Million or More

Section references are to the Internal Revenue books that are reported on Form             Schedule M-3 (Form 1120-F) must 
Code unless otherwise noted.                   1120-F, Schedule L. Foreign banks are       either (i) complete Schedule M-3 (Form 
                                               foreign corporations described in           1120-F) in its entirety, or (ii) complete 
Future Developments                            Regulations section 1.882-5(c)(4).          Schedule M-3 (Form 1120-F) through 
For the latest information about                                                           Part I and complete Schedule M-1 
developments related to Schedule M-3           Who Must File                               instead of completing Parts II and III of 
(Form 1120-F) and its instructions, such       Any foreign corporation required to file    Schedule M-3 (Form 1120-F). If the filer 
as legislation enacted after they were         Form 1120-F that reports on                 chooses to complete Schedule M-1 
published, go to IRS.gov/Form1120F.            Schedule L, line 17, column (d), of Form    instead of completing Parts II and III of 
                                               1120-F total assets at the end of the       Schedule M-3 (Form 1120-F), line 1 of 
General Instructions                           corporation's tax year that equal or        Schedule M-1 must equal line 11 of Part 
                                               exceed $10 million, must complete and       I of Schedule M-3 (Form 1120-F).
Purpose of Schedule                            file Schedule M-3 in lieu of                Filers must answer all questions on 
Schedule M-3, Part I, determines the           Schedule M-1, Reconciliation of Income      page 1 of the form. Furthermore, for any 
adjusted financial net income (loss) of        (Loss) per Books With Income per            part of Schedule M-3 (Form 1120-F) 
the non-consolidated (see                      Return.                                     that is completed, all columns must be 
                                                                                           completed, all numerical data requested 
Non-consolidated financial statement,          A foreign corporation filing Form           must be provided, and any statement 
later, for the definition) foreign             1120-F that is not required to file         required to support a line item must be 
corporation filing Form 1120-F, U.S.           Schedule M-3 may voluntarily file           attached. All additional statements 
Income Tax Return of a Foreign                 Schedule M-3.                               specifically referenced in these 
Corporation. Schedule M-3, Parts II and 
III, reconcile this financial result with the  Note. A foreign corporation that is         instructions must be completed and 
corporation's taxable income before the        required to complete (or voluntarily        attached to the Schedule M-3 when 
NOL deduction and special deductions           completes) Schedule M-3 is still            filed. If Part III is completed, please note 
on Form 1120-F, Section II, line 29.           required to complete Schedule M-2,          that Part III requires that results from 
                                               Analysis of Unappropriated Retained         Schedule I (Form 1120-F), Interest 
For purposes of this reconciliation,           Earnings per Books.                         Expense Allocation Under Regulations 
Part I, line 1, provides rules for                                                         Section 1.882-5, and Schedule H (Form 
                                                                                           1120-F), Deductions Allocated To 
determining the financial statement(s)         When and Where To File                      Effectively Connected Income Under 
the taxpayer must use in reporting the 
net income (loss) to be reported on Part       Attach Schedule M-3 (Form 1120-F) to        Regulations Section 1.861-8, also be 
I, line 4. Part I, lines 5 through 10 then     the foreign corporation's Form 1120-F       included. See instructions for Part III, 
provide adjustments to include or              income tax return. Be sure to check the     lines 26b, 26c, and 31, later.
exclude financial results to reconcile the     box at the top of Form 1120-F, page 1, 
financial statement results reportable on      indicating that Schedule M-3 is 
                                                                                           Other Form 1120-F 
Part I, line 4, to the foreign corporation's   attached.
                                                                                           Schedules Affected by 
adjusted financial net income (loss) 
reportable on Part I, line 11.                 Completion of                               Schedule M-3 
                                               Schedule M-3                                Requirements
For foreign corporations other than            Form 1120-F filers that are required to 
                                                                                           Schedule L
foreign banks (see definition in the           file Schedule M-3 (Form 1120-F) and 
instructions for Part I, line 1, later), Part  have at least $50 million total assets at   Generally, the assets and liabilities 
I, line 11 includes the worldwide              the end of the tax year must complete       required to be reported on Schedule L 
financial net income (loss) of the             Schedule M-3 (Form 1120-F) in its           are the total assets and liabilities 
non-consolidated foreign corporation,          entirety.                                   reflected on the set(s) of books of the 
adjusted for the results of non-includible                                                 foreign corporation that include assets 
entities and includible disregarded            Form 1120-F filers that (a) are             that give rise to U.S. effectively 
entities (see definition later under Entity    required to file Schedule M-3 (Form         connected income and U.S. booked 
Considerations for Schedule M-3). For          1120-F) and have less than $50 million      liabilities (as defined in Regulations 
foreign banks, Part I, line 11, is             total assets at the end of the tax year, or section 1.882-5(d)(2)). The total assets 
generally limited to the financial income      (b) are not required to file Schedule M-3   and liabilities include the interbranch 
(loss) derived from the same set(s) of         (Form 1120-F) and voluntarily file          assets and liabilities and the 

Mar 7, 2023                                              Cat. No. 50152J

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noneffectively connected assets            books that give rise to U.S. booked        reporting under Regulations section 
reflected on such books. Such books        liabilities under Regulations section      1.882-5(d)(2)(ii). However, the 
will reflect the assets of the foreign     1.882-5(d)(2). Under such                  Schedule M-3 reporting on Part I, line 11 
corporation located in the United States   circumstances, the set of books would      must always reflect the worldwide 
and all other of its assets used in its    remain reportable on Schedule L for        profits and losses of the foreign 
trade or business within the United        Code-based reporting purposes, but for     corporation filing the Form 1120-F even 
States (other than its assets giving rise  treaty-based reporting purposes, such      if the Schedule L books determined 
to effectively connected income under      transfer may effect attribution to another under Regulations section 1.882-5(d)(2)
sections 864(c)(6) or (7)). A foreign      part of the corporate enterprise under a   (ii) gives rise to less than worldwide 
corporation may instead elect to report    functional and factual analysis and no     reporting under the facts and 
its worldwide assets and liabilities on    longer be reportable on Schedule L as      circumstances.
Schedule L under Regulations section       part of the U.S. permanent 
1.6012-2(g)(1)(iii). If a foreign          establishment after the transfer.          Entity Considerations for 
corporation (including a foreign bank)     Additionally, a set of books having no     Schedule M-3
elects worldwide reporting on              effectively connected income or U.S.       For purposes of Schedule M-3, 
Schedule L, the same set(s) of books       booked liabilities under Regulations       references to the classification of an 
must be used to report the adjusted        section 1.882-5(d)(2) might still          entity (for example, as a corporation, a 
worldwide net income (loss) results in     constitute a set of books of the U.S.      partnership, or a trust) are to the 
Part I, line 11.                           permanent establishment because the        classification of the entity for U.S. 
                                           items recorded thereon are primarily       federal income tax purposes.
If the foreign corporation has more        attributable to the U.S. permanent 
than one set of books and records          establishment under the application by     For a foreign corporation other than a 
relating to assets located in the United   analogy of the OECD Transfer Pricing       bank, the financial results of an entity 
States or used in a trade or business      Guidelines as expressly authorized by      that is disregarded as separate from the 
conducted in the United States, it must    or pursuant to a U.S. income tax treaty    foreign corporation filing Form 1120-F 
report the combined amounts shown on       and accompanying documents.                for federal income tax purposes 
all such books and records on                                                         (“disregarded entity”) are reported on 
Schedule L, as adjusted to eliminate       Schedule M-2                               Schedule M-3, Part I, line 4, if the 
transactions recorded between the          If the foreign corporation is a bank (and  foreign corporation's applicable income 
reportable books. However, amounts         checked the “Yes” box on Part I, line 1    statement includes the net income of 
recorded for transactions between the      of Schedule M-3), the amount shown on      such disregarded entity. Otherwise, the 
set(s) of books and other divisions of     Schedule M-2, line 2 (Net income (loss)    results of the disregarded entity are 
the foreign corporation or includible      per books) must equal the amount           separately reported on Part I, line 5. On 
disregarded entities (see definition later shown on Schedule M-3, Part I, line 11.    Parts II and III, any item of income, gain, 
under Entity Considerations for            Both the foreign bank's Form 1120-F,       loss, or deduction of a disregarded 
Schedule M-3) reportable on                Schedule L reporting and Schedule M-3      entity must be reported as an item of the 
Schedule M-3, Part I, line 5, are not      (Form 1120-F) reporting are based on       foreign corporation, and is not reported 
eliminated for Schedule L purposes         the same set(s) of Schedule L books        on Part II, line 9, 10, or 11, as from a 
(except for certain transactions with      which are generally determined on the      partnership or pass-through entity. The 
disregarded entities that are also         basis of Regulations section 1.882-5(d)    applicable financial statement may 
reportable on Schedule L), unless the      (2)(iii). If, however, the foreign bank    include a disregarded entity only if it is 
taxpayer elects worldwide reporting        elects to complete its Form 1120-F,        owned directly or indirectly by the 
under Regulations section 1.6012-2(g)      Schedule L on the basis of its worldwide   foreign corporation. An applicable 
(1)(iii).                                  books, then the bank will be required to   financial statement may not include a 
Adaptation of Form 1120-F,                 report its net income (loss) on            disregarded entity that is the direct or 
Schedule L for treaty-based                Schedule M-2 and Schedule M-3 from         indirect owner of the foreign corporation 
reporting. The set(s) of books that        the same worldwide set(s) of books         filing Form 1120-F.
must be reported on Form 1120-F,           used for Form 1120-F, Schedule L           Foreign bank disregarded entity 
Schedule L are those of the U.S.           purposes.                                  books – reporting for lines 4 and 5. 
permanent establishment. These books                                                  For foreign banks, the net income (loss) 
will generally be the same set(s) of       If the foreign corporation is not a 
                                                                                      of certain disregarded entities are not 
books reported on Schedule L, as           bank (and therefore checked the “No” 
                                                                                      combined with other U.S.-based sets of 
described above. However, certain          box on Part I, line 1), the amount shown 
                                                                                      books reported on line 4. The set(s) of 
books that give rise to effectively        on Schedule M-2, line 2 (Net income 
                                                                                      books with respect to disregarded 
connected income might not necessarily     (loss) per books) should reflect the net 
                                                                                      entities are included on Part I, line 5, if 
give rise to treaty-based reporting. For   income (loss) associated with the 
                                                                                      the set(s) of books of such disregarded 
example, the assets on a set of books      Schedule L books. This amount will 
                                                                                      entities give rise to U.S. booked 
could still be attributed to a U.S. office equal the amount shown on 
                                                                                      liabilities under Regulations section 
for effectively connected income           Schedule M-3, Part I, line 11 only if the 
                                                                                      1.882-5(d)(2)(iii). Transactions between 
reporting purposes even when               corporation voluntarily chooses to 
                                                                                      the set(s) of books reported on line 4 
considered transferred from the U.S.       complete Form 1120-F, Schedule L on 
                                                                                      and line 5 are eliminated on line 8. 
permanent establishment for treaty         the basis of the corporation's worldwide 
                                                                                      However, the net income (loss) of a 
reporting purposes (see, for example,      set(s) of books under Regulations 
                                                                                      U.S. LLC that is a disregarded entity 
Regulations section 1.864-4(c)(5)(iii)) if section 1.6012-2(g)(1)(iii), or, if the 
                                                                                      whose set(s) of books do not give rise to 
under the facts and circumstances,         Schedule L books determined under the 
                                                                                      U.S. booked liabilities of the foreign 
such assets also constitute a set of       facts and circumstances constitute the 
                                                                                      bank under Regulations section 
                                           same results as worldwide income 

                                                        -2-                Instructions for Schedule M-3 (Form 1120-F)(2022)

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1.882-5(d)(2)(iii) is not included on      identification number (TIN or EIN), if       Question A. Treaty position taken on 
line 4 or line 5. Transactions between     applicable, (4) its entity or organization   Form 1120-F, Section II, for taxable 
such disregarded entities and set(s) of    type, (5) the state or country in which it   income. If a foreign corporation is a 
books reported on line 4 are not           is organized, (6) the date on which it first resident in a country having an income 
eliminated.                                became a reportable entity partner, (7)      tax treaty with the United States, answer 
                                           the date with respect to which it is         “Yes” if the corporation reports income 
Related Filing Requirements –              reporting a change in its ownership          under the treaty method in lieu of the 
Reportable Entity Partner                  interest in the partnership, if applicable,  effectively connected income rules 
Reporting Responsibilities                 (8) the interest in the partnership it owns  under sections 864(c) and 882. For 
                                           or is deemed to own in the partnership,      reporting under this method in Parts II 
Reportable entity partner.     For         directly or indirectly (as defined under     and III, see Treatment of Items Under an 
purposes of these instructions, a          these instructions), as of the date with     Eligible Treaty-Based Return Position to 
reportable entity partner with respect to  respect to which it is reporting, and (9)    Attribute Business Profits to a U.S. 
a partnership filing Form 1065, U.S.       any change in that interest as of the        Permanent Establishment, later.
Return of Partnership Income, is an        date with respect to which it is reporting.
entity that (1) owns or is deemed to                                                    Questions B through D. For 
own, directly or indirectly, under these   The reportable entity partner must 
                                                                                        Schedule M-3, Part I, questions B 
instructions a 50% or greater interest in  retain a copy of each required report it 
                                                                                        through D, use only the financial 
the income, loss, or capital of the        makes to each partnership under these 
                                                                                        statements of the foreign corporation 
partnership on any day of the tax year,    instructions. Each partnership must          filing Form 1120-F. If the foreign 
and (2) was required to file               retain copies of the required reports it 
                                                                                        corporation prepares its own financial 
Schedule M-3 on its most recently filed    receives under these instructions from 
                                                                                        statements but is controlled by another 
U.S. federal income tax return or return   reportable entity partners.
                                                                                        corporation (U.S. or foreign) that 
of income filed prior to that day.         Example 1.  A, an LLC filing a Form          prepares financial statements that 
For purposes of these instructions,        1065 for 2022, is owned 50% by Z, a          include the foreign corporation, the 
(1) the owner of a disregarded entity is   foreign corporation engaged in a trade       foreign corporation must use for its 
deemed to own all corporate and            or business within the United States. A      Schedule M-3, Part I, its own financial 
partnership interests owned or deemed      owns 50% of each of B, C, D, and E,          statements rather than the financial 
to be owned under these instructions by    each of which is also an LLC filing a        statements of the controlling 
the disregarded entity; (2) the owner of   Form 1065 for calendar year 2022. Z          corporation. These financial statements 
50% or more of a corporation by vote on    was first required to file Schedule M-3      are used for completing line 4.
any day of the corporation's tax year is   (Form 1120-F) for its corporate tax year 
deemed to own all corporate and            ended December 31, 2020, and filed its       Non-consolidated financial 
partnership interests owned or deemed      Form 1120-F with Schedule M-3 for            statement.   A foreign corporation's 
to be owned under these instructions by    2020 on September 15, 2022. As of            “non-consolidated” financial statement 
the corporation during the corporation's   September 16, 2022, Z was a reportable       may include a financial statement which 
tax year; (3) the owner of 50% or more     entity partner with respect to A and,        reports a consolidation of entities or 
of partnership income, loss, or capital    through A, with respect to B, C, D, and      subsidiaries that the foreign corporation 
on any day of the partnership tax year is  E. On October 5, 2022, Z reports to A,       owns. In such a case, the net income or 
deemed to own all corporate and            B, C, D, and E, as it is required to do      (loss) of such entities or subsidiaries 
partnership interests owned or deemed      within 30 days of September 16, that Z       would be included in the amount 
to be owned under these instructions by    is a reportable entity partner directly      reported on line 4 and, except for 
the partnership during the partnership     owning (with respect to A) or deemed to      disregarded entities, would be 
tax year; and (4) the beneficial owner of  own indirectly (with respect to B, C, D,     eliminated by reporting these amounts 
50% or more of the beneficial interest of  and E) a 50% interest. Therefore,            on line 7 (see line 7, later). Any 
a trust or nominee arrangement on any      because Z was a reportable entity            adjustments associated with removing 
day of the trust or nominee arrangement    partner for 2022, each of A, B, C, D, and    such amounts would be reported on 
tax year is deemed to own all corporate    E is required to file Schedule M-3 (Form     line 8.
and partnership interests owned or         1065) for 2022, regardless of whether        Example 2.   FC1 is a foreign 
deemed to be owned under these             they would otherwise be required to file     corporation other than a bank, resident 
instructions by the trust or nominee       Schedule M-3 for that year. Z must           in Country X, and engaged in a trade or 
arrangement.                               retain a copy of each of the required        business in the United States. FC1 is 
                                           reports it makes to A, B, C, D, and E        required to file Form 1120-F. FC1 
Reporting requirements of                  under these instructions, including the      reports on Schedule L more than $10 
reportable entity partner.   A             reports it makes on October 5, 2022.         million in assets and, therefore, is 
reportable entity partner with respect to                                               required to file Schedule M-3. FC1 is 
a partnership (as defined above) must      Part I – Financial                           owned 100% by FC, its non-banking 
report the following to the partnership                                                 parent corporation also resident in 
within 30 days of first becoming a         Information and Net 
                                                                                        Country X. FC1's net income (loss) 
reportable entity partner and, after first Income (Loss)                                results are included in a certified 
reporting to the partnership under these   Reconciliation                               audited consolidated financial 
instructions, thereafter within 30 days of                                              statement of FC. FC1 also has an 
the date of any change in the interest it  When To Complete Part I                      unconsolidated financial statement that 
owns or is deemed to own, directly or      Part I must be completed for any tax         is not certified. In answering questions B 
indirectly, under these instructions, in   year for which the foreign corporation       through D, FC1 may not use FC's 
the partnership: (1) its name, (2) its     files Schedule M-3.                          consolidated financial statement. FC1's 
mailing address, (3) its taxpayer                                                       “non-consolidated financial statement” 

Instructions for Schedule M-3 (Form 1120-F)(2022)      -3-

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is its own unconsolidated, worldwide Part I, lines 2b and 2c, regarding reportable on Schedule L are excluded
financial statement, which is a restatements of income statements, from line 4 unless they are included in
statement described in question C. If FC refer to the income statement issued by the corporation's financial consolidation
was also engaged in a trade or business the corporation filing the U.S. income of its Schedule L books in accordance
within the United States with reportable tax return. Answer “Yes” on lines 2b with the bank's ordinary and
assets over $10 million, then FC would and/or 2c if the corporation's annual consistently applied internal accounting
be required to file its own Schedule M-3 income statement has been restated for practices. Disregarded entities
and would be required to use its any reason. Attach a statement includible in Schedule L, that are not
certified audited financial statement providing a short explanation of the included in a non-tax financial
described in question B. In such reason for the restatement for each consolidation of the corporation's
circumstances, FC1 would continue to applicable period, including the original Schedule L books in accordance with
use its own non-consolidated statement amount and restated amount of each the bank's ordinary and consistently
described in question C. annual statement period's net income. applied internal accounting practices,
Example 3. Same facts as are separately reported on Part I, line 5.
Example 2, except FC1 is a disregarded Line 3. Publicly Traded Stock Ordinary and consistent internal
entity. Under U.S. tax principles, FC is accounting practices. If the foreign
the taxpayer treated as directly engaged If the foreign corporation's stock is bank's ordinary and consistently applied
in trade or business within the United traded on any exchange, domestic or accounting practices include the
States and is required to file Form foreign, please report the name of the consolidation of more than one set of
1120-F and Schedule M-3. FC's exchange(s) on the line provided. If books that is reportable on Schedule L,
“non-consolidated” financial statement additional room is needed, attach a as determined under Regulations
is its consolidated, certified audited statement. section 1.882-5(d)(2)(iii), the foreign
financial statement, described in bank may use such consolidated books
question B, because it is the financial For purposes of line 3, if the foreign for completing Part I, line 4. If additional
statement of the company engaged in a corporation's stock is not publicly traded set(s) of books that constitute
trade or business within the United (as defined above) and its voting stock Schedule L books are not included in
States that is required to file Form is owned or controlled 50% or more by the consolidated books, then such other
1120-F and Schedule M-3. FC's another foreign corporation whose stock Schedule L books must also be
consolidated entities (other than any is publicly traded (as defined above), reported on line 4, or if such other books
disregarded entities) are eliminated as check the “Yes” box and report the are set(s) of books of includible
“non-includible” entities on Part I, line 7. name of the exchange(s) on the line disregarded entities, they must be
provided. The foreign corporation reported on line 5. Interbranch
Line 1. Foreign Banks Described in whose stock is publicly traded does not transactions between the Schedule L
Regulations Section 1.882-5(c)(4) need to file Schedule M-3 (Form books must be eliminated and reported,
1120-F) unless such corporation is also if necessary, on line 8.
engaged in a trade or business within If the foreign bank does not have the
If a foreign corporation is a foreign bank the United States and has reportable certified audited financial statements
described in Regulations section assets of $10 million or more. described in question D, the bank
1.882-5(c)(4), answer “Yes” to Part I,
line 1. Special rules pertain to the should use any other financial statement
corporation for Part I, lines 4 through 11. Line 4. Net Income (Loss) From from which the balance sheet reported
For Schedule M-3 purposes, a foreign the Income Statement Identified in on Form 1120-F, Schedule L, is derived.
bank is defined based on section 581 Part I, Line 1 For this purpose, the term “any other
principles with respect to its banking financial statement” includes unaudited
activities on a worldwide level, without Part I, line 4, reports the net income financial statements prepared by the
regard to whether it conducts a banking (loss) from the applicable income corporation under the method of
trade or business within the United statement identified in Part I, line 1. accounting generally used by the
States. These requirements include corporation's U.S. operations. If no such
having a substantial part of its Foreign banks. If the foreign bank statements are available, trial balances
worldwide business consist of receiving has the type of non-consolidated, prepared from general ledgers or similar
deposits and making loans and worldwide financial statement described other records should be used.
discounts, or of exercising fiduciary in question B or C, the foreign bank
powers similar to those permitted to should check the “Yes” box for the Foreign corporations other than
national banks. In addition, the foreign applicable question B or C. However, do banks. If the foreign corporation is not
corporation must be subject to bank not report these results on Part I, line 4, a bank, Part I, questions B, C, and D,
regulatory supervision in its country of unless the foreign bank also chooses provide a hierarchy of applicable
incorporation. worldwide reporting of the set(s) of income statements for reporting on Part
books on Form 1120-F, Schedule L, I, line 4. If the corporation has the
Line 2. Questions Regarding under Regulations section 1.6012-2(g) non-consolidated, worldwide, certified
(1)(iii). If the foreign bank has certified audited financial statement described in
Income Statement Period and audited financial statements from which question B, report the net income (loss)
Restatements the balance sheet reported on Form from such statements on line 4. If the
1120-F, Schedule L, is derived (as corporation does not have a financial
Enter the beginning and ending dates described in question D), the net statement of that type but does have the
on line 2a for the corporation's annual income (loss) from such statements is non-consolidated, worldwide, unaudited
income statement period ending with or used to complete line 4, except that any financial statement described in
within the current tax year. disregarded entities whose results are question C, report the net income (loss)

-4- Instructions for Schedule M-3 (Form 1120-F)(2022)

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from such statements on line 4. These includible disregarded entities reported may not be included on line 4,
unaudited financial statements should on line 5. depending on the foreign corporation's
first include those prepared by the accounting principles. However,
corporation under the method of Line 5. Net Income (Loss) From inclusion of disregarded entities will be
accounting generally used by the Includible Disregarded Entities necessary on line 5 when a taxpayer
corporation. If no such unaudited has reported on Part I, line 4, amounts
statements are available, other financial (“Includible Entities”) from financial statements described in
statements may be used, including trial question D or similar unaudited
balances prepared from the Include the net income (loss) of any statements.
corporation's worldwide books and disregarded entity that is not included in
records that are based on the method of the income reported on Part I, line 4, but Adjustments for intercompany
accounting generally used by the should be included in Part I, line 11. The transactions between the foreign
corporation. financial results of disregarded foreign corporation and includible disregarded
entities are reported on lines 5a entities may be required. See the
If the foreign corporation has none of (income) and 5b (loss), and the financial instructions for Part I, line 8, later.
these financial statements, then the net results of disregarded U.S. entities are All foreign corporations. Attach a
income (loss) derived from the set(s) of reported on lines 5c (income) and 5d supporting statement that lists for each
books described in question D is used (loss). The applicable financial includible disregarded entity reported on
to report net income (loss) on line 4, statement of the disregarded entity to be lines 5a through 5d the name, EIN (if
excluding disregarded entities. All used is determined first under question applicable), and net income (loss) per
disregarded entities are reported on B, if available, then under question C. the financial statement of that includible
Part I, line 5. For corporations other than However, a foreign bank should only disregarded entity.
banks, the set(s) of books described in use the set(s) of books from the
question D are those that give rise to disregarded entity that are reportable on
Line 6. Net Income (Loss) Not
U.S. booked liabilities under Schedule L.
Regulations section 1.882-5(d)(2)(ii). Included on Lines 4 and 5 From
Foreign banks. A foreign bank Includible Foreign Locations
All foreign corporations. The should include on line 5 each
amount on line 4 must equal the disregarded entity that meets the
financial statement net income (loss) for following two conditions. Line 6 applies only to foreign
the income statement period ending corporations other than banks whose
with or within the tax year, as indicated 1. The disregarded entity is either books and records are not sufficient to
on line 2a. itself engaged in a trade or business report worldwide income on lines 4 and
within the United States and has 5. Line 6 reporting will be necessary
If the income statement period differs generated income effectively connected only when the corporation does not
from the corporation's tax year, the with it or, it is not engaged itself in a have a worldwide trial balance to report
income statement period indicated on trade or business within the United its worldwide income as satisfaction of
line 2a applies for purposes of Part I, States but has income effectively the requirements of question C. In such
lines 4 through 8. connected with a trade or business circumstances, the corporation will have
Combined Reporting of within the United States of the foreign used Form 1120-F, Schedule L, books
Schedule L set(s) of books – bank; and determined under Regulations section
Question D filers. All foreign banks 2. The net income (loss) of the entity 1.882-5(d)(2)(ii) on lines 4 and 5 and will
(and any other foreign corporation that would be includible on Part I, line 4, if need to report the net income (loss)
reports on Part I, line 4, the financial the assets and liabilities of such entity from all non-Schedule L books on line 6.
results from the set(s) of books used in were held directly by the foreign bank Line 6 reporting does not apply to
preparing Form 1120-F, Schedule L, rather than by the disregarded entity. corporations that are able to report
excluding disregarded entities), must worldwide net income (loss) on lines 4
attach a statement that identifies each If the income of the includible and 5 from financial statements
book (for example, New York Branch, disregarded entity is effectively described in questions B or C, or from
International Banking Facility, Cayman connected with a trade or business worldwide trial balances.
Branch) and its net income (loss) that is within the United States but would not
included on Part I, line 4. However, if a have been includible on Part I, line 4, if
foreign bank in its ordinary business the assets giving rise to such income Attach a supporting statement that
practice prepares a consolidation of one were held directly by the foreign provides, by country, the name and net
or more books required to be reported corporation rather than by the includible income (loss) per the financial
on Schedule L, such consolidated entity, then any effectively connected statement on Part I, line 6, of all foreign
results may be reported on line 4 in lieu income of the includible entity is locations. Foreign corporations other
of reporting the separate results for reported on Part II, line 23, columns (b) than banks that have effectively
each book in the consolidation. If a through (e), instead of Part I, line 5. connected income with respect to
transactions entered into as a global
consolidation of reportable books does Foreign corporations other than a dealer in securities must report
not exist, then transactions recorded bank. If the foreign corporation is not a separately in this supporting statement
between these books must be bank, include on line 5, all disregarded the net income (loss) for each set(s) of
separately eliminated and shown in the entities not included on Part I, line 4. books for which the effectively
aggregate as a separate reconciling When a foreign corporation reports connected dealer income is recorded
elimination line item on this schedule. In income (loss) from a financial statement within each separate country. All foreign
such a case, report on Part I, line 8, the identified in question B or C, net income corporations must report their effectively
eliminations for transactions between (loss) of a disregarded entity may or connected global dealing income in Part
set(s) of books reported on line 4 and II, line 16.

Instructions for Schedule M-3 (Form 1120-F)(2022) -5-

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Line 7. Net Income (Loss) of               Part I, line 5. For example, adjustments    on Part I, line 8, must be made. The 
Nonincludible Entities                     must be reported on line 8 to eliminate     foreign corporation must restore on 
                                           any intercompany dividends received by      Schedule M-3, Part I, line 8, the equity 
                                           the foreign corporation from any            income inclusion from that entity. If the 
This line will generally not apply to 
                                           disregarded entity whose results are        foreign corporation does not account for 
foreign banks (unless a nonincludible 
                                           included on Part I, line 5. However, if a   the entity on the equity method on its 
entity is consolidated in the Schedule L 
                                           disregarded entity is not reportable in     own general ledger, it will not have 
set(s) of books for line 4 purposes), nor 
                                           Part I (for example, because it does not    eliminated the equity income for 
does it apply to foreign corporations 
                                           give rise to U.S. booked liabilities under  non-consolidated, worldwide financial 
other than banks that report on Part I, 
                                           Regulations section 1.882-5(d)(2)(iii)),    statement purposes, and therefore will 
lines 4 and 5, income (loss) from the 
                                           the dividend received by the foreign        have no elimination of equity income to 
financial statements described in 
                                           bank is not eliminated on Part I, line 8.   reverse.
question D. For other corporations, 
                                           Instead, the dividend is eliminated as an 
remove the net income (in line 7a) or                                                  The attached supporting statement 
                                           interbranch transaction on Part II, line 3, 
loss (in line 7b) of any other entity                                                  for Part I, line 8, must identify the type 
                                           column (c).
whose income (loss) is reported on Part                                                (for example, minority interest, 
I, line 4, but should be excluded from     Foreign corporations other than             intercompany dividends, etc.) and 
Part I, line 11. Examples of such entities banks. For foreign corporations other       amount of consolidation or elimination 
are the foreign corporation's              than a bank, adjustments are necessary      entries reported, as well as the names 
subsidiaries (other than disregarded       in order to ensure that the consolidation   of the entities to which they pertain. It is 
entities) and partnerships that were       entries and intercompany elimination        not necessary to report intercompany 
combined with the corporation in the       entries included in the amount reported     eliminations that net to zero on Part I, 
type of consolidated financial statement   on Part I, line 11, are only those          line 8, such as intercompany interest 
described in questions B or C. Do not      applicable to worldwide income of the       income and expense. For instance, if 
remove in Part I the financial statement   non-consolidated foreign corporation.       the foreign corporation reports interest 
net income (loss) of any nonincludible     Adjustments on line 8 may be with           income on Part I, line 4, from 
entity accounted for in the financial      respect to transactions between the         transactions with a disregarded entity 
statements on the equity method.           foreign corporation and either a            included on Part I, line 5, it is not 
Adjustments are made for these entities    disregarded entity reported on Part I,      necessary to report the offsetting gross 
on Part II, lines 8 through 11.            line 5, or a nonincludible entity reported  interest income and gross interest 
                                           on Part I, line 7. Adjustments for          expense on Part I, line 8.
In addition, on Part I, line 8,            transactions with nonincludible entities    Example 4. F is a foreign 
adjustments for intercompany               are required only when the foreign          corporation other than a bank and has a 
transactions between the foreign           corporation reports worldwide income        fiscal financial and tax year end. F files 
corporation and nonincludible entities     on Part I, line 4, from a financial         Form 1120-F because it engaged in a 
may be required. See instructions for      statement described in Part I, questions    trade or business within the United 
line 8.                                    B or C. For example, adjustments must       States and is required to file 
                                           be reported on line 8 to remove minority    Schedule M-3. F owns two U.S. 
Attach a supporting statement that         interests and to reverse the elimination    subsidiaries, S1 and S2, and has made 
provides the name, EIN (if applicable),    of intercompany dividends included on       a check the box election for S1 to be 
and net income (loss) per the financial    Part I, line 4, that relate to the net      treated as a disregarded entity. Both S1 
statement or books and records             income of entities removed on Part I,       and S2 have the same fiscal year end 
included on line 4 that is removed on      line 7, because the income to which the     as F. In addition, F's home country 
this line 7 for each separate              consolidation or elimination entries        accounting rules require the inclusion of 
nonincludible entity.                      relate has been removed. In addition,       S2's income and expenses in F's 
                                           consolidation or elimination entries must   non-consolidated, worldwide, certified 
Line 8. Adjustments to                     be reported on line 8 to eliminate any      audited financial statements. However, 
                                           intercompany dividends received by the      S1's income and expenses are not 
Intercompany Transactions                  foreign corporation from any                included in F's non-consolidated, 
                                           disregarded entity whose results are        worldwide, certified audited financial 
Include on Part I, line 8: (i) adjustments included on Part I, line 5.                 statements.
to consolidation entries and elimination 
entries that are contained in the amount   Special treatment of equity                 On Schedule M-3, F must check 
reported on Part I, line 4 (see line 4     method inclusions for a foreign             “Yes” to question B. F must report its net 
instructions), required as a result of     corporation other than a bank.         If a income (loss) from its non-consolidated, 
adding amounts on Part I, lines 5 and 6;   foreign corporation other than a bank       worldwide, certified audited financial 
and (ii) amounts of any additional         reports worldwide income on Part I,         statements on Part I, line 4. On Part I, 
consolidation entries and elimination      line 4, and is an owner of an interest in   line 5, F must include the net income 
entries that are required as a result of   another entity that (1) is accounted for in (line 5c) or loss (line 5d) generated by 
removing amounts on Part I, line 7.        the foreign corporation's separate          S1, the disregarded U.S. entity. 
                                           general ledger on the equity method,        Because S2 is included in the 
Foreign banks. For foreign banks,          and (2) is fully consolidated in the        non-consolidated, worldwide, certified 
adjustments are necessary to account       foreign corporation's worldwide financial   audited financial statements, it is not 
for the elimination of certain             statements (thus eliminating the equity     reported on Part I, line 5, since it is 
transactions between the Schedule L        inclusion) and, if that entity is also      already included on Part I, line 4.
books reported on line 4 and for           reported on Part I, line 7, as a            Any adjustments necessary to 
transactions between the foreign bank      nonincludible entity, then an adjustment    remove intercompany transactions 
and each disregarded entity reported on 

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between F and S1 must be reported on disregarded entity FDE2 with net loss of engaged in trade or business within the
Part I, line 8. ($5,000). FDE1 and FDE2 do not have United States and required to file Form
any effectively connected income and 1120-F and Schedule M-3. FC has
Line 9. Adjustments to Reconcile do not have books that give rise to U.S. certified audited income statements that
Income Statement Period to Tax booked liabilities under Regulations report its non-consolidated, worldwide
section 1.882-5(d)(2)(ii). FC reports net net income and unaudited income
Year income on these financial statements of statements for the set(s) of books it
$50,000. In addition, FC has foreign reports on Schedule L for its trade or
Include on line 9 any adjustments locations that are not included in such business within the United States. FC
necessary to reconcile differences income statements. These locations do reports net income on the set(s) of
between the income statement period not have effectively connected income books of its trade or business within the
reported on line 2a and the on set(s) of books that give rise to U.S. United States of $50,000, which
corporation's tax year. Attach a booked liabilities. The financial net includes the results of U.S. disregarded
supporting statement identifying the income of such foreign locations is entity USDE1 with net income of
type of transaction and amount of each $25,000. $15,000 and U.S. disregarded entity
adjustment. USDE2 with a net loss of ($5,000).
FC must answer “No” to questions B
through D in Part I. FC must report on Although FC must answer “Yes” to
Line 10. Other Adjustments to Part I, line 4, $35,000 (total income question B, FC must not report on Part I,
Reconcile to Amount on Line 11 reported of $50,000, excluding the line 4, the results of these
results of FDE1 and FDE2). On Part I, non-consolidated, worldwide, certified
Include on line 10 any other line 5a, FC will include the $20,000 of audited income statements. FC must
adjustments, not reportable on lines 5 net income of FDE1 and will include on also answer “No” to question D. FC
through 9, to reconcile net income (loss) Part I, line 5b, the ($5,000) net loss of must report on Part I, line 4, the amount
on Part I, line 4, with net income (loss) FDE2. The net income of $25,000 from from the unaudited income statements
on Part I, line 11. foreign locations must be included on for the set(s) of books it reports on
Part I, line 6, such that $75,000 is the Schedule L of $40,000 (total income
For any adjustments reported on Part net income reportable on line 11. reported of $50,000, excluding the
I, line 10, attach a supporting statement Example 6. Foreign corporations results of USDE1 and USDE2 which
that provides, for each entity to which an other than a bank. FC is a non-bank also give rise to effectively connected
adjustment relates: the name and EIN (if foreign corporation engaged in trade or income and are set(s) of books included
applicable) of the entity, the nature of business within the United States and is in Form 1120-F, Schedule L). On Part I,
the adjustment, the amount of net required to file Form 1120-F and line 5c, FC will include the $15,000 of
income (loss) included in Part I before Schedule M-3. FC owns NI, a C net income of USDE1 and will include
any adjustments on line 10, and the corporation for federal income tax on Part I, line 5d, the ($5,000) net loss
amount of net income (loss) included on purposes. FC has certified audited of USDE2. Assuming no other
Part I, line 11. income statements that report its adjustments are required on Part I, lines
worldwide income and that of NI. FC 8 through 10, the net income reported
Line 11. Adjusted Financial Net reports net income on these statements on Part I, line 4, is $40,000, and the net
Income (Loss) of the of $120,000. Included in these results income reported on line 11 is $50,000.
Non-Consolidated Foreign are foreign disregarded entity FDE1 with Parts II and III
net income of $30,000, foreign
Corporation disregarded entity FDE2 with net loss of General Reporting Information
($5,000), and NI's net income of
The sum of lines 4 through 10 $40,000. FDE1 and FDE2 both have A statement may be attached to any line
constitutes the adjusted financial net effectively connected income that give even if none is required. For each line
income (loss) of the non-consolidated rise to U.S. booked liabilities. Interest item in Parts II and III, report in column
foreign corporation that is to be income of $5,000 received by FC from (a) the amount of the item included in
reconciled in Parts II and III with the NI is eliminated in the preparation of the net income (loss) reported on Part I,
foreign corporation's taxable income these statements. line 11. For each line item, report in
reported on Form 1120-F, Section II, column (e) the amount included in
FC must answer “Yes” to question B.
line 29. determining taxable income (loss) on
FC must report on Part I, line 4, Form 1120-F, Section II, line 29.
Example 5. Foreign corporations $120,000. The results of FDE1 and
other than a bank. FC is a non-bank FDE2 are not reported on Part I, line 5,
foreign corporation engaged in trade or since their results are already included Columns (b), (c), and (d)
business within the United States and on Part I, line 4. NI's income of $40,000
The temporary and permanent
required to file Form 1120-F and is reported on Part I, line 7, because NI
differences reportable in columns (b)
Schedule M-3. FC does not have is a nonincludible entity. The $5,000 of
and (c) are those book-to-tax
income statements that report its interest income is reported on Part I,
differences determined through a
non-consolidated, worldwide income, line 8. Assuming no other adjustments
comparison of the financial statement
but FC does have unaudited income are required on Part I, lines 9 and 10,
and tax amounts, under the Code or an
statements for the set(s) of books it the total income reported on Part I,
applicable income tax treaty, for each of
reports on Schedule L with respect to its line 11, is $85,000 ($120,000 – $40,000
the line items included on Part I, line 11,
trade or business within the United + $5,000).
States. Included in these results are and shown in Parts II and III.
Example 7. Foreign bank. FC is a
foreign disregarded entity FDE1 with net
foreign corporation that is a bank
income of $20,000 and foreign

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Column (b). Temporary                      to non-ECI, the amount is reported in         column (d) to report apportionments 
book-to-tax differences.   In column       column (c) and not in column (d).             only to non-ECI. In Part II, column (d), 
(b), report the book-to-tax difference for Accordingly, non-ECI tax-exempt               report apportionments of income as a 
each item expected to reverse in a         interest is reported in column (c) as a       negative amount and report losses as a 
future year or which reverses a prior      permanent difference under U.S. tax           positive number. Combine columns (a), 
year difference (whether or not so         principles. No additional apportionment       (b), (c), and (d) to reconcile the amount 
reported on a prior year's                 is necessary in column (d) for such           apportioned to ECI in column (e). For 
Schedule M-3). Temporary differences       amounts.                                      Part III, except for lines 26 and 31, 
that increase the amount shown in          Special treatment may apply for               report expenses that are apportioned to 
column (a) are reported as a positive      column (c) reporting on Part III, lines       non-ECI as a negative number in 
number.                                    26d (substitute interest payments), 26e       column (d). See special instructions for 
Column (c). Permanent                      (interest equivalents), and 27 (substitute    the reporting of interest expense on 
book-to-tax differences.   In column       dividend payments). See instructions for      line 26. Corporations other than banks 
(c) report any book-to-tax difference not  those lines below.                            do not report the allocation of expenses 
                                                                                         under Regulations section 1.861-8 from 
expected to reverse in a future year, and  Apportionments between                        Schedule H (Form 1120-F), line 20, on 
that also does not constitute a reversal   effectively and non-effectively               Schedule M-3, Part III, line 31.
of a prior year difference. The            connected income (ECI and 
determination as to whether a difference   non-ECI).  The combination of columns         Part III, lines 26d, 26e, and 27.       In 
is temporary or permanent should be        (a), (b), and (c) results in the gross        Part III, line 26d (substitute interest 
based on the facts available at the time   taxable income or deduction amount            payments), line 26e (interest 
the foreign corporation files its U.S. tax under U.S. tax principles for each line       equivalents), and line 27 (substitute 
return. If the foreign corporation is      item in Parts II and III that is eligible for dividend payments), amounts in these 
unable to determine whether a              allocation and apportionment between          categories paid by the foreign 
difference between column (a) and          ECI and non-ECI.                              corporation that are not included in 
column (e) for an item will reverse in a                                                 column (a) are reported in column (c) as 
future tax year or reverses a prior year   Column (d). Foreign bank.                     a positive number. Amounts described 
book-to-tax difference, report the         Column (d) is used to report the portion      in lines 26d, 26e, and 27 are reported in 
difference for that item in column (c).    of the combined amount of columns (a),        column (c) whether or not any of the 
Amounts that are permanent                 (b), and (c) that is allocated and            amount is apportionable in whole or in 
differences that reduce the income or      apportioned to non-ECI. If an amount          part to ECI in column (e). Column (d) is 
expense amount shown in column (a)         apportioned to non-ECI is included in         used for these line items only to 
are recorded as negative numbers. For      column (a), then report such amount as        apportion amounts to non-ECI.
example, interbranch income and            a negative number in column (d). If the 
expense amounts recorded on a foreign      apportioned amount included in column         Example 9. FC is a foreign bank 
bank's books reportable on Schedule L      (a) is a loss, then include the               that is required to file Form 1120-F and 
                                                                                         Schedule M-3. FC included on Part I, 
(and therefore included in column (a))     apportioned loss as a positive number in 
                                                                                         line 11, $100 of interest income, of 
that are disregarded under U.S. tax        column (d). Certain income may be 
                                                                                         which $60 is effectively connected 
principles are permanent differences       apportioned to ECI that is not reported 
                                                                                         tax-exempt interest income and $40 is 
reportable as negative amounts in          on the Schedule L books and is not 
                                                                                         noneffectively connected tax-exempt 
column (c).                                reportable in column (a). These 
                                                                                         interest income. In addition, FC included 
                                           amounts include allocable global 
                                                                                         on Part I, line 11, $300 of fee and 
If interbranch amounts recorded on         dealing income in Part II, line 16, and 
                                                                                         commission income that was 
Schedule L books are treated as            other income from non-Schedule L 
third-party amounts under Proposed         books reportable in Part II, line 23. Such    recognized for U.S. tax purposes in a 
Regulations sections 1.863-3(h) and        income is apportioned to ECI and              prior year.
1.475(g)-2 of the global dealing rules, or reported in column (d) as a positive          FC reports on Part II, line 4a, column 
recognition treatment is otherwise         number. For amounts reportable in Part        (a), the $100 of tax-exempt interest 
provided under an Advance Pricing          II, if the apportioned amount is a loss,      income. FC reports ($100) of permanent 
Agreement or Mutual Agreement              report such loss as a negative number         book-to-tax difference on line 4a, 
Procedure, then such interbranch           in column (d). In column (e), combine         column (c), to eliminate the tax-exempt 
amounts are treated as amounts subject     the amounts in columns (a), (b), (c), and     interest income. No amount is 
to apportionment between non-ECI and       (d) to determine the amount of each line      reportable on line 4a, column (d), since 
ECI in columns (d) and (e) and not as      item apportioned to ECI. See special          all of the income is a permanent 
permanent differences in column (c).       reporting instructions for reporting          difference under U.S. tax principles 
Amounts that are apportionable to          amounts in column (d) for substitute          without regard to its allocation between 
non-ECI are generally reportable only in   dividends and substitute interest income      effectively and noneffectively connected 
column (d). However, some amounts          in Part II, lines 3c and 4b, and for the      income. FC also includes on Part II, 
may be both permanent differences          allocation and apportionment of interest      line 7, column (a), the $300 of fee and 
under U.S. tax principles and also be      expense in Part III, line 26. Expenses        commission income. Since this amount 
apportioned to non-ECI under section       allocable from Schedule H, line 20, are       was already recognized in a prior year 
864(c). In such cases, a permanent         reportable in Part III, line 31, in columns   for U.S. tax purposes, FC reports on 
difference may not be double counted       (d) and (e) as a positive number.             line 7, column (b), a temporary 
by including it a second time in column                                                  difference of ($300).
(d). In such circumstances, where an       Column (d). Foreign corporations 
amount includible in column (a) is both a  other than banks.  Foreign                    Example 10.  The facts are the 
permanent difference and apportionable     corporations other than banks use             same as in Example 9, except the $100 
                                                                                         of tax-exempt interest is not included on 

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Part I, line 11, and is therefore excluded determining the amount reportable in Such amounts are reported as
from Part II, line 4, column (a). Because column (e). If no amount is reportable in permanent differences in column (c)
the $100 of tax-exempt interest income column (e), see Treaty-based reporting, and included in column (e). Third-party
is allocable to both ECI and non-ECI, it later. amounts included in worldwide income
has significance in determining the that are not attributable to the U.S.
allocation of expenses under indirect Interbranch reporting. If the permanent establishment should be
methods under Regulations section foreign corporation is a foreign bank reported in the following manner.
1.861-8, and is therefore required to be electing to use an eligible treaty,
reported on Part II, line 23, as income interbranch income and expense and Columns (b) and (c). Temporary
not included in the Schedule L books noneffectively connected income are and permanent differences are
that is allocable and apportionable to not treated as permanent differences to determined in accordance with the
ECI. Because no amount is includible in the extent such items are attributable to instructions for these columns, earlier,
column (a), the full $100 of tax-exempt the U.S. permanent establishment and except that each line in column (e) is as
interest is reported in column (d) as a are also included in the net income determined below.
positive number and in column (c) as a (loss) reported on Part I, line 11. For any
negative number. As a result, there is no item reported on Part I, line 11, that is Column (d). Differences for
amount reportable in column (e). attributable to the foreign corporation's amounts not attributable to a U.S.
U.S. permanent establishment, such permanent establishment are reported
Treatment of Items Under an amounts may have temporary as a negative number in column (d).
Eligible Treaty-Based Return differences under U.S. tax principles (for Differences for losses not attributable to
example, depreciation deductions a U.S. permanent establishment are
Position to Attribute Business reported as a positive number in Part II.
includible in column (a) may have
Profits to a U.S. Permanent temporary book-to-tax differences Column (e). Combine columns (a),
Establishment reportable in column (b)). For amounts (b), (c), and (d) and report the income or
If a foreign corporation elects to use an reported in Part II, column (a), do not deduction for each line item that is
eligible treaty that provides a report as permanent differences, includible in business profits attributable
permissible method other than the rules interbranch interest or other interbranch to the U.S. permanent establishment in
of section 864(c) and 882 to determine income in column (c) or noneffectively column (e).
its business profits attributable to a U.S. connected income including foreign
permanent establishment, the foreign related party interest, dividends or Example 11. Treaty-based
corporation must report on Form royalties that are not effectively reporting of business profits of a
1120-F, Section II, its business profits connected income under section 864(c) foreign bank. FC is a foreign bank
attributable to its U.S. permanent (4)(D) in column (d) to the extent such that has three sets of books that give
establishment under such income tax amounts are attributable to the U.S. rise to U.S. booked liabilities under
treaty that applies the OECD Transfer permanent establishment under the Regulations section 1.882-5(d)(2)(iii)
Pricing Guidelines in lieu of the OECD Transfer Pricing Guidelines, and that are reportable on Form 1120-F,
effectively connected income rules of applied by analogy. Report on any such Schedule L. Two of the books are
sections 864 and 882. In such a case, applicable lines in Part II or III using maintained in the United States by its
the treatment of items in columns (c) either of the methods of identification U.S. branch. The third book is a portfolio
and (d) must be adapted to apply the specified under Foreign bank of effectively connected loans that are
concepts of the applicable treaty. treaty-based reporting above, indicating recorded, managed, and funded in FC's
that the amount reported in column (e) home office in Country X. The three
Foreign bank treaty-based reporting. reflects interbranch income or loss books are consolidated for Form
For foreign banks, if any amounts are attributable to the U.S. permanent 1120-F, Schedule L, reporting
not reported in Part II, column (a), as establishment. purposes. FC files its Form 1120-F and
part of the set(s) of books that constitute Schedule M-3 under an eligible treaty to
the books of the U.S. permanent Treaty-based reporting for foreign report its business profits attributable to
establishment, but are attributable to the corporations other than banks. its U.S. permanent establishment in lieu
U.S. permanent establishment under Foreign corporations other than banks of reporting its net effectively connected
application of the OECD Transfer must include interbranch income and income under sections 864(c) and 882.
Pricing Guidelines, such amounts are expense as book-to-tax differences to The two books maintained in the United
included as permanent differences in the extent such items are not included in States are primarily attributable to FC's
columns (c) and (d). Report in column worldwide income reported on Part I, U.S. permanent establishment. The
(e) all amounts that are business profits line 11, and such items are attributable third set of books that constitutes a set
attributable to the U.S. permanent to the U.S. permanent establishment. of books for Regulations section
establishment. When a treaty-based Interbranch income should have been 1.882-5(d)(2)(iii) purposes is not
position modifies the amount(s) eliminated in arriving at the adjusted attributable to FC's permanent
reportable for any of the line items non-consolidated income reportable on establishment in the year FC files its
shown in Parts II and/or III of Part I, line 11. To the extent such Form 1120-F under the treaty-based
Schedule M-3 from the amounts interbranch amounts are attributable to method.
otherwise reportable based on Code a U.S. permanent establishment under
On the two books that are
principles, either (1) attach a separate Article 7 (Business Profits) of an
attributable to FC's U.S. permanent
statement identifying each such line applicable income tax treaty, the
establishment, FC records net book
item, or (2) on Part II or III, as applicable, amounts are also includible as a
income of $175. (FC has the following
include footnotes or similar references book-to-tax difference if they are
income: $500 of interbranch interest
for each such item to indicate that a reported in business profits under an
income, $200 of noneffectively
treaty-based position was claimed for eligible treaty-based tax return position.
connected interest income, and $1,200

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of effectively connected income under In Part III, the $325 of book expenses entities, whether from foreign or
Code-based principles. FC has $1,000 attributable to the U.S. permanent domestic sources, whether taxable or
of third party interest expense and $400 establishment are recorded in columns exempt from tax, and whether classified
of interbranch interest expense on the (a) and (e) in their respective as some other type of income for U.S.
books of its U.S. permanent categories. No adjustments are made in income tax purposes (such as
establishment that is priced at arm's this example in column (b) for temporary dividends), must be included on Part II,
length with its home office. Each type of differences or to business profits that line 4a, column (a). For the exceptions,
interest expense is also attributable to are not attributable to the U.S. look for the specific line in Part II.
its U.S. permanent establishment. On permanent establishment in column (d). Similarly, all fines and penalties
the two sets of books maintained in the No additional expenses are attributable included in Part I, line 11, paid to a
United States, FC has other third party to the U.S. permanent establishment government or other authority for the
expenses of $325 attributable to the from the home office, which would have violation of any law for which fines or
permanent establishment.) FC also has been reportable in column (d). A penalties are assessed, must be
$100 of income attributable to its U.S. footnote should be referenced to this included on Part III, line 11, column (a),
permanent establishment that is line indicating that a treaty-based regardless of the authority that imposed
recorded in its home office on set(s) of position was used in determining the the fines or penalties, regardless of
books that are predominantly not interest expense. whether the fines or penalties are civil or
attributable to FC's U.S. permanent criminal, regardless of the classification,
establishment. FC determines that $75 Schedule M-3 Reporting
of its book interest expense must be Requirements for Regulations nomenclature, or terminology attached
to the fines or penalties by the imposing
disallowed after equity capital is Section 1.6011-4(b) Reportable authority in its actions or documents.
allocated to the U.S. permanent Transactions
establishment under the OECD Transfer If a foreign corporation would be
If an amount is attributable to a
Pricing Guidelines applicable to Article 7 required to report in column (a) of Parts
reportable transaction described in
(Business Profits) of the treaty. II and III the amount of an item
Regulations section 1.6011-4(b), the specifically listed on Schedule M-3 in
FC reports $350 of treaty-based amount must be reported in columns accordance with the preceding
profits attributable to its U.S. permanent (a), (b), (c), (d), and (e), as applicable, paragraphs, except for the fact that the
establishment as follows. of Part II, line 12 (items relating to corporation has capitalized the item of
On Part II, line 4a, column (a), $1,900 reportable transactions), regardless of income or expense and reports the
of interest income is reported for the whether the amount would otherwise be amount in its financial statement
total interest income of the set(s) of reported on another line in Part II or Part balance sheet or in asset and liability
books attributable to the U.S. III of Schedule M-3. Thus, if a taxpayer accounts maintained in the
permanent establishment. In column (c), files Form 8886, Reportable Transaction corporation's books and records instead
$100 is reported as a permanent Disclosure Statement, the amounts of in its income statement, the foreign
difference for the income not included attributable to that reportable corporation must report the proper tax
on the set(s) of books reported on Form transaction must be reported on Part II, treatment of the item in columns (b), (c),
1120-F, Schedule L. In column (e), the line 12. (d), and (e), as applicable.
total interest of $2,000 is reported as
income attributable to the U.S. A corporation is required to report in Furthermore, in applying the
permanent establishment. column (a) of Parts II and III the amount preceding paragraphs, a foreign
of every item specifically listed on corporation is required to report in
On Part III, line 26a, the U.S. Schedule M-3 that is in any manner column (a) of Parts II and III the amount
permanent establishment's book included in the foreign corporation's of any item specifically listed on
interest expense of $1,400 is reported in current year income statement net Schedule M-3 that is included on Part I,
column (a). The total book amount is income (loss) or in an income or line 11, regardless of the nomenclature
reversed on line 26a in either column (b) expense account maintained in the associated with that item in the income
or (c). The $1,400 from column (a) is corporation's books and records, even if statements or books and records.
reported in columns (b) and/or (c) as a there is no difference between that Accurate completion of Schedule M-3
negative number. This includes the $75 amount and the amount included in requires reporting amounts according to
portion of the $1,400 that constitutes taxable income. However, this reporting the substantive nature of the specific
equity capital allocated to the U.S. is not required in cases where (a) these line items included in Schedule M-3 and
permanent establishment. On Part III, instructions provide otherwise, or (b) the consistent reporting of all transactions
line 26b, column (d), the $1,325 tax amount is attributable to a reportable of like substantive nature that occurred
amount of the interest expense (after transaction described in Regulations during the tax year.
the $75 allocation of equity capital is section 1.6011-4(b) and is therefore
taken into account) is reported. This reported on Part II, line 12. For example, all expense amounts
$1,325 amount reported in column (d) is that are included in the income
carried to column (e) and constitutes the For example, with the exception of statements or exist in the books and
amount from line 26a that is treated as interest income reflected on a records that represent some form of
interest expense attributable to the Schedule K-3 received by a foreign “Bad debt expense” must be reported
business profits of the U.S. permanent corporation as a result of the on Part III, line 24, column (a),
establishment. A footnote should be corporation's investment in a regardless of whether the amounts are
included indicating that interbranch partnership or other pass-through entity, recorded or stated under different
income was included in the column (e) and interest equivalents, all interest nomenclature in the income statements
amount. income included on Part I, line 11, or the books and records such as:
whether from unconsolidated affiliated “Provision for doubtful accounts,”
companies, third parties, banks, or other “Allowance for uncollectible notes

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receivable,” or “Impairment of trade 2005-75, 2005-50 I.R.B. 1137. If a Example 12. Temporary
accounts receivable.” Likewise, as specific item of income, gain, loss, differences. Foreign corporation FC
stated above, all fines and penalties expense, allocation, or deduction is has been filing a Form 1120-F from its
must be included on Part III, line 11, described on Part II, lines 1 through 24, 2000 tax year through the present. The
column (a), regardless of the or Part III, lines 1 through 32, and the income statement year is identical to the
terminology or nomenclature attached line does not indicate to “attach a tax year. FC placed in service ten
to them by the corporation in its books statement,” and the specific instructions depreciable, fixed, U.S. assets during its
and records or income statements. for the line do not call for an attachment 2000 tax year. FC is required to file
Similarly, if the fine and penalty, for of a statement, then the item is Schedule M-3 for the current tax year.
example, is included in another item, the considered separately stated and FC's total depreciation expense for its
amount of the fine or penalty should be adequately disclosed if the item is 2022 tax year for five of the assets is
segregated and included on Part III, reported on the applicable line and the $50,000 for income statement purposes
line 11. amount(s) of the item(s) are reported in and $70,000 for U.S. income tax
With limited exceptions, Part II the applicable columns of the applicable purposes. FC's total annual
includes lines for specific items of line. depreciation expense for its 2022 tax
year for the other five assets is $40,000
income, gain, or loss (“income items”). If Note. A statement or explanation may for income statement purposes and
an income item is described in Part II, be attached to any line even if none is $30,000 for U.S. income tax purposes.
lines 1 through 23, report the amount of required. In its income statements, FC treats the
the item on the applicable line,
regardless of whether or not there is any Except as otherwise provided, differences between income statement
difference for the item. If there is a differences for the same item must be and U.S. income tax depreciation
difference for the income item, or only a combined or netted together and expense as giving rise to temporary
portion of the income item has a reported as one amount on the differences that will reverse in future
difference and a portion of the item does applicable line of Schedule M-3. years. FC must combine all of its
not have a difference, and the item is However, differences for separate items depreciation adjustments. Accordingly,
not described in Part II, lines 1 through must not be combined or netted for its 2022 tax year, FC must report on
23, report and describe the entire together. Each item (and corresponding Part III, line 23, depreciation expense as
amount of the item on Part II, line 24. amount attributable to that item) must shown on its income statement of
be separately stated and adequately $90,000 in column (a), a temporary
With limited exceptions, Part III disclosed on the applicable line of difference of $10,000 in column (b), and
includes lines for specific items of Schedule M-3, or any statement U.S. income tax depreciation expense
expense, allocation, or deduction required to be attached, even if the of $100,000 apportionable between
(“expense items”). If an expense item is amounts are below a certain dollar non-ECI and ECI in column (d) and
described on Part III, lines 1 through 31, amount. column (e).
report the amount of the item on the
applicable line, regardless of whether or Required statements for Part II, Example 13. Bad debt and
not there is a difference for the item. If line 24, and Part III, line 32. A warranty reserves. Foreign
there is a difference for the expense separate statement must be attached to Corporation D files and completes
item, or only a portion of the expense Schedule M-3 (Form 1120-F) that Schedule M-3 for its 2021 and 2022 tax
item has a difference and a portion of includes a detailed description of each years. The income statement year is
the item does not have a difference and item and adjustment entered on Part II, identical to the tax year. On the last day
the item is not described in Part III, lines line 24, and Part III, line 32. of its 2022 tax year, D establishes two
reserve accounts in the amount of
1 through 31, report and describe the The description for each amount $100,000 for each account. One
entire amount of the item on Part III, entered in column (a) must be readily reserve account is an allowance for
line 32. identifiable to the name of the account accounts receivable that are estimated
If there is no difference between the in the financial statements or books and to be uncollectible. The second reserve
financial accounting amount and the records of the taxpayer, under which the is an estimate of future warranty
taxable amount of an entire item of amount in column (a) of the statement expenses. Both reserves are only for
income, loss, expense, or deduction was recorded in the accounting records. assets that give rise to effectively
and the item is not described or Also, the description for each amount connected income. In its income
included in Part II, lines 1 through 24, or entered in column (a) must include statements, D treats the two reserve
Part III, lines 1 through 32, report the detailed information supporting each accounts as giving rise to temporary
entire amount of the item in columns (a) adjustment reported in columns (b), (c), differences that will reverse in future
and (e) of Part II, line 27. and (d), including how the adjustment is years. The two reserves are expenses
identified in the accounting records. The for D's 2022 income statements but are
Separately stated and adequately entire description is considered the tax not deductions for U.S. income tax
disclosed. Each difference reported in description for the amount reported in purposes in 2022. D must not combine
Parts II and III must be separately stated column (e) for each item reported on the Schedule M-3 differences for the
and adequately disclosed. In general, a Part II, line 24, or Part III, line 32. two reserve accounts. D must report the
difference is adequately disclosed if the Each description should adequately amounts attributable to the allowance
difference is labeled in a manner that describe all five columns of Part II, for uncollectible accounts receivable on
clearly identifies the item or transaction line 24, or Part III, line 32. If additional Part III, line 24, Bad debt expense, and
from which the difference arises. For information is required to provide an must separately state and adequately
further guidance about adequate acceptable description, provide a disclose the amounts attributable to the
disclosure, see Regulations section supporting statement. other reserve, for warranty costs, on a
1.6662-4(f), Rev. Proc. 2004-45,
2004-31 I.R.B. 140, and Rev. Proc.

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required attached statement that effectively or noneffectively connected to cost-flow assumptions, additional
supports the amounts on Part III, line 32. character. The amounts allocable to costs required to be capitalized
D must also provide a description for noneffectively connected income are (including depreciation) such as section
each reserve that meets the then determined and reported in column 263A costs, inventory shrinkage
requirements for Part III, line 32, (d). E must report the ($25,000) accruals, inventory obsolescence
discussed earlier under Required allocable to noneffectively connected reserves, and lower of cost or market
statements for Part II, line 24, and Part income in column (d) and U.S. income (LCM) write-downs. Attach a statement
III, line 32. In this example, an tax bad debt expense of $50,000 in separately stating each item included on
acceptable description would be “Future column (e). this line and the amount for each
Warranty Expense Reserve.” column.
Part II. Reconciliation of
Do not report the following on this
Note. There is no need to add the title Net Income (Loss) per line 2:
of the reserve account to the description
if the account name for the amount in Income Statement of • Amounts reportable on Part II, line 12;
column (a) is already part of the Non-Consolidated Foreign • Any gain or loss from inventory
hedging transactions reportable on Part
adjustment description. Corporations With Taxable II, line 13;
Example 14. Non-ECI and ECI Income per Return • Mark-to-market income or (loss)
apportionment of temporary Note. Foreign corporations report, on under section 475 reportable on Part II,
differences. Corporation E files and lines 1 through 17, 19 through 21a, 24, line 14;
completes Schedule M-3 for its 2021 and 27 in column (a), the income (loss) • Global dealing income reportable on
and 2022 tax years. The income items included in the financial net Part II, line 16;
statement year is identical to the tax income (loss) reported on Part I, line 11. • Section 481(a) adjustments related to
year. At the beginning of the 2022 tax See the instructions for Part I, line 11, cost of goods sold or inventory valuation
year, E establishes an allowance for for reporting differences between reportable on Part II, line 18;
uncollectible accounts receivable (bad foreign banks and foreign corporations • Original issue discount, imputed
debt reserve) of $100,000, all of which other than a bank. interest, and phantom income
is related to assets that give rise to reportable on Part II, line 20;
effectively connected income. During Tiebreaker rules. There are tiebreaker
2022, E increased the reserve by rules described in detail below under • Fines and penalties reportable on
$250,000 for additional accounts each applicable line instruction for Part Part III, line 11;
receivable that may become II. For example, for foreign corporations • Judgments, damages, awards, and
uncollectible, of which $150,000 is that report income from their U.S. trade similar costs, reportable on Part III,
related to assets that give rise to or business associated with global line 12;
effectively connected income. dealing activities in securities or • Amounts reported on Part II, line 17,
Additionally, during 2022, E decreases financial instruments, global dealing Sales versus lease; and
the reserve by $75,000 for accounts income is prioritized on line 16 even • Amounts reported on Part III, line 25,
receivable that were discharged in though some income or loss amounts in Purchase versus lease.
bankruptcy during 2022, of which the global dealing book might otherwise Lines 3a and 3b. Dividends
$50,000 is related to assets that give appear to be reportable on another line
Report on lines 3a through 3b, column
rise to effectively connected income. (for example, dividends on line 3a or 3b,
(a), the amount of dividends included on
The balance in the reserve account on or hedges on line 13).
Part I, line 11, from foreign and U.S.
the last day of the 2022 tax year, is Line 1. Gross Receipts or Sales entities. Report on lines 3a through 3b,
$275,000, of which $200,000 relates to column (e), the amount of any dividends
Enter total gross receipts or sales net of
assets that give rise to effectively included in taxable income on Form
returns and allowances. In column (e),
connected income. The $100,000 1120-F, Section II, line 4. Do not include
enter the amount from Form 1120-F,
amount to establish the reserve account on lines 3a through 3b dividends from
Section II, line 1c. Do not report gross
and the $250,000 to increase the global securities dealings which are
receipts resulting from reportable
reserve account are expenses on E's reportable on Part II, line 16b, or
transactions (line 12), sale of securities
2022 income statements, but are not dividends reported elsewhere (for
that are marked to market (line 14),
deductible for U.S. income tax purposes example, substitute dividends
currency gains and losses from other
in 2022. However, of the $75,000 reportable on line 3c and reportable
section 988 transactions (line 15), or
decrease to the reserve, only $50,000, transactions reportable on line 12). Any
receipts or sales of securities from
which is attributable to assets that give effectively connected dividends from
global securities dealings (line 16).
rise to effectively connected income, is corporations reported by the foreign
deductible for U.S. income tax purposes Line 2. Cost of Goods Sold corporation under the equity method are
in 2022. Report on line 2 any amounts treated as reported in columns (c) and (e) of this
In its income statements, E treats the part of cost of goods sold during the tax line, as described in the instructions for
reserve account as giving rise to a year, regardless of whether the amounts Part II, line 8.
temporary difference that will reverse in would otherwise be reported elsewhere Line 3c. Substitute Dividend
future tax years. For its 2022 tax year, E in Part II or Part III. However, do not
must report its income statement bad report the items mentioned in the next Payments Received
debt expense of $350,000 in Part III, paragraph on this line 2. Examples of Report on line 3c, the gross substitute
line 24, column (a). The temporary amounts that must be included on line 2 dividend payments received with
difference of ($275,000) is determined are amounts attributable to inventory respect to securities loans under section
under U.S. tax principles and reported in valuation, such as amounts attributable 1058 or substantially similar
column (b) without regard to its transactions, or from sale repurchase

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transactions, as described in             with the United States, the dividends are   noneffectively connected portion) and 
Regulations sections 1.861-3(a)(6),       subject to a 15% gross basis tax.           all $600 of the interbranch interest 
1.864-5(b)(2)(ii), and 1.881-2(b)(2). Do  The substitute payments are not             income. FC must also report ($150) of 
not net substitute dividend payments      reportable on Part I, line 11, or Part II,  noneffectively connected interest 
received against any substitute dividend  line 3c, column (a). FC must report $200    income from its “10% rule securities” in 
payments made by the foreign              of dividends on line 3c, column (c), as a   column (d) as a negative amount. FC 
corporation to another securities lender. positive number. On line 3d, column (d),    combines columns (a), (b), (c), and (d) 
Foreign banks – worldwide report-         the $200 is reported as a negative          and reports $1,150 of effectively 
ing. Foreign banks must also report in    number. FC enters zero in column (e).       connected interest income in column 
column (c) all U.S. source substitute     On Form 1120-F, Section I, FC must          (e).
dividend payments received as             report the substitute dividends received    Line 4b. Substitute Interest 
beneficial owner to the extent they are   that are not properly withheld upon and 
not already included on Part I, line 11,  reported by the withholding agent on        Payments Received
and without regard to whether such        Form 1042-S.                                Report on line 4b, the gross substitute 
                                                                                      interest payments received with respect 
payments received are effectively         Line 4a. Interest Income                    to securities loans under section 1058, 
connected income. For example, 
substitute dividends received by a        Excluding Interest Equivalents              sale repurchase transactions, or similar 
foreign bank that are not reported on     Report on Part II, line 4a, column (a), the transactions, as described in 
Form 1120-F, Schedule L, must be          total amount of interest income included    Regulations sections 1.861-2(a)(7), 
reported as U.S. source payments          on Part I, line 11, and report on Part II,  1.864-5(b)(2)(ii), and 1.881-2(b)(2). Do 
received in column (c) and reversed to    line 4a, column (e), the total amount of    not net substitute interest payments 
the extent of the non-ECI portion of the  interest income included on Form            received against substitute interest 
payments in column (c) as a negative      1120-F, Section II, line 5, that is not     payments made by the foreign 
number in column (d). Reporting in        required to be reported elsewhere in        corporation with respect to any section 
columns (c) and (d) for substitute        Part II. In column (b) or (c), as           1058 sale repurchase transactions, 
dividends is required even if no amount   applicable, adjust for amounts treated      including payments made with respect 
would be reported in columns (a) and      for U.S. income tax purposes as interest    to “matched book” transactions, or any 
(e). Any U.S. source substitute           income that are treated as some other       similar transaction.
dividends that are effectively connected  character of income in the income           Foreign banks – worldwide report-
with the foreign corporation’s trade or   statements, or vice versa. All              ing. Foreign banks must report all U.S. 
business within the United States are     interbranch interest income included on     source substitute interest payments 
reportable in column (e). Do not report   Part I, line 11, that is excluded from      received as beneficial owner, whether 
on any line, substitute dividend          taxable income is reported as a             or not such payments are included in 
payments received in custody for          permanent difference in column (c). For     Part I, line 11, and are effectively 
another owner of the substitute payment   foreign corporations other than banks,      connected income. All U.S. sourced 
or such payments reportable on            see the instructions for Part I, line 8,    substitute interest received by a foreign 
line 16b.                                 regarding eliminations of interbranch       bank that is not reported on Form 
                                          transactions.
Example 15.  FC, a foreign bank                                                       1120-F, Schedule L, is reportable in 
                                                                                      column (c) and the non-ECI portion is 
resident in Country X, is engaged in a    Do not report on this line 4a, in any       reversed as a negative amount in 
banking trade or business within the      column, amounts reported in                 column (d). Both U.S. and foreign 
United States through a U.S. permanent    accordance with instructions for Part II,   source substitute interest that is 
establishment. FC has an income tax       lines 4b, 4c, 9 through 13, 16a, 20, and    effectively connected with the foreign 
treaty with the United States that        23.                                         corporation's trade or business within 
imposes a 15% tax on gross portfolio 
dividends received by the corporation     Example 16.      FC is a foreign bank       the United States is reportable in 
that are not attributable to a U.S.       that is required to file Form 1120-F and    column (e).
permanent establishment. FC records       Schedule M-3 for the current tax year.      Do not report on line 4b substitute 
securities lending transactions with      FC included on Part I, line 11, the         interest payments received in custody 
respect to U.S. and foreign stocks on its following interest income items totaling    for another owner of the substitute 
home office set(s) of books. These        $2,000: $600 of interbranch interest        payment or such payments reportable 
set(s) of books do not give rise to U.S.  income; $100 of tax-exempt interest,        on line 16a.
booked liabilities under Regulations      $60 of which is effectively connected; 
section 1.882-5(d)(2)(iii) and are not    $300 of interest income with respect to     Report all substitute interest 
reportable on Form 1120-F, Schedule L.    securities described in Regulations         payments received on line 4b whether 
FC receives $200 of substitute            section 1.864-4(c)(5)(ii)(b)(3) (“10% rule  or not such amounts are characterized 
dividends from transactions described     securities”), $150 of which is allocable    as interest or other income under the 
in section 1058, all of which are not     to noneffectively connected income          Code.
effectively connected with FC's trade or  under the rule of that paragraph; and       Example 17.  FC, a foreign bank, 
business within the United States and     $1,000 of other effectively connected       receives $1,000 of gross U.S. source 
are not attributable to FC's U.S.         interest income.                            substitute interest payments with 
permanent establishment. Under            FC reports on Part II, line 4a, column      respect to sale repurchase agreements. 
Regulations sections 1.861-3(a)(6) and    (a), all $2,000 of this interest income.    FC also has $200 of gross U.S. source 
1.881-2(b)(2), the substitute dividends   FC reports ($700) as a permanent            substitute interest with respect to 
are sourced and characterized as U.S.     difference on line 4a, column (c), to       securities loans of municipal bonds in 
source dividends. Under FC's treaty       eliminate all $100 of the tax-exempt        transactions described in section 1058. 
                                          interest income (including the              All of the substitute interest received 

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was included on FC's set(s) of books Line 8. Income (Loss) From of certain foreign partnership interests
reported on Form 1120-F, Schedule L, Equity Method Corporations from line 10,” the sum of all amounts
and is reportable on Part I, line 11. attributable to the corporation's
Report on line 8, column (a), the income distributive share of income or loss from
FC must report all $1,200 of the statement income (loss) included in Part all U.S. and foreign partnership interests
substitute interest in column (e) as I, line 11, for any corporation accounted that are included in taxable income. The
effectively connected income. The $200 for on the equity method. Remove such amount reported in column (e) of lines 9
of U.S. source ECI substitute interest amount in column (b) or (c), as and 10 should reconcile with an amount
received from the municipal bond applicable. Include on Part II, line 3, that is:
securities loans is not characterized as columns (c) and (e), dividends received The sum of the gross income
•
tax-exempt municipal bond interest, but from any corporation accounted for on amounts reported on Schedule P (Form
is U.S. source “other income” consistent the equity method to the extent the 1120-F), Part II, lines 2 and 3 ("Total"
with the characterization provisions dividends constitute effectively column), minus
applicable only to substitute interest connected income. The sum of the deductions/loss
payments described in Regulations •
section 1.881-2(a)(2). Accordingly, no Lines 9 and 10. Net Income amounts reported on Schedule P (Form
amount of the payment is reportable in (Loss) from U.S. and Certain 1120-F), Part II, lines 5 and 6 ("Total"
column), plus
column (c) as a permanent difference. Foreign Partnerships • The sum of the amounts reported on
Line 4c. Interest Equivalents Note. The income (loss) reported in Schedule P (Form 1120-F), Part II, lines
Other Than Substitute Interest column (e) must reconcile with the 7 and 8 ("Total" column).
effectively connected income reportable
Reported on Line 4b to the foreign corporation on all Exclusion of certain foreign
Report on line 4c, interest income Schedules K-3 (Form 1065) and which partnership interests from line 10.
equivalents other than substitute the foreign corporation is required to Foreign corporations other than banks
interest reportable on line 4b or other report on Schedule P (Form 1120-F), that have foreign partnership interests
interest equivalents reportable on other Part II. with no effectively connected income for
lines in Part II. Interest equivalents Except as provided below for certain the year need not separately report
reportable on line 4c generally consist of foreign partnership interests of those interests on this line. If, however,
fees and commission income with corporations other than a bank, report the foreign corporation reports a
respect to certain financial transactions amounts on Part II, line 9 or 10, as partnership interest on the equity
that do not give rise to interest under described below. method in the income statement used
section 163 (for example, financial for Part I, line 4, it may report such
guarantee fees, and acceptance 1. Report in column (a), the sum of amounts in column (a) of this line. The
confirmation and standby letter of credit the corporation's distributive shares of corporation should report effectively
fees). Do not report periodic income all items of income, gain, deduction, and connected amounts in column (e)
with respect to notional principal loss from all U.S. and foreign consistent with the reporting equity
contracts on Part II, line 4c. partnership interests that are included in method amounts in column (a). For
Schedule M-3, Part I, line 11. example, if the foreign corporation does
Do not report on this line 4c, amounts 2. Report in column (b) or (c), as not report the partnership interest on
reported in accordance with instructions applicable, the sum of all differences, if Part II, line 10, column (a), it should not
for Part II, lines 4a, 4b, 9, 10, 11, 12, 13, any, attributable to the U.S. and foreign report any amounts in column (e) for the
16a, 20, and 23. partnership interests. The corporation's partnership interest. It would instead
Line 5. Gross Rental Income distributive share of book interest report the income and other items from
Report on line 5, gross rental income expense from all its U.S. and foreign the partnership interest for column (e)
that is treated as rental income for both partnership interests reported in column purposes based on the reporting for
the taxpayer's financial reporting (a), must be reported as a positive each line included in the income
purposes and for U.S. income tax amount in column (c) as a permanent statement. However, if a foreign
purposes. Gross rents that are recorded difference. The amount of interest corporation allocates interest expense
as a sale for financial purposes and as expense, from all U.S. and foreign under the separate currency pools
rental income for federal tax purposes partnership interests, allowed as a method in Regulations section
or vice versa, are reportable on Part II, deduction against effectively connected 1.882-5(e) or allocates excess interest
line 17, instead of line 5. income is entered on Part III, lines 26b expense under Regulations section
and 26c, from Schedule I (Form 1.882-5(d)(5), and interest expense
Line 7. Fee and Commission 1120-F), lines 23 and 24g, respectively. included in the foreign corporation's
Income 3. Report in column (d), the distributive share of a foreign
Report on line 7, column (a), any amounts of gross non-effectively partnership is included in such
amounts included on Part I, line 11, as connected income and expenses that allocation, see the instructions for Part
gross fee and commission income. relate to the distributive share of income III, line 26a, for the required reporting.
Such income generally includes income or loss from all U.S. and foreign Example 18. FC is a calendar year
with respect to services performed (for partnership interests. These amounts taxpayer that is required to file
example, fees for brokerage service will have been reported to you on Schedule M-3 for the current tax year.
transactions and negotiation letters of columns (e), (f), and (g) of Schedule K-3 FC, which is not a foreign bank, is a
credit). Do not include amounts (Form 1065), Part X, Section 1, line 21, partner in foreign partnership FP. FC
reportable on Part II, line 4c. and Section 2, line 24. prepares income statements in
4. Report in column (e), except for accordance with home country GAAP.
amounts described below in “Exclusion In its income statements, FC treats the

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difference between income statement expense as a negative number in Line 12. Items Relating to
net income and taxable income from its column (c). The amount of pass-through Reportable Transactions
investment in FP as a permanent interest expense allowed as a deduction
difference. For its 2022 tax year, FC's against effectively connected income is Any amounts attributable to any
income statement includes $10,000 of included on Part III, lines 26b and 26c, reportable transactions (as described in
income attributable to its share of FP's from Schedule I (Form 1120-F), lines 23 Regulations section 1.6011-4) must be
net income. FC's Schedule K-3 from FP and 24g. included on Part II, line 12, regardless of
whether the difference, or differences,
reports $5,000 of ordinary income, 3. Report in column (d), the total would otherwise be reported elsewhere
$7,000 of long-term capital gains, amount of noneffectively connected in Part II or Part III. Thus, if a taxpayer
$4,000 of charitable contributions, and income related to the distributive share files Form 8886, Reportable Transaction
$200 of section 179 expense. It has of income or loss from the pass-through Disclosure Statement, for any
been determined that all of these entity. reportable transaction described in
amounts are effectively connected to
FC's trade or business within the United 4. Report in column (e), the sum of Regulations section 1.6011-4, the
States. Consequently, FC must enter all taxable amounts of income, gain, amounts attributable to that reportable
the following amounts on Part II, line 10: loss, or deduction reportable on the transaction must be reported on Part II,
$10,000 in column (a), a ($200) corporation's Schedules K-3 received line 12. In addition, all income and
temporary difference in column (b) for from the pass-through entity (if expense amounts attributable to a
the section 179 deduction that is applicable). reportable transaction must be reported
on Part II, line 12, columns (a) and (e),
effectively connected with FC's trade or Foreign corporations other than
even if there is no difference between
business, a permanent difference of banks that have interests in foreign
the financial amounts and the taxable
($2,000) in column (c), and $7,800 in pass-through entities with no effectively
amounts.
column (e). The ($2,000) permanent connected income for the year need not
difference reported in column (c) is separately report those interests on this Each difference attributable to a
determined as the aggregate difference line. If, however, the foreign corporation reportable transaction must be
between column (a) and column (e) reports a pass-through interest on the separately stated and adequately
after temporary differences in column equity method in the income statement disclosed. A corporation will be
(b). used for Part I, line 4, it may report such considered to have separately stated
Example 19. Same facts as amounts in column (a) of this line. The and adequately disclosed a reportable
Example 18 except that FC's charitable corporation should report effectively transaction on line 12 if the corporation
contribution deduction is wholly connected amounts in column (e) sequentially numbers each Form 8886
attributable to its partnership interest in consistent with the reporting equity and lists by identifying number on the
FP and is limited to $90 pursuant to method amounts in column (a). For supporting statement for Part II, line 12,
section 170(b)(2) due to other example, if the foreign corporation does each sequentially numbered reportable
investment losses incurred by FC. In its not report the pass-through interest in transaction and the amounts required
income statements, FC treated this column (a), it should not report any for Part II, line 12, columns (a) through
limitation as a temporary difference. FC amounts in column (e) for the (e).
must not report the charitable pass-through interest. It would instead In lieu of the requirements of the
contribution limitation of $3,910 report the income and other items from preceding paragraph, a corporation will
($4,000 - $90) on Part II, line 9. FC must the pass-through interest for column (e) be considered to have separately stated
report the limitation on Part III, line 16, purposes based on the reporting for and adequately disclosed a reportable
and report the disallowed charitable each line included in the income transaction if the corporation attaches a
contributions of ($3,910) in columns (b) statement. However, if a foreign supporting statement that provides the
and (e). corporation allocates interest expense following for each reportable
under the separate currency pools transaction.
Line 11. Income (Loss) From method in Regulations section
Other Pass-Through Entities 1.882-5(e) or allocates excess interest 1. A description of the reportable
For any interest in a pass-through entity expense under Regulations section transaction disclosed on Form 8886 for
(other than an interest in a partnership 1.882-5(d)(5), and interest expense which amounts are reported on Part II,
reportable on Part II, line 9 or 10, as included in the foreign corporation's line 12;
applicable) owned by the corporation, pass-through amount is included in 2. The name and tax shelter
report the following on line 11. such allocation, see the instructions for registration number, if applicable, as
Part III, line 26a, for the required reported on lines 1a and 1c,
1. Report in column (a), the sum of reporting. respectively, of Form 8886; and
the corporation's distributive share of
income or loss from the pass-through For each pass-through entity 3. The type of reportable transaction
entity that is included in Part I, line 11. reported on line 11, attach a supporting (that is, listed transaction, confidential
2. Report in column (b) or (c), as statement that provides that entity's transaction, transaction with contractual
applicable, the sum of all differences, if name, EIN (if applicable), the protection, etc.) as reported on line 2 of
any, attributable to the pass-through corporation's end of year profit-sharing Form 8886.
entity. In column (c), the corporation's percentage (if applicable), the If a transaction is a listed transaction
distributive share of interest expense corporation's end of year loss-sharing described in Regulations section
from all of its pass-through entities percentage (if applicable), and the 1.6011-4(b)(2), the supporting
reported in column (a), must be amounts reported by the corporation in statement must also include the
reversed as a permanent difference. column (a), (b), (c), (d), or (e) of line 11, information requested on line 3 of Form
Enter the amount of all such interest as applicable. 8886. In addition, if the reportable
transaction involves an investment in

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the transaction through another entity      Part II, line 12, the following amounts:      purposes pursuant to section 1221(b)
such as a partnership, the supporting       ($7 million) in column (a), zero in           (2), must also be reported here if it is 
statement must include the name and         columns (b) and (c), and ($7 million) in      considered a hedge under the 
EIN (if applicable) of that entity as       column (e). The transaction will be           corporation's method of accounting. 
reported on line 5 of Form 8886.            adequately disclosed if K attaches a          Transactions that are treated as 
Example 20. Corporation J is a              supporting statement for line 12 that (a)     hedging capital assets solely because 
calendar year taxpayer that is required     sequentially numbers the Form 8886            the hedged asset gives rise to 
to file Schedule M-3 for the current tax    and refers to the sequentially-numbered       noneffectively connected income and is 
year. J incurred seven different            Form 8886-X1 and (b) reports the              not eligible for ordinary treatment under 
abandonment losses during its 2022 tax      applicable amounts required for line 12,      section 582(c), are also reported on 
year. One loss of $12 million results       columns (a) through (e). Alternatively,       line 13. See Example 22.
from a reportable transaction described     the transaction will be adequately 
in Regulations section 1.6011-4(b)(5),      disclosed if the supporting statement for     Report on Part II, line 16c, hedging 
another loss of $5 million results from a   line 12 includes a description of the         transactions entered into by a global 
reportable transaction described in         transaction, the name and tax shelter         dealing operation including those that 
Regulations section 1.6011-4(b)(4), and     registration number, if any, and the type     are “risk transfer agreements” defined in 
the remaining five abandonment losses       of reportable transaction disclosed on        Proposed Regulations section 
are not reportable transactions. J          Form 8886.                                    1.475(g)-2. However, income with 
                                                                                          respect to a risk transfer agreement that 
discloses the reportable transactions       Line 13. Hedging Transactions                 is held by the foreign corporation's 
giving rise to the $12 million and $5                                                     non-global dealing operations is, unless 
                                            Report on line 13, column (a), the net 
million losses on separate Forms 8886                                                     reported elsewhere in Part II, reported 
                                            gain or loss from hedging transactions 
and sequentially numbers them X1 and                                                      on line 13 to the extent it is reported on 
                                            (including hedges of inventory) included 
X2, respectively. J must separately state                                                 Part I, line 11. If a foreign bank does not 
                                            in the amount reported on Part I, line 11, 
and adequately disclose the $12 million                                                   so report a risk transfer agreement held 
                                            other than:
and $5 million losses on Part II, line 12.                                                by a non-global dealing operation on 
The $12 million loss and the $5 million     • Hedging transactions entered into by 
                                            a global dealing operation (see line 16       Part I, line 11, any ECI from such risk 
loss will be adequately disclosed if J                                                    transfer agreement earned by the 
                                            instructions);
attaches a supporting statement for                                                       non-global dealing operation must be 
line 12 that lists each of the sequentially • Qualified integrated foreign currency 
                                            hedging transactions under Regulations        reported on Part II, line 23, column (d).
numbered forms, Form 8886-X1 and 
                                            section 1.988-5(a) (report these 
Form 8886-X2, and with respect to each                                                    Report on this line 13 hedging gains 
                                            transactions on either Part II, line 4, or in 
reportable transaction reports the                                                        and losses with respect to non-dealer 
                                            Part III, line 26a, column (a), as 
appropriate amounts required for Part II,                                                 transactions that are determined under 
                                            applicable);
line 12, columns (a) through (e).                                                         the mark-to-market method of 
Alternatively, J's disclosures will be      • Hedging transactions of securities          accounting on the income statement 
                                            dealer property (other than a global 
adequate if the description provided for                                                  (other than those that are subject to 
                                            dealing operation) that is 
each loss on the supporting statement                                                     mark-to-market treatment under a valid 
                                            marked-to-market under section 475(a) 
includes the names and tax shelter                                                        election under sections 475(e) or (f)).
                                            (see instructions for line 14a);
registration numbers, if any, disclosed                                                   Example 22.  FC is a foreign bank 
on the applicable Form 8886, identifies     • Hedging transactions entered into by 
                                            a commodities dealer that makes a             that enters into a U.S. dollar interest rate 
the type of reportable transaction for the                                                notional principal contract to hedge a 
                                            mark-to-market election under section 
loss, and reports the appropriate                                                         portfolio of securities held for 
                                            475(e) (see instructions for line 14c); 
amounts required for Part II, line 12,                                                    investment on its U.S. set(s) of books 
                                            and
columns (a) through (e). J must report                                                    that are reportable on Form 1120-F, 
the losses attributable to the other five   • Hedging transactions entered into by 
                                            a securities or commodities trader that       Schedule L. The hedged portfolio 
abandonment losses on Part II, line 21e,                                                  consists of four securities of equal 
                                            makes a mark-to-market election under 
regardless of whether a difference                                                        amounts, only two of which give rise to 
                                            section 475(f) (see instructions for 
exists for any or all of those                                                            effectively connected income. For 
                                            line 14d).
abandonment losses.                                                                       financial statement purposes, the 
Example 21.  Corporation K is a               Do not report the income from the           notional principal contract is treated as a 
calendar year taxpayer that is required     hedged item(s) on line 13. For hedging        hedging transaction. For U.S. tax 
to file Schedule M-3 for the current tax    transactions reportable on line 13,           purposes, the two securities that give 
year. K enters into a transaction with      report in column (e) the amount of            rise to noneffectively connected income 
contractual protection that is a            taxable income from hedging                   are capital assets that are not eligible for 
reportable transaction described in         transactions as defined in section            ordinary treatment on disposition under 
Regulations section 1.6011-4(b)(4).         1221(b)(2). Use columns (b) and (c) to        section 582(c). Consequently, the 
This reportable transaction is the only     report all differences caused by treating     notional principal contract does not 
reportable transaction for K's 2022 tax     hedging transactions differently for          constitute a hedging transaction under 
year and results in a $7 million capital    financial accounting purposes and for         section 1221(b)(2). Regardless, the 
loss for both financial statement           U.S. income tax purposes. For example,        income gain or loss with respect to the 
purposes and U.S. income tax                if a portion of a hedge is considered         notional principal contract (including any 
purposes. It was determined that the        ineffective under GAAP but still is a valid   mark-to-market income from the hedge) 
entire amount is attributable to            hedge under section 1221(b)(2), the           is reportable as a hedging transaction 
effectively connected income. Although      difference must be reported on line 13.       on line 13 and is not reported on line 4b 
the transaction does not result in a        The hedge of a capital asset, which is        or 14b.
difference, K is required to report on      not a valid hedge for U.S. income tax 

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Lines 14a Through 14d.                      Example 23.  Foreign corporation            are acquired and normally held for 
Mark-to-Market Income (Loss)                FC, a broker-dealer that is not a foreign   investment or otherwise not held by a 
                                            bank, is a dealer in securities under       global securities dealer. Foreign 
Except for global dealing operations        section 475(a) and conducts its entire      currency transactions entered into by a 
reportable on line 16 and for certain       securities dealing operation within the     global securities dealing operation are 
hedging transactions reported on            United States. All of the income is         reportable exclusively on line 16c. Do 
line 13, report on lines 14a through 14d,   recorded on set(s) of books reported on     not report on line 15 qualified integrated 
column (a), any amount that is subject      Form 1120-F, Schedule L; is effectively     foreign currency hedging transactions, 
to mark-to-market treatment under           connected with FC's trade or business       as defined in Regulations section 
section 475. Report on line 14a income      within the United States; and constitutes   1.988-5(a) (see line 13 instructions).
or (loss) from securities held by a dealer  income of a securities dealer, as           Example 24.  FC is a foreign 
in securities, in its capacity as a dealer  defined in Regulations section              corporation that is not a dealer or trader 
under section 475(a). On line 14b,          1.864-2(c)(2)(iv) only, and not of a        in securities or commodities. FC 
report the mark-to-market treatment of      global dealing operation. The income of     acquires foreign interest-bearing bonds 
securities held by a dealer other than in   this securities dealing operation is        issued by a corporation resident in 
its capacity as a dealer that is subject to reportable on Part II, line 14. If FC       Country X. The bonds are denominated 
the characterization provisions of          engaged in a global securities dealing      in a currency other than FC's functional 
section 475(d)(3)(B). Report on line 14c    operation, however, the income              currency. FC holds the bonds in 
the mark-to-market income of a dealer       generated from that activity would be       connection with its trade or business 
in commodities having made a valid          reportable on line 16, columns (d) and      within the United States and the bonds 
election under section 475(e), and on       (e), as sourced and allocated under         give rise to effectively connected 
line 14d, report the mark-to-market         Proposed Regulations section                income, gain or (loss). FC accrues 
income of a trader in securities or         1.863-3(h) between non-ECI and ECI. If      interest income on its set(s) of books in 
commodities having made a valid             the global dealing operation is of a        U.S. dollars and accounts for currency 
election under section 475(f).              foreign bank and is not includible in       gains (losses) with respect to each 
“Securities” for these purposes are         column (a), the apportionment of the        accrual period. When FC receives 
securities described in section 475(c)(2)   global dealing operation's results would    coupon interest payments, it records 
and commodities described in section        be reportable in column (d) for the         section 988 transaction foreign currency 
475(e)(2). “Securities” do not include      amount of income or loss that is            gains (losses). These gains (losses) are 
any items specifically excluded from        allocable to ECI. Income would be           reportable on line 15.
sections 475(c)(2) and 475(e)(2), such      reportable as a positive number and 
as certain contracts to which section       losses would be reportable as a             If FC is a foreign bank and subject to 
1256(a) applies (which may be               negative number. If the global dealing      section 475, generally, these gains 
reportable on line 13 as hedges).           set(s) of books are reportable in column    (losses) are still reportable on line 15 
Report hedging gains and losses             (a), either because like FC, it is a broker and not on line 14 if the bank acquires 
from transactions held in investment        dealer and not a foreign bank, or it is a   and properly identifies the securities as 
capacity or trader capacity not subject     foreign bank whose global dealing           held for investment or if the securities 
to a securities or commodities trading      operation is reportable on Form 1120-F,     are held for proprietary trading that is 
election, but which are determined          Schedule L, the apportionment of the        not subject to a section 475 trader 
under the mark-to-market method of          global dealing operation's results would    election under section 475(f).
accounting, on Part II, line 13 (hedging    be reportable in column (d) for the         Lines 16a and 16b. Interest 
transactions), and not on line 14.          portion that needs to be allocated to 
                                                                                        Income and Dividends From 
                                            noneffectively connected income. In 
Traders in securities and commodi-          such instance, the amount of income         Global Securities Dealing
ties. For a trader in securities or         allocable to non-ECI would be               Report on lines 16a and 16b interest 
commodities that made a valid election      reportable as a negative amount and         and dividends (including substitute 
under section 475(f) to use the             the amount of loss would be reportable      interest defined in Regulations section 
mark-to-market method to account for        as a positive number in column (d). For     1.861-2(a)(7) and substitute dividends 
securities or commodities held in           all filers, columns (a), (b), (c), and (d)  defined in Regulations section 
connection with a trading business that     are combined to determine the ECI           1.861-3(a)(6)) earned with respect to 
files Form 4797, any Schedule M-3           amount reportable in column (e).            transactions entered into in a global 
entries required as a result of marking to                                              securities dealing operation, as defined 
market these securities or commodities      Line 15. Gains (Losses) From                in Proposed Regulations section 
are reported as follows: (a)                Certain Section 988                         1.482-8.
mark-to-market gains and losses from        Transactions
Form 4797, line 10, are included on Part                                                Line 16c. Gains (Losses) and 
II, line 14d, of Schedule M-3 (Form         Report on line 15 gains or (losses) from 
                                                                                        Other Fixed and Determinable, 
1120-F); (b) any other Schedule M-3         certain section 988 transactions. These 
entries required based on other results     are only those section 988 transactions     Annual, or Periodic Income 
(non-mark-to-market gains and losses)       that are not reportable with respect to     From Global Securities Dealing
included in the total reported on Form      hedging transactions, mark-to-market        Report on line 16c gains and losses and 
4797, line 17, should be reported on        gains (losses), or global securities        other fixed and determinable, annual, or 
Part II, line 21d, of Schedule M-3 (Form    dealing operations on Part II, lines 13,    other periodic income or expense 
1120-F), unless the instructions for        14, and 16. Section 988 gains (losses)      (FDAP) with respect to notional principal 
Schedule M-3 require the amounts to be      reportable on line 15 will generally be     contracts from global securities dealing 
reported on another line.                   those recognized with respect to foreign    operations (as defined in Proposed 
                                            currency denominated instruments that       Regulations section 1.482-8) that would 

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be subject to source and allocation foreign currency X dealing operation is circumstances, be characterized as the
under Proposed Regulations section entirely allocable to noneffectively opposite for tax purposes. If the
1.863-3(h). Foreign currency gains and connected income and is not reportable transaction is treated as a lease, the
losses with respect to securities on Form 1120-F, Schedule L. Because seller/lessor reports the periodic
transactions entered into by a global FC is not a foreign bank described in payments as gross rental income and
dealing operation are also included in Regulations section 1.882-5(c)(4), FC's also reports depreciation expense or
global dealing gains and (losses) on income, gains and (losses) with respect deduction. If the transaction is treated
line 16c. The foreign corporation may be to its securities dealing in foreign as a sale, the seller/lessor reports gross
a global securities dealer with respect to currency X is reportable on Part I, profit (sale price less cost of goods sold)
some but not all of its securities dealing line 11. The income, gains and (losses) from the sale of assets and reports the
activities. Gains and losses from with respect to FC's notional principal periodic payments as payments of
securities dealing activities that would contracts that allocate in part to principal and interest income.
not be subject to source and allocation effectively connected income are On Part II, line 17, column (a), report
under Proposed Regulations section reportable on line 16c. The periodic the gross profit or gross rental income
1.863-3(h) are reportable as income with respect to the notional for financial statement purposes for all
mark-to-market income on line 14, and principal contracts is also reportable on sale or lease transactions that must be
the interest, dividend, and other FDAP line 16c. The foreign currency option given the opposite characterization for
income earned in such non-global contracts in foreign currency X are tax purposes. On Part II, line 17, column
dealer activities is reportable on Part II, reportable on line 14a, column (a), as (e), report the gross profit or gross rental
lines 3 and 4. Reporting on line 16 is mark-to-market gains (losses) of a income for federal income tax purposes.
determined by whether the income, securities dealer and not on line 16. The Interest income amounts for such
gains and (losses) would be subject to amount reported on line 14a, column transactions must be reported on Part II,
allocation under Proposed Regulations (a), is reversed on line 14a, column (d), line 4a (interest income excluding
section 1.863-3(h) and not by whether as an apportionment allocable to interest equivalents), in columns (a) and
all or none of the amount would be noneffectively connected income. (e), as applicable. Depreciation
allocable to ECI. If income of a global Example 26. The facts are the same expense for such transactions must be
dealing operation would be entirely as in Example 25 except that FC is a reported on Part III, line 23
allocable to ECI or non-ECI under foreign bank. Because the securities (depreciation), in columns (a) and (e),
Proposed Regulations section options denominated in foreign currency as applicable. Use columns (b), (c), and
1.863-3(h), the amount is reportable on X is not included in a set(s) of books (d) of Part II, lines 4a and 17, and Part
line 16 and not on line 14. reported on Form 1120-F, Schedule L, III, line 23, as applicable, to report the
If the income or losses from global the amounts are not reported on Part I, differences between columns (a) and
dealing operations of foreign banks line 11, or Part II, line 14a. If the notional (e).
reportable on any of lines 16a through principal contract book was not Example 27. Corporation M sells
16c are allocable in whole or in part to reportable on a set of books reportable and leases property to customers. M is
effectively connected income but not in column (a), such operation would not a calendar year taxpayer that was
reportable in column (a), apportion the be included on line 16c, column (a). As required to file Schedule M-3 for its
ECI amounts of the global dealing a result, the amount allocable to 2021 tax year and is required to file
operation in columns (d) and (e). If the effectively connected income from this Schedule M-3 for its 2022 tax year. For
foreign bank does include a global operation is reported in column (d) and financial accounting purposes, M
dealing operation in column (a), then in column (e). If the set of books accounts for each transaction as a sale.
report the apportionment of such reported on Form 1120-F, Schedule L, For U.S. income tax purposes, each of
operation to non-ECI in column (d) and had included the notional principal M's transactions must be treated as a
the residual ECI amount in column (e). contract operation, FC would have lease. In its income statements, M treats
Attach a statement providing a brief reported such amount in column (a), the difference in the financial accounting
description of each global dealing and the apportionment in column (d) and the U.S. income tax treatment of
operation (for example, interest rate would have included a negative number these transactions as temporary. During
notional principal contracts, equity for the amount of income and gains 2022, M reports on its income
notional principal contracts, foreign allocable to noneffectively connected statements $1,000 of sales and $700 of
currency options (list each foreign income. Losses allocable to non-ECI cost of goods sold with respect to 2022
currency separately for each foreign would be reported as a positive number. lease transactions. M receives periodic
currency that constitutes a separate In column (e), FC combines columns payments of $500 in 2022 with respect
global dealing operation)). (a), (b), (c), and (d) to report the amount to these 2022 transactions and similar
Example 25. FC, a securities allocable to effectively connected transactions from prior years and treats
broker-dealer, is engaged in trade or income. $400 as principal and $100 as interest
business within the United States. FC is Line 17. Sale Versus Lease (for income. For financial income purposes,
engaged in a global securities dealing Sellers and/or Lessors) M reports gross profit of $300 ($1,000 -
operation in notional principal contracts $700) and interest income of $100 from
that allocates a portion of the income, Note. See the instructions for Part III, these transactions. For U.S. income tax
gains and (losses) to effectively line 25, later, for purchasers and/or purposes, M reports $500 of gross
connected income. FC is also engaged lessees. rental income (the periodic payments)
in a securities dealing operation that is and (based on other facts) $200 of
not a global dealing operation with Asset transfer transactions with depreciation deduction on the property.
respect to currency option contracts in periodic payments characterized for It was determined that the entire amount
foreign currency X, that is recorded on financial accounting purposes as either of these items is effectively connected
set(s) of books in FC's home office. The a sale or a lease may, under some income/expense. On its 2022

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Schedule M-3, M must report on Part II, so reportable if the section 481(a) In 2022, assuming no other
line 4a (interest income), $100 in adjustment was with respect to commission income is earned or
column (a), ($100) in column (b), and transactions recorded on set(s) of accrued for either financial or U.S. tax
zero in column (e). In addition, M must books reportable on Form 1120-F, purposes, FC would include $750 on
report on Part II, line 17, $300 of gross Schedule L. Part II, line 19, column (a), the amount
profit in column (a), $200 in column (b), recognized currently for financial
and $500 of gross rental income in Line 19. Unearned/Deferred purposes. FC would then reverse the
column (e). Lastly, M must enter $200 in Revenue $750 in column (b) as a temporary
each of columns (b) and (e) on Part III, Report on line 19, column (a), amounts difference since this amount was
line 23. of revenues included in Part I, line 11, previously recognized for U.S. tax
which were deferred from a prior purposes.
Line 18. Section 481(a) financial accounting year. Report on
Adjustments line 19, column (e), revenues Line 20. Original Issue
With the exception of a section 481(a) recognizable for federal income tax Discount, Imputed Interest, and
adjustment that is required to be purposes that are recognized for Phantom Income
reported on Part II, line 12, for financial accounting purposes in a Report on line 20 any amounts of
reportable transactions, any difference different year. Also, report on line 19, original issue discount (OID), other
between an income or expense item column (e), any amount of revenues imputed interest, phantom income, or
attributable to an authorized (or reported on line 19, column (a), that are OID includible on line 16a. The term
unauthorized) change in method of recognizable for U.S. income tax “original issue discount and other
accounting made for U.S. income tax purposes in the current tax year. Use imputed interest” includes, but is not
purposes that results in a section 481(a) columns (b), (c), and (d) of line 19, as limited to:
adjustment must be reported on Part II, applicable, to report the differences
1. The excess of a debt instrument's
line 18, regardless of whether a between column (a) and column (e). If
stated redemption price at maturity over
separate line for that income or expense the amounts are not includible on set(s)
its issue price, as determined under
item exists in Part II or Part III. of books reportable on Form 1120-F,
section 1273;
Example 28. Corporation N is a Schedule L, but are reportable in Part I,
calendar year taxpayer that was line 11, for a foreign corporation other 2. Amounts that are imputed interest
required to file Schedule M-3 for its than a bank, then report the entire on a deferred sales contract under
2020 tax year and is required to file difference as temporary in column (b). section 483;
Schedule M-3 for its 2022 tax year. N Any amount allocable to noneffectively 3. Amounts treated as interest or
was depreciating certain fixed assets connected income should, to that OID under the stripped bond rules under
over an erroneous recovery period and, extent, be included in column (d) to section 1286;
effective for its 2022 tax year, N reverse some or all of the amount 4. Amounts treated as OID under
receives IRS consent to change its included in column (b). the below-market interest rate rules
method of accounting for the Line 19 must not be used to report under section 7872; and
depreciable fixed assets and begins income recognized from long-term 5. Amounts recognized as phantom
using the proper recovery period. The contracts. Instead, use line 24 (other income with respect to a noneconomic
change in method of accounting results income (loss) items with differences). residual interest in a Real Estate
in a positive section 481(a) adjustment Mortgage Investment Conduit (REMIC),
of $100,000 that is required to be Example 29. FC, a foreign
spread over 4 tax years, beginning with corporation other than a bank, has including inducement fees recognized
the 2022 tax year. It has been prepaid commission income of $1,000 with respect to such interests.
determined that the entire amount is recognizable for U.S. income tax
Note. Phantom income is a term used
attributable to effectively connected purposes in the current tax year that is
to describe taxable income that may be
income. In its income statements, N recognized for financial accounting
derived from the holding of ownership
treats the section 481(a) adjustment as purposes in a different year. FC treats
interests in an asset securitization
a temporary difference. N must report this difference as a temporary difference
vehicle. The income is "phantom"
on Part II, line 18, $25,000 in columns on its income statements. Of this
because it is not economic income (that
(b) and (e) for its 2022 tax year and amount, $600 is allocable to effectively
is, there is no cash or other property
each of the subsequent 3 tax years connected income. The amount
actually received or available for
(unless N is otherwise required to recognized for income statement
distribution to the equity holder). Income
recognize the remainder of the section purposes in 2022 is $250. FC reports
with respect to a residual interest in
481(a) adjustment earlier). N must not this amount on Part II, line 19, column
REMICs is referred to as excess
report the section 481(a) adjustment on (a). In column (b), FC reports $750 as a
inclusion income and is subject to
Part III, line 23. temporary book-to-tax difference to
special rules in the Code and
adjust to the amount recognized by the
regulations. In a non-REMIC vehicle, it
If the section 481(a) adjustment was foreign corporation in 2022 under U.S.
may take the form of OID derived from
not effectively connected to N's trade or tax principles. In column (d), FC
deep-discount debt held as collateral in
business within the United States and is reverses $400 as income allocable to
the asset securitization entity.
not includible in column (a), the amount noneffectively connected income.
would be reportable for each year in Finally, in column (e), FC reports $600, Foreign corporations that accrue
column (b) as a temporary difference the amount includible on FC's Form phantom income with respect to
(for U.S. tax principles) and then 1120-F as effectively connected income residual interests in REMICs that are not
reversed as an apportionment to in 2022. recognized under the foreign
non-ECI in column (d). If N were a corporation's accounting regime must
foreign bank, the amount would only be show all book-to-tax gross phantom

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income differences as permanent Line 21a. Income Statement Line 21d. Net Gain/Loss
differences in column (c), whether or not Gain/Loss on Sale, Exchange, Reported on Form 4797,
it is effectively connected with a trade or
business and whether or not the REMIC Abandonment, Worthlessness, Line 17, Excluding Amounts
interests are recorded on set(s) of or Other Disposition of Assets From Pass-Through Entities,
books that are reportable on Form Other Than Inventory and Abandonment Losses, and
1120-F, Schedule L. Amounts that are Pass-Through Entities Worthless Stock Losses
not effectively connected with the
Report on line 21a, column (a), all gains Report on line 21d the net gain or loss
foreign corporation's trade or business
and losses on the disposition of assets reported on line 17 of Form 4797, Sales
must be reversed and shown as a
except for (a) gains and losses on the of Business Property, excluding
negative number in column (d).
disposition of inventory, and (b) gains amounts from (a) pass-through entities
Example 30. FC is a foreign bank and losses allocated to the corporation included on line 9, 10, or 11, as
that acquires and holds noneconomic from pass-through entities (for example, applicable; (b) abandonment losses,
residual interests in a REMIC on set(s) on Schedule K-3) that are included on which must be reported on Part II,
of books that are reportable on Form line 9, 10, or 11. Reverse the amount line 21e; and (c) worthless stock losses,
1120-F, Schedule L. Under the foreign reported in column (a) in column (b) or which must be reported on Part II,
corporation's accounting system, the (c), as applicable. The corresponding line 21f.
amounts are not recognized for financial gains and losses for U.S. income tax
income reporting purposes and are purposes are reported on Part II, lines Note. Traders in securities or
treated as permanent differences. FC 21b through 21g, columns (b), (c), and commodities that have made a valid
reports no amounts on Part II, line 20, (e), as applicable. Reverse any election under section 475(f) to use the
column (a), for each year that phantom additional amounts recognizable under mark-to-market method to account for
income/deduction is recorded under U.S. tax principles that are allocable to securities or commodities, see the
U.S. tax principles. In column (c), FC noneffectively connected income on instructions for Part II, lines 14a through
records phantom income as a Part II, lines 21b through 21g, column 14d, earlier.
permanent difference because such (d). Line 21f. Worthless Stock
amounts are not recognizable under the
foreign corporation's accounting regime. Line 21b. Gross Capital Gains Losses
The amounts are effectively connected From Schedule D, Excluding Report on line 21f any worthless stock
with FC's trade or business and Amounts From Pass-Through loss, regardless of whether the loss is
therefore, are also reported in column Entities characterized as an ordinary loss or a
(e). capital loss. See Regulations section
Report on line 21b gross capital gains 1.864-4(c)(2)(iii)(a) for limitations on
Example 31. The facts are the reported on Schedule D (Form 1120), effectively connected treatment under
same as in Example 30, except that the Capital Gains and Losses, excluding the asset use test and Regulations
phantom income is treated as capital gains from pass-through entities section 1.864-4(c)(5)(ii)(a) for limited
noneffectively connected income by FC that are included on line 9, 10, or 11, as effectively connected eligibility of stock
and subject to tax under section 881(a). applicable. to foreign corporations engaged in a
FC must report the phantom income as
a permanent difference on Part II, Line 21c. Gross Capital Losses banking, financing, or similar business.
line 20, column (c), and then reverse the From Schedule D, Excluding Attach a statement that separately
states and adequately discloses each
amount in column (d) as noneffectively Amounts From Pass-Through transaction that gives rise to a worthless
connected income. No amount is
Entities, Abandonment Losses,
reported in column (e). The full amount stock loss that is treated as allocable to
of phantom income recognized in and Worthless Stock Losses effectively connected income and the
column (c) is reportable on Form Report on line 21c gross capital losses amount of each loss. Do not include on
1120-F, Section I, line 10, as other fixed reported on Schedule D (Form 1120), the statement any worthless stock loss
or determinable, annual, or other excluding capital losses from (a) that is wholly allocable to noneffectively
periodic income and subject to tax at pass-through entities that are included connected income. Do not include
30%. on line 9, 10, or 11, as applicable; (b) worthless stock losses that are incurred
Example 32. The facts are the abandonment losses, which must be as part of a securities dealing or global
same as in Example 30, except FC reported on Part II, line 21e; and (c) securities dealing operation. Report
recognizes $100 of residual excess worthless stock losses, which must be these securities losses as
inclusion income on its set(s) of books reported on Part II, line 21f. Do not mark-to-market loss on line 14a, 14c, or
and records reportable on Form 1120-F, report on line 21c capital losses carried 16c.
Schedule L, for cash received, and an over from a prior tax year and utilized in Line 21g. Other Gain/Loss on
additional $1,000 of phantom income the current tax year. See the instructions
not recognized for financial accounting for Part II, line 22, regarding the Disposition of Assets Other
purposes. FC treats $100 as effectively reporting requirements for capital loss Than Inventory
connected income. FC reports on Part carryovers utilized in the current tax Report on line 21g any gains or losses
II, line 20, $100 in column (a), $1,000 in year. from the sale or exchange of property
column (c), ($1,000) in column (d), and other than inventory and that are not
$100 in column (e). The $1,000 reported on lines 21b through 21f.
reversed in column (d) is reportable on
Form 1120-F, Section I, line 10, as in
Example 31.

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Line 22. Capital Loss Limitation          FC also enters into a number of forward    reported in the total amount shown in 
and Carryforward Used                     contracts for customers through its U.S.   column (d).
                                          trade or business. These contracts are 
Report as a positive amount on line 22,   not entered into in connection with a      Line 24. Other Income (Loss) 
column (b) or (c), as applicable, and     global securities dealing operation. The   Items With Differences
column (e) the excess of the net capital  transactions are initially recorded on     Separately state and adequately 
losses over the net capital gains         FC's set(s) of books that are reported on  disclose on Part II, line 24, all items of 
reported on Schedule D (Form 1120) by     Form 1120-F, Schedule L. In a later        income (loss) with differences that are 
the corporation.                          year, FC transfers several of the loans,   not otherwise listed on Part II, lines 1 
If the corporation utilizes a capital     the forward contracts, and the municipal   through 23. Attach a statement that 
loss carryforward on Schedule D (Form     bonds to its home office in Country X to   describes and itemizes the type of 
1120) in the current tax year, report the be held other than in connection with a    income (loss) and the amount of each 
carryforward utilized as a negative       global securities dealing operation.       item and provides a description that 
amount on Part II, line 22, columns (b)   These assets are recorded in FC's          states the income (loss) name for book 
or (c), as applicable, and column (e).    home office on set(s) of books that do     purposes for the amount recorded in 
                                          not give rise to U.S. booked liabilities   column (a) and describes the 
Line 23. Gross Effectively                under Regulations section 1.882-5(d)(2)    adjustment being recorded in column 
Connected Income of Foreign               (iii). As a result, the transferred assets (b), (c), or (d). The entire description 
Banks From Books That Do Not              are no longer reportable on Form           completes the tax description for the 
Give Rise to U.S. Booked                  1120-F, Schedule L.                        amount included in column (e) for each 
Liabilities                               Report on Part II, line 23, column (c),    item separately stated on this line.
                                          as a negative number, the amount of the    The attached statement should have 
Line 23 applies only to foreign banks (as effectively connected municipal bond       six columns. The first column has the 
described in Regulations section          interest. The municipal bond interest is   description for the next five columns. 
1.882-5(c)(4)). Foreign banks report in   a permanent difference that must be        The second column is column (a), 
columns (d) and (e) the gross effectively reversed in column (d) since it is no      income (loss) per income statement. 
connected income or loss (other than      longer taken into account in column (a)    The third column is column (b), 
income or loss from a global dealing      on FC's set(s) of books reportable on      temporary differences. The fourth 
operation) that is excluded from the      Schedule L.                                column is column (c), permanent 
set(s) of books reportable on Form 
1120-F, Schedule L, and excluded from     Report on Part II, line 23, column (d),    differences. The fifth column is column 
the net income shown on Part I, line 11.  the gross income, gains and (losses)       (d), other permanent differences for 
Gross effectively connected income or     from the transferred loans and municipal   allocations to non-ECI and ECI. The 
loss of this type is that which is        bond securities and forward contracts      sixth column is column (e), income 
ordinarily recorded on books of           that is effectively connected with the     (loss) per tax return. For each item listed 
non-U.S. branches or locations that do    foreign bank's trade or business within    on the attached statement for line 24, 
not ordinarily engage in effectively      the United States. Report the income       columns (a) through (d) when combined 
connected income producing activities,    and gains as positive numbers and          must equal column (e). The amounts in 
such as income from securities            losses as negative amounts.                columns (a) through (e) for all items 
recorded in a home office that are        Report on Part II, line 23, column (e),    must be totaled on the attached 
attributable to a U.S. office under       the combined column (b), (c), and (d)      statement and the total amounts must 
Regulations section 1.864-4(c)(5)(iii).   amounts to determine the aggregate         be included on Part II, line 24.
Gross effectively connected income or     amount of effectively connected gross      If any “comprehensive income” as 
loss reportable on line 23 is also income income, gains and (losses) from the        defined by Statement of Financial 
of a type that is recognized under        transferred loan securities and forward    Accounting Standards (SFAS) No. 130 
sections 864(c)(6) and 864(c)(7) with     contracts. The tax-exempt municipal        is reported on this line, describe the 
respect to property that ceases to be     bond interest is netted to zero in column  item(s) in detail. Foreign corporations 
held in connection with a trade or        (e).                                       may report on line 24 net income (loss) 
                                                                                     from their distributive share of foreign 
business within the United States (for    Treaty-based reporting. If a               partnership interests that do not have 
example, transferred securities of a      corporation excludes any amounts from      any U.S. source or effectively 
non-banking, financing or similar         column (a) on the grounds that it is       connected income, that the foreign 
business or of a former banking,          reporting the books of a U.S. permanent    corporation does not report on line 10. 
financing or similar business) or that is establishment (see Adaptation of Form      The aggregate income from such 
recognized under the Code at a time       1120-F, Schedule L for treaty-based        partnerships should be reported on 
subsequent to cessation of the trade or   reporting, earlier, in these instructions  line 24, column (d), as a negative 
business within the United States.        for such reporting) and further excludes   number.
Amounts from a global dealing             from the same line any amounts from 
operation that are apportionable in       column (e) that would otherwise be         Line 26. Total Expense/ 
whole or in part to effectively connected reportable under Code principles, the      Deduction Items
income are reported on line 16 and not    corporation should report the 
                                                                                     Report on Part II, line 26, columns (a) 
on this line 23.                          Code-based amount in column (c) and 
                                                                                     through (e), as applicable, the inverse of 
Example 33.      FC, a foreign bank,      reverse the amount in column (d), with a 
                                                                                     the amounts reported on Part III, line 33, 
negotiates and solicits a portfolio of    footnote reference explaining that 
                                                                                     columns (a) through (e). For example, if 
loans and municipal bonds that are        column (d) reports a treaty-based 
                                                                                     Part III, line 33, column (a), reflects an 
attributable to its U.S. office under     exclusion, or attach a statement which 
                                                                                     amount of $1 million, then report on Part 
Regulations section 1.864-4(c)(5)(iii).   identifies the portion of such exclusion 
                                                                                     II, line 26, column (a), ($1 million). 

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Similarly, if Part III, line 33, column (b), included in determining adjusted example, on Part III, line 8, for stock
reflects an amount of ($50,000), then financial net income on Part I, line 11. If options expense). Examples of amounts
report on Part II, line 26, column (b), the corporation is deducting any foreign reportable on line 9 include payments
$50,000. withholding tax, use column (b), (c), or attributable to employee stock purchase
(d), as applicable, to report any plans (ESPPs), phantom stock options,
Line 27. Other Items With No difference between foreign withholding phantom stock units, stock warrants,
Differences tax included in financial accounting net stock appreciation rights, qualified
If there is no difference between the income and the amount of any foreign equity grants, and restricted stock,
financial accounting amount and the withholding tax deduction reported in regardless of whether such payments
taxable amount of an entire item of column (e). If the corporation is crediting are made to employees or
income, gain, loss, expense, or foreign withholding taxes against its non-employees, or as payment for
deduction and the item is not described U.S. income tax liability, no amount is property or compensation for services.
or included in Part II, lines 1 through 24, reported in column (e).
or Part III, lines 1 through 32, report the Line 10. Meals and
entire amount of the item in columns (a) Line 6. Corporate Officer's Entertainment
and (e) of line 27. If a portion of an item Compensation With Section Report on line 10, column (a), any
of income, loss, expense, or deduction 162(m) Limitation amounts paid or accrued by the
has a difference and a portion of the Report on line 6, column (a), the total corporation during the tax year for
item does not have a difference, do not amount of non-performance-based meals, beverages, and entertainment
report any portion of the item on line 27. current compensation expense that are accounted for in financial
Instead, report the entire amount of the (“applicable employee remuneration”) accounting income, regardless of the
item (that is, both the portion with a for corporate officers that are “covered classification, nomenclature, or
difference and the portion without a employees” under section 162(m)(3). terminology used for such amounts, and
difference) on the applicable line of Part Report in column (b) or (c), as regardless of how or where such
II, lines 1 through 24, or Part III, lines 1 applicable, the nondeductible amount of amounts are classified in the
through 32. See Example 12. current compensation in excess of $1 corporation's financial income statement
million ($500,000 if the corporation or the income and expense accounts
Part III. Reconciliation of receives or has received financial maintained in the corporation's books
Net Income (Loss) per assistance under the Treasury Troubled and records. Report only amounts not
Asset Relief Program (TARP)). Report otherwise reportable elsewhere on
Income Statement of the noneffectively connected portion of Schedule M-3, Parts II and III (for
Non-Consolidated Foreign the deductible compensation in column example, Part II, line 2).
Corporations With Taxable (d), and the deductible portion of the Line 11. Fines and Penalties
compensation allocable to effectively
Income per Return — Report on line 11 any fines or similar
connected income in column (e). Do not
Expense/Deduction Items report the “applicable employee penalties paid to a government or other
For column (a), report the expenses remuneration” for “covered employees” authority for the violation of any law for
included on the applicable income defined under section 162(m) on line 8, which fines or penalties are assessed.
statement as adjusted and reported in 9, or 15. All fines and penalties expensed in
Part I, line 11. financial accounting income (paid or
Line 7. Salaries and Other Base accrued) must be included on this
Lines 1 Through 4. Income Tax Compensation line 11, column (a), regardless of the
Expense Report salary and bonus compensation government or other authority that
If the corporation does not distinguish of the type reported on Form 1120-F, imposed the fines or penalties,
between current and deferred income Section II, line 13, other than stock regardless of whether the fines and
tax expense in its applicable financial option expense and other equity-based penalties are civil or criminal, regardless
statement described in Part I, report compensation reported on lines 8 and 9. of the classification, nomenclature, or
income tax expense as current income terminology used for the fines or
tax expense using lines 1 and 3, as Line 8. Stock Option Expense penalties by the imposing authority in its
applicable. U.S. current and deferred Report on line 8, column (a), amounts actions or documents, and regardless of
income taxes and non-U.S. deferred expensed on Part I, line 11, net income how or where the fines or penalties are
income taxes are not deductible and per the income statement, that are classified in the corporation's financial
column (e) is inapplicable for lines 1, 2, attributable to all stock options. Report income statement or the income and
and 4. Column (e) of line 3 is used to on line 8, column (e), deduction expense accounts maintained in the
report only foreign income tax the amounts attributable to all stock options. corporation's books and records. In
corporation is deducting, other than the addition, report on line 11, column (a),
withholding taxes reported on line 5 Line 9. Other Equity-Based the reversal of any overaccrual of any
below. If the corporation is crediting Compensation amount described in this paragraph.
foreign income tax against the U.S. Report on line 9 any amounts for See section 162(f) for additional
income tax liability, no amount is equity-based compensation or guidance.
reported on line 3, column (e). consideration that are reflected as
Report on line 11, column (e), any
expense in the financial statements
such amounts as are described in the
Line 5. Non-U.S. Withholding (column (a)) or deducted in the U.S.
preceding paragraph that are includible
Taxes income tax return (column (e)) other
in effectively connected taxable income,
Report on line 5, column (a), the amount than amounts reportable elsewhere on
regardless of the financial accounting
of non-U.S. (foreign) withholding taxes Schedule M-3, Parts II and III (for
period in which such amounts were or

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are included in financial accounting net Line 15. Deferred Report on line 17, column (c), any
income. Complete columns (b), (c), and Compensation disallowed amounts, subject to the
(d), as appropriate. applicable percentage, of any FDIC
Report on line 15, column (a), any premiums paid or included by the large
Do not report on this line 11, amounts compensation expense included in the financial institution. For this purpose, the
required to be reported in accordance net income (loss) amount reported in large financial institution includes
with instructions for Part III, line 12. Part I, line 11, that is not deductible for members of its expanded affiliated
U.S. income tax purposes in the current group, as defined in section 162(r)(6)
Do not report on this line 11, amounts tax year and that was not reported (B). This disallowance does not apply if
recovered from insurers or any other elsewhere on Schedule M-3, column the institution’s (including members of
indemnitors for any fines and penalties (a). Report on line 15, columns (d) and its expanded affiliated group’s) total
described above. (e), the noneffectively connected and consolidated assets (determined as of
Line 12. Judgments, Damages, effectively connected portions of any the close of the tax year) do not exceed
compensation deductible in the current $10 billion.
Awards, and Similar Costs tax year that was not included in the net
Report on line 12, column (a), the income (loss) amount reported in Part I, The applicable percentage is the
amount of any estimated or actual line 11, for the current tax year and that excess of the corporation’s total
judgments, damages, awards, is not reportable elsewhere on consolidated assets over $10 billion,
settlements, and similar costs, however Schedule M-3. For example, report divided by $40 billion. For taxpayers
named or classified, included in originations and reversals of deferred with total consolidated assets of $50
financial accounting income, regardless compensation subject to section 409A billion or more, the applicable
of whether the amount deducted was on line 15. percentage is 100%. See section 162(r).
attributable to an estimate of future
anticipated payments or actual Line 16. Charitable Example 34. Corporation X has
payments. Also report on line 12, Contributions total consolidated assets of $20 billion.
Under section 162(r), no deduction is
column (a), the reversal of any Report on line 16 any charitable allowed for 25% ((20,000,000,000 –
overaccrual of any amount described in contribution of tangible or intangible 10,000,000,000) / 40,000,000,000) of
this paragraph. property to a U.S. or foreign charity. For FDIC premiums.
example, include contributions of:
Report on line 12, column (e), any Cash; Line 18. Current Year
•
•
such amounts as are described in the Buildings; Acquisition or Reorganization
•
preceding paragraph that are includible Intellectual property, patents Investment Banking Fees,
in taxable income, regardless of the (including any amounts of additional
financial accounting period in which contributions allowable by virtue of Legal and Accounting Fees
such amounts were or are included in income earned by donees subsequent Report on line 18 any investment
financial accounting net income. to the year of donation), copyrights, banking fees and any legal and
Complete columns (b), (c), and (d), as trademarks; accounting fees paid or incurred in
appropriate. Securities (including stocks and their connection with a taxable or tax-free
•
Do not report on this line 12 amounts derivatives, stock options, and bonds); acquisition of property (for example,
required to be reported in accordance • Conservation easements (including stock or assets) or a tax-free
with instructions for Part III, line 11. scenic easements or air rights); reorganization. Report on this line any
• Railroad rights of way; investment banking fees incurred at any
Do not report on this line 12 amounts • Mineral rights; and stage of the acquisition or
recovered from insurers or any other • Other tangible or intangible property. reorganization process including, for
indemnitors for any judgments, example, fees paid or incurred to
damages, awards, or similar costs Include any temporary differences for evaluate whether to investigate an
described above. the charitable contribution carryforward acquisition, fees to conduct an actual
limitation in column (b). Report any net investigation, and fees to consummate
Line 13. Pension and limitation carryforward for the current the acquisition. Also, include on line 18
Profit-Sharing year as a net negative number. Report investment banking fees incurred in
Report on line 13 the expenses and any utilization of a prior year limitation connection with the liquidation of a
deductions attributable to the carryforward net of the current year subsidiary, a spin-off of a subsidiary, or
corporation's pension plans, limitation as a positive number in an initial public stock offering.
profit-sharing plans, and any other column (b). Report any amounts from
retirement plans. Complete columns (b), column (b) that are allocable to Line 19. Current Year
(c), and (d), as applicable. noneffectively connected income in Acquisition/Reorganization
column (d) and the effectively Other Costs
Line 14. Other Post-Retirement connected portion of the utilization of Report on line 19 any other fees paid or
Benefits charitable contribution carryforward in incurred in connection with a taxable or
Report on line 14 the expenses and column (e). tax-free acquisition of property (for
deductions attributable to other Line 17. Section 162(r) — FDIC example, stock or assets) or a tax-free
post-retirement benefits not otherwise reorganization not otherwise reportable
Premiums Paid by Certain
includible on Part III, line 13 (for on Schedule M-3 (for example, Part III,
example, retiree health and life Large Financial Institutions line 18). Report on this line any fees
insurance coverage, dental coverage, Report on line 17, column (a), the total paid or incurred at any stage of the
etc.). Complete columns (b), (c), and amount paid or accrued as FDIC acquisition or reorganization process
(d), as appropriate. premiums included on Part I, line 11. including, for example, fees paid or

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incurred to evaluate whether to Line 25. Purchase versus Lease is reported on Part III, lines 26b through
investigate an acquisition, fees to (for Purchasers and/or 26e, column (e). Do not report on this
conduct an actual investigation, and line 26a, column (a), amounts
fees to consummate the acquisition. Lessees) reportable on:
Also, include on line 19 other Note. See the instructions for Part II,
acquisition/reorganization costs line 17, earlier, for sellers and/or 1. Part II, lines 9, 10, and 11
incurred in connection with the lessors. (income (loss) from U.S. partnerships,
foreign partnerships, and other
liquidation of a subsidiary, a spin-off of a pass-through entities);
subsidiary, or an initial public stock Asset transfer transactions with
offering. periodic payments characterized for Note. Interest expense from
financial accounting purposes as either partnerships and pass-through entities
Line 20. Amortization/ a purchase or a lease may, under some is adjusted as a permanent difference in
Impairment of Goodwill circumstances, be characterized as the column (c) of Part II, lines 9, 10, and 11.
Report on line 20 amortization of opposite for tax purposes. The deductible portion of such interest
expense reported on Part II, lines 9, 10,
goodwill or amounts attributable to the If a transaction is treated as a lease, and 11 is included in the interest
impairment of goodwill. the purchaser/lessee reports the expense allocation under Regulations
Line 21. Amortization of periodic payments as gross rental section 1.882-5 as reported on
Acquisition, Reorganization, expense. If the transaction is treated as Schedule I and is also included on
a purchase, the purchaser/lessee Schedule M-3, Part III, lines 26b and
and Start-Up Costs reports the periodic payments as 26c.
Report on line 21 amortization of payments of principal and interest and 2. Part II, line 12 (items relating to
acquisition, reorganization, and start-up also reports depreciation expense or reportable transactions); and
costs. For purposes of columns (b), (c), deduction with respect to the purchased
(d), and (e), include amounts asset. 3. Part III, lines 26b through 26e.
amortizable under section 167, 195, or
248. Report on line 25, column (a), gross Line 26b. Interest Expense
rent expense for a transaction treated Allocable Under Regulations
Line 22. Other Amortization or as a lease for income statement Section 1.882-5
Impairment Write-Offs purposes but as a sale for U.S. income The interest expense deduction under
Report on line 22 any amortization or tax purposes. Report on line 25, column Regulations section 1.882-5 is based on
impairment write-offs not otherwise (e), gross rental deductions for a a three-step formula required to be
includible on Schedule M-3. transaction treated as a lease for U.S. reported on Schedule I (Form 1120-F).
income tax purposes but as a purchase Report the allocable amount of interest
Line 23. Depreciation for income statement purposes. Report expense from Schedule I, line 23, in
Report on line 23 any depreciation interest expense for such transactions column (d) and in column (e) of line 26b.
expense that is not required to be on Part III, lines 26a through 26e,
reported elsewhere on Schedule M-3 columns (a) and (e), as applicable. Line 26c. Regulations Section
(for example, on Part II, line 2, 9, 10, or Report depreciation expense or 1.882-5 Allocation Amount
11). deductions for such transactions on Part Subject to Deferral or
III, line 23 (depreciation), columns (a)
Line 24. Bad Debt Expense and (e), as applicable. Use columns (b), Disallowance
Report on line 24, column (a), any (c), and (d) of Part III, lines 23, 25, and Enter in column (e) the amount reported
amounts attributable to an allowance for 26a through 26e, as applicable, to on Schedule I (Form 1120-F), line 24g.
uncollectible accounts receivable or report the differences between columns
actual write-offs of accounts receivable (a) and (e) for such recharacterized Enter in column (b) the combined
included in determining net income per transactions. amounts from Schedule I, lines 24b,
the income statement. Report in 24c, 24e, and 24f, as a positive or
columns (d) and (e) the respective Line 26a. Interest Expense Per negative number as the case may be for
noneffectively connected and the Books the current year. In column (c), enter the
effectively connected portions of the The detail for the foreign corporation's combined amounts from Schedule I,
deductible amount of bad debt expense interest expense is reported on lines 24a and 24d as a negative
determined under section 166 for Schedule I (Form 1120-F). The scope of number.
federal income tax purposes that is also the interest expense lines on Part III, Line 26d. Substitute Interest
included in column (a). If a foreign bank line 26, is limited to a summarization of Payments
has an effectively connected bad debt the results from Schedule I that
expense that is not reportable in column reconcile the foreign corporation's book All foreign corporations, report on
(a), the ECI amount is included in interest expense to effectively line 26d all U.S. source substitute
column (b) if it is a temporary difference connected taxable income. interest payments (as to the recipient)
and in column (e) to report the ECI with respect to securities lending
treatment. If there is no temporary On line 26a, no amount is allocated transactions described in Regulations
difference between the foreign bank's and apportioned to effectively or sections 1.861-2(a)(7) and 1.881-2(b)
books and tax treatment, then such ECI noneffectively connected income. (2). Foreign banks that record substitute
amount that is not included in column Report in line 26a, column (a), interest interest payments on set(s) of books
(a) is apportioned in column (d), and its expense included in Part I, line 11. that are not reported on Form 1120-F,
total is reflected in column (e). Report amounts in column (b) or (c), as Schedule L, might also report foreign
applicable. The corresponding interest source substitute interest payments
expense for U.S. income tax purposes whether or not they are allocable in

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whole or in part to ECI. Foreign banks FC's home office and are not reportable including expenses paid for brokerage
report in column (c) all U.S. source and on Form 1120-F, Schedule L. FC commissions. Fees and commissions
allocable foreign source substitute allocates and apportions 40% of the reportable on line 28 do not include
interest payments not already reflected income and applicable expenses from amounts that are interest equivalents
in column (a). The amounts reported in its global dealing operation to effectively reportable on line 26e.
column (c) are apportioned to connected taxable income. FC's
noneffectively connected income of the guarantee fee expense paid to its Line 29. Rental Expense
foreign corporation in column (d) and foreign-related party is allocated directly Report on line 29, column (a), the
reported as a negative number. to the income of the global dealing amount of rental expense included on
Amounts included in column (a) that are operation and apportioned 40% to FC's Part I, line 11. Rental expense is the
also apportioned to non-ECI, are also effectively connected income from such amount classifiable as rent under U.S.
reported in column (d) as a negative operation. FC must report the guarantee tax principles.
number. The combined amounts of fee expense paid to FC2 in column (c). Line 30. Royalty Expense
columns (a), (b), (c), and (d) are The amount of expense reported in
apportioned to effectively connected column (c) is apportioned 60% to Report on line 30, column (a), the
income in column (e) as the case may noneffectively connected income in amount of royalty expense included on
be. column (d) and 40% to effectively Part I, line 11. Include in columns (b)
connected income in column (e). through (e) amounts that are allocable
Note. In using column (d) to apportion as imputed royalties under U.S. tax
amounts to non-ECI that are not Line 27. Substitute Dividend principles that are not included in
included in column (a), line 26d contains Payments financial income reported on Part I,
an exception to the general instructions All foreign corporations report on line 27 line 11.
for Schedule M-3 reporting by foreign the amount of U.S. source substitute Line 31. Expenses Allocable
banks. dividend payments with respect to Under Regulations Section
Line 26e. Interest Equivalents securities lending transactions
described in Regulations sections 1.861-8
(Guarantee Fees) 1.861-3(a)(6) and 1.881-2(b)(2). Line 31 applies only to foreign banks.
All foreign corporations, report on Foreign banks that record substitute For purposes of Schedule M-3, all of the
line 26e the foreign corporation's dividend payments on set(s) of books home office and other allocations to
amounts with respect to deductions that that are not reported on Form 1120-F, U.S. effectively connected income that
are not interest payments but are Schedule L, might also report foreign are reportable on Schedule H (Form
sourced to the recipient in the manner of source substitute dividend payments 1120-F) under Regulations section
interest (“interest equivalents”). These whether or not they are allocable in 1.861-8 (including amounts that are
amounts include fees expensed for whole or in part to ECI. Foreign banks subject to timing differences under U.S.
financial guarantee and confirmation, report in column (c) U.S. source and tax principles, such as home office
acceptance, and standby letter of credit allocable foreign source substitute depreciation) are reportable as
transactions. Foreign banks that record dividends not already reflected in apportionments to ECI in column (d).
U.S. source guarantee fees on set(s) of column (a). The amounts reported in Report in columns (d) and (e) the
books not reported on Form 1120-F, column (c) are apportioned to amount from Schedule H, line 20.
Schedule L, and not reported in column noneffectively connected income of the
(a), must report the U.S. source fees as foreign corporation in column (d) and Note. Foreign corporations other than
a permanent difference on line 26e, reported as a negative number. banks that are required to file Form
column (c), and allocate and apportion Amounts included in column (a) that are 1120-F to report effectively connected
the relevant amounts to noneffectively also apportioned to non-ECI, are also income in Section II of that form are still
connected income in column (d) even if reported in column (d) as a negative required to complete and attach
there is no amount to allocate to number. The combined amounts of Schedule H to their U.S. income tax
effectively connected amounts in columns (a), (b), (c), and (d) are return. The amounts from Schedule H,
column (e). Foreign corporations other apportioned to effectively connected line 20, are not reportable by a foreign
than banks must record all interest income in column (e) as the case may corporation other than a bank on this
equivalent payments in column (a). be. line of Schedule M-3 because
worldwide expenses are already
Note. In using column (d) to apportion Note. In using column (d) to apportion includible in Schedule M-3, Part I,
amounts to non-ECI that are not amounts to non-ECI that are not line 11, and in each expense line item in
included in column (a), line 26e contains included in column (a), line 27 contains Schedule M-3, Part III. Such amounts
an exception to the general instructions an exception to the general instructions are subject to individual line-item
for Schedule M-3 reporting by foreign for Schedule M-3 reporting by foreign apportionment to non-ECI in column (d).
banks. banks.
Line 32. Other Expense/
Example 35. FC is a foreign bank, Line 28. Fee and Commission Deduction Items With
resident in Country X, that files Form
1120-F and Schedule M-3. FC enters Expense Differences and Reconciliation
into a guarantee arrangement with FC2, Enter on Part III, line 28, column (a), the to Eliminate Duplicate Amounts
a wholly owned subsidiary, resident in amounts of fees and commissions on Line 31
Country Y, that guarantees the included on Part I, line 11. Fee and
transactions in FC's global dealing commission expense generally includes Separately state and adequately
operation. The set(s) of books in FC's amounts paid or accrued for services disclose on line 32 all items of expense/
global dealing operation are booked in rendered to the foreign corporation deduction that are not otherwise listed
on Part III, lines 1 through 31. Amounts

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included on line 31, column (e), from disclose the employee termination and contingent liabilities that are
Schedule H (Form 1120-F), line 20, that costs, it is not required that an deductible in the current tax year for
are also included in this Schedule M-3, anticipated termination cost amount be U.S. income tax purposes. Examples of
Part III, lines 3, 5 through 23, 25, 26d, listed for each employee, or that each reserves that are allowed for book
26e, and 27, need to be reversed to asset (or category of asset) be listed purposes, but not for tax purposes,
avoid duplicate allocation. The along with the anticipated loss on include warranty reserves, restructuring
combined amounts for these lines disposition. reserves, reserves for discontinued
reported in column (e) that is duplicative operations, and reserves for
of any amount included in line 31, The attached statement should have acquisitions and dispositions. Only
column (e), is reported and reversed on six columns. The first column has the report on line 32 items that are not
line 32. Report such duplicative amount description for the next five columns. required to be reported elsewhere on
as a negative amount includible in The second column is column (a), Schedule M-3, Parts II and III.
line 32, column (c) and column (e). expense per income statement. The Amounts incurred as fixed or
Such negative amount will need to be third column is column (b), temporary determinable or other periodic interest
combined with other expense/deduction differences. The fourth column is rate or equity notional principal contract
items that have differences. Attach a column (c), permanent differences. The expense that is not incurred in a
statement to show the duplicative items fifth column is column (d), other hedging transaction, securities dealing
that are being reversed. permanent differences for allocations to or global securities dealing operation,
Attach a statement that describes non-ECI and ECI. The sixth column is each of which is reportable on Part II,
and itemizes the type of expense/ column (e), deduction per tax return. For are reportable on Part III, line 32.
deduction and the amount of each item, each item listed on the attached
and provides a description that states statement for line 32, columns (a) Example 36. Corporation Q is a
the expense/deduction name for book through (d) when combined must equal calendar year taxpayer that is required
purposes for the amount recorded in column (e). The amounts in columns (a) to file Schedule M-3 for the current tax
column (a) and describes the through (e) for all items must be totaled year. On July 1 of each year, Q has a
adjustment being recorded in column on the attached statement and the total fixed liability for its annual insurance
(b), (c), or (d). The entire description amounts must be included on line 32 of premiums on its home office building
completes the tax description for the the face of the statement. that provides a 12-month coverage
period beginning July 1 through June
amount included in column (e) for each Comprehensive income. If any 30. In addition, Q historically prepays 12
item separately stated on this line. “comprehensive income” as defined by months of advertising expense on July
The statement attached to the SFAS No. 130 is reported on this line, 1. On July 1, 2020, Q prepays its
Schedule M-3 for line 32 must describe the item(s) in detail. insurance premium of $500,000 and
separately state and adequately Reserves and contingent liabilities. advertising expenses of $800,000. For
disclose the nature and amount of the Report on line 32 amounts related to the statutory accounting purposes, Q
expense related to each reserve and/or change in each reserve or contingent capitalizes and amortizes the prepaid
contingent liability. The appropriate level liability that is not required to be insurance and advertising over 12
of disclosure depends upon each reported elsewhere on Schedule M-3. months. For U.S. income tax purposes,
taxpayer’s operational activity and the For example: (1) amounts relating to Q deducts the insurance premium when
nature of its accounting records. For changes in reserves for litigation must paid and amortizes the advertising over
example, if a corporation’s net income be reported on Part III, line 12 the 12-month period. In its annual
amount reported in the income (judgments, damages, awards, and statement, Q treats the differences
statement includes anticipated similar costs); and (2) amounts relating attributable to the annual statement
expenses for a discontinued operation to changes in reserves for uncollectible treatment and U.S. income tax
as a single amount, and its general accounts receivable must be reported treatment of the prepaid insurance and
ledger or other books, records, and on Part III, line 24 (bad debt expense). advertising as temporary differences.
workpapers provide details for the Q also has a legal reserve where
Report on line 32, the amortization of
anticipated expenses under more $300,000 was expensed for financial
various items of prepaid expense, such
explanatory and defined categories accounting purposes and a ($100,000)
as prepaid subscriptions and license
such as employee termination costs, temporary difference was calculated to
fees, prepaid insurance, etc.
lease cancellation costs, loss on sale of arrive at the income tax deduction of
equipment, etc., a supporting statement Report on line 32, column (a),
that lists those categories of expenses expenses included in net income $200,000. The statement attached to
and their details will satisfy the reported on Part I, line 11, that are Q’s return for Part III, line 32, must be
requirement to separately state and related to reserves and contingent separately stated and adequately
adequately disclose. In order to liabilities. Report on line 32, column (e), disclosed, as indicated in the table
separately state and adequately amounts related to liabilities for reserves below.

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Line 32—Example 36
Statement Concerning Other Expense/Deduction Items With Differences

                                                                                      Column (d) 
                                                                                      Other 
                                                                                      Permanent 
                      Column (a)           Column (b)     Column (c)                  Differences for Column (e) 
                      Expense per          Temporary      Permanent                   Allocations to  Deduction per Tax 
Description           Income Statement     Difference     Difference                  non-ECI and ECI Return
Prepaid insurance 
premium expensed not 
capitalized             $250,000           $250,000       -0-                         -0-             $500,000
Legal expense reserve   $300,000           ($100,000)     -0-                         -0-             $200,000
Total Line 32           $550,000           $150,000       -0-                         -0-             $700,000

                                           the amounts reported on Part III, line 33, (a), ($1 million). Similarly, if Part III, 
Line 33. Total Expense/                    column (a) through (e), as applicable.     line 33, column (b), reflects an amount 
Deduction Items                            For example, if Part III, line 33, column  of ($50,000), then report on Part II, 
Report on Part II, line 26, columns (a)    (a), reflects an amount of $1 million,     line 26, column (b), $50,000.
through (e), as applicable, the inverse of then report on Part II, line 26, column 

Instructions for Schedule M-3 (Form 1120-F)(2022)     -27-

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