Part III. Other — 2025 Inst 1065 (Schedule K-3) (PDF)

Section 1—R&E Expenses Apportionment Factors This section reports the information that you need to allocate and apportion your R&E expenses for foreign tax credit limitation purposes. R&E expenses are allocated and apportioned by the partner; see Regulations section 1.861-17(f)(1). Individual, estate, and trust partners will use this Section 1 to determine the R&E expenses reported on Form 1116, Part I. See the Instructions for Form 1116. Because Form 1116 doesn’t include detailed entries for R&E expenses, the line instructions below only refer to Form 1118. Corporate partners will use this Section 1 to determine the R&E expenses reported on Form 1118, Schedule H, Part I.

Line 1. Gross receipts by SIC code. Add the amounts reported on line 1 by SIC code to your other gross receipts and report on Form 1118, Schedule H, Part I.

Line 2. Exclusive apportionment with respect to total R&E expenses entered on Part II, line 32. Add the amounts reported on line 2 to the partner’s other R&E expenses related to activity performed in the United States and the amount of R&E expenses related to activity performed outside the United States by SIC code. See the Instructions for Form 1118 to determine the exclusive apportionment of the R&E expenses.

Section 2—Interest Expense Apportionment Factors This section includes the information that you need to allocate and apportion your interest expense for foreign tax credit limitation purposes. This part is relevant for all partners with interest expense (including the share of the partnership’s interest expense) except certain limited partners with less than a 10% partnership interest; see Regulations section 1.861-9(e)(4)(i). Individual, estate, and trust partners will use this Section 2 to determine the interest expense reported on Form 1116, Part I, line 4b. See the Instructions for Form 1116. Because the interest expense is reported on one line on Form 1116, the instructions below don’t refer to Form 1116.

Corporate partners will use this Section 2 to determine the interest expense reported on Form 1118, Schedule H, Part II. The particular line reporting on Form 1118 is specified below.

Stewardship expenses. In the case of the partner’s stewardship expenses incurred to oversee the partnership, the partnership’s value is determined and characterized under the asset method in Regulations section 1.861-9 (taking into account any adjustments under sections 734(b) and 743(b)); see Regulations section 1.861-8(e)(4)(ii)(C). Therefore, these Part III, Section 2, instructions generally apply to the partner’s stewardship expenses.

Line 3. Assets attracting directly allocable interest expense under Regulations section 1.861-10(e). If you file Form 1118, add the amount reported on this line to your other assets attracting directly allocable interest expense under Regulations section 1.861-10(e) and report the total in column (a) of Form 1118, Schedule H, Part II, line 1b.

Line 4. Other assets attracting directly allocable interest expense under Temporary Regulations section 1.861-10T. If you file Form 1118, add the amount reported on this line to your other assets attracting directly allocable interest expense under Temporary Regulations section 1.861-10T and report the total in column (a) of Form 1118, Schedule H, Part II, line 1c.

Line 5. Assets excluded from apportionment formula. If you file Form 1118, add the amount reported on this line to your other assets excluded from apportionment formulas and report the total in column (a) of Form 1118, Schedule H, Part II, line 1d.

Line 6. Total assets used for apportionment. If you file Form 1118, add the amount reported on this line to your other assets used for apportionment and report the total in column (a) of Form 1118, Schedule H, Part II, lines 2 and 3, as applicable. Line 6a is the sum of lines 1 and 2 less the sum of lines 3, 4, and 5. Line 6a is divided into the types of assets on lines 6b, 6c, and 6d if you’re a partner that is an individual, estate, or trust, or if you’re a pass-through entity partner that may have an individual, estate, or trust as a partner.

Example 5—Parts II and III: asset method apportionment of interest expense. Kendall, a U.S. citizen, owns a 10% interest in USP, a domestic partnership. USP is engaged in the active conduct of a U.S. trade or business. USP’s business generates only domestic source income. USP separately has an investment portfolio consisting of several less-than-10% stock investments. USP has a bank loan. The proceeds of the bank loan were divided equally between the business and the investment portfolio. Kendall’s only business assets and investment assets are its distributive share of those owned by USP. Kendall’s only interest expense is that from its distributive share of the USP loan.

Kendall’s share of the interest expense for USP’s business is $2,000 and is apportioned on the basis of business assets. Because all business income is domestic source, the business assets are deemed domestic assets and reported in column (a) of Schedule K-3, Part III, Section 2, line 6b. Kendall’s $2,000 share of the interest expense is reported in column (f) of Schedule K-3, Part II, line 41, and is apportioned to U.S. source gross income by the partner; therefore, it doesn’t need to be reported on Form 1116.

The interest expense for Kendall’s share of USP’s investments is $2,000 and is reported in column (f) of Schedule K-3, Part II, line 42. The investment interest must be apportioned on the basis of investment assets. Kendall’s distributive share of the adjusted basis in USP’s stock is $8,000 with respect to the stock generating domestic source income and $12,000 with respect to the stock generating foreign source passive income. These amounts are reported in columns (a) and (c) of Schedule K-3, Part III, Section 2, line 6c, respectively. $800

Partner's Instructions for Schedule K-3 (Form 1065) (2025) 9

(($8,000/$20,000) x $2,000) is apportioned to domestic source income and $1,200 (($12,000/$20,000) x $2,000) is apportioned to foreign source passive income. The amount apportioned to foreign source passive income is reported on the passive category Form 1116, line 4b.

Lines 7 and 8. Basis in stock of 10%-owned noncontrolled foreign corporations and of CFCs. The amounts reported on lines 7 and 8 are subsets of the amounts reported on line 6 representing the value of stock held by the partnership in certain foreign corporations. In determining its foreign tax credit limitation, a corporate partner should disregard interest expense that is properly allocable to stock of a 10%-owned foreign corporation that has been characterized as a section 245A asset. See section 904(b)(4) and Regulations section 1.904(b)-3(a)(1)(ii). The amount of properly allocable deductions is determined by treating the section 245A subgroup for each separate category as a statutory grouping for purposes of allocating and apportioning interest deductions on the basis of assets. Assets in a section 245A subgroup only include stock of a specified 10%-owned foreign corporation that has been characterized as a section 245A asset. The stock is characterized as a section 245A asset to the extent it generates income that would generate a dividends received deduction under section 245A if distributed. This doesn’t include income that is included as GILTI, subpart F income, or a section 956 inclusion or income described in section 245(a)(5) (which gives rise to a dividends received deduction under section 245 instead of section 245A).

In the case of a specified 10%-owned foreign corporation that isn’t a CFC, if you’re eligible for the section 245A deduction for distributions received from that corporation, all of the value of its stock is generally in a section 245A subgroup because the stock generally generates dividends eligible for the section 245A deduction (and can’t generate an inclusion under section 951(a) (1) or 951A(a)). See Regulations section 1.904(b)-3(c)(2).

The amount reported on line 7 is the value of stock of the partnership-owned specified 10%-owned foreign corporation that isn’t a CFC. Use the information provided in the attachment to line 7 to determine if such amount should be reported on Form 1118, Schedule H, Part II, lines 3a through 3f, as (a) section 245A dividend, or (b) other. If the specified 10%-owned foreign corporation is a CFC, you must subdivide a portion of the value of stock in each separate category and in the residual grouping for U.S. source income between a section 245A and non-section 245A subgroup under the rules described in Regulations section 1.861-13(a)(5).

The amount reported on line 8 is the value of the stock in partnership-owned CFCs. Use the information provided in the attachment to line 8 to determine if such amount should be reported on Form 1118, Schedule H, Part II, lines 3a through 3f, as (a) section 245A dividend, or (b) other.

Section 3—Foreign-Derived Intangible Income (FDII) Deduction Apportionment Factors Section 3 reports the information necessary for you to assign the FDII deduction to a source and separate category such that it may be reported on Form 1118, Schedule A; or Form 1116, Part I.

Section 4—Foreign Taxes Section 4 reports your share of the foreign income taxes paid or accrued by the partnership by separate category and source.

Line 1. Direct (section 901 or 903) foreign taxes. Report the taxes on line 1 in the applicable portions of Form 1116, Part II, and Form 1118, Schedule B, Part I, for the applicable separate category of income. To complete those parts, refer to the

statement attached to Schedule K-3, referred to earlier in the instructions for box 4 of Part I with the following information.

The dates on which the taxes were paid or accrued.
The exchange rates used.
The amounts in both foreign currency and U.S. dollars. See section 986(a).

The partner takes its distributive share of the partnership’s foreign income taxes into account in the partner’s tax year with or within which the partnership’s tax year ends regardless of whether the partner or partnership takes foreign income taxes into account on the cash or accrual basis.

Line 2. Reduction of taxes (total). Report the total reduction of taxes for each separate category of income from this line on Form 1116, Part III, line 12; and Form 1118, Schedule B, Part II, line 3.

Line 3. Foreign tax redeterminations. Report the redetermined foreign income taxes from this line on Schedule L (Form 1118), Foreign Tax Redeterminations; and Schedule C (Form 1116), Foreign Tax Redeterminations, as applicable. In addition, the partner should file an amended return, if required, to report the foreign tax redetermination and change in U.S. tax liability. See the instructions for Form 1116 or 1118 and Regulations sections 1.905-3 through -5 for additional information.

Note: If you’re an accrual method taxpayer, generally you may not claim a credit for additional taxes reported on Schedule K-3, Part III, Section 4, line 3, by the partnership unless those taxes have been paid. See section 905(c)(2) and Regulations section 1.905-3(a). Use the information in the attachment provided by the partnership to complete Schedule L (Form 1118) and/or Schedule C (Form 1116), as applicable.

If the partnership checked the “Contested tax” box and reported information about a contested foreign income tax on line 3, the partnership has remitted a contested foreign income tax liability to a foreign country. Under Regulations section 1.905-1(f)(2), you as the partner may elect to claim a provisional foreign tax credit for your distributive share of such contested foreign income tax liability. To make the election to claim the provisional foreign tax credit, file Form 7204, Consent To Extend the Time To Assess Tax Related to Contested Foreign Income Taxes—Provisional Foreign Tax Credit Agreement. See the instructions for Form 1116 or 1118, and the Instructions for Form 7204 for additional information.

Section 5—Other Tax Information Section 5 reports the section 743(b) income adjustments allocated to you by source, separate category, and class of gross income. The section 743(b) income adjustments should be included as relevant in other parts of Schedule K-3. For example, the section 743(b) income adjustments should be reflected as part of the total depreciation reported on Part II, Section 2. Therefore, you don’t need to adjust other reported amounts for the section 743(b) income adjustments.

No credit is allowed for taxes paid or accrued to a country described in section 901(j). However, a deduction is generally allowed with respect to a tax described in section 901(j).