Subpart F Income: A US CFC Guide for Owners

Subpart F income can tax US owners on a foreign company's profits before any distribution. We explain the CFC rules, the income categories, and how to plan.

If you are a US person with an interest in a foreign company, the question is rarely whether US rules apply. It is which set of rules bites first. Long before the better-known GILTI regime arrived, the Subpart F rules were already designed to stop US owners deferring tax by parking certain income inside a foreign corporation.

Subpart F can tax you on a foreign company's profits in the year they arise, even if nothing is paid out and the cash never leaves the company. Understanding what it catches, and what it does not, is essential for any US owner of an offshore or onshore foreign entity.

This guide sets out how a controlled foreign corporation is defined, the main categories of Subpart F income, and the planning that keeps the rules predictable rather than punitive.

What makes a company a CFC

Subpart F applies to a controlled foreign corporation, or CFC. Broadly, a foreign company is a CFC where US shareholders together own more than half of it by vote or value. For this purpose a US shareholder is generally someone owning at least 10 percent, and complex attribution rules can treat you as owning shares held by family members or related entities.

Two features routinely surprise owners. First, control is tested by aggregating all qualifying US shareholders, so a company can be a CFC even if no single US person controls it. Second, the attribution rules can pull in shares held by related foreign entities, occasionally creating CFC status in structures that look independent on paper.

Once a company is a CFC, its US shareholders may be taxed currently on their share of its Subpart F income, regardless of distributions.

The main categories of Subpart F income

Subpart F does not tax all of a CFC's earnings. It targets specific, mobile or passive categories that were historically easy to shift offshore.

Foreign personal holding company income is the largest category in practice. It captures passive returns such as dividends, interest, rents, royalties and certain gains. For a holding company or an owner using a foreign entity to warehouse investments, this is usually the central concern.

Foreign base company sales income arises where a CFC buys from or sells to related parties and the goods are produced and sold outside the CFC's own country, a classic conduit pattern. Foreign base company services income applies where services are performed for or on behalf of a related party outside the CFC's home jurisdiction. There are also categories addressing insurance income and certain other arrangements.

Active business income earned and consumed within the CFC's own country is generally outside Subpart F, although it may still be exposed under the separate GILTI rules.

Important exceptions and reliefs

Several exceptions soften the regime, and they are where careful planning earns its keep.

The high-tax exception allows Subpart F income that has borne foreign tax above a defined threshold, measured against the US corporate rate, to be excluded by election. This mirrors the logic of the GILTI high-tax exclusion and is most useful where the CFC genuinely operates in a taxed jurisdiction.

A de minimis rule disregards Subpart F categories where they fall below a small proportion of the company's gross income, while a converse full-inclusion rule sweeps everything in once the tainted income becomes large enough relative to total income. There are also same-country exceptions for certain dividends, interest, rents and royalties received from related parties operating in the CFC's own jurisdiction.

These thresholds make the result sensitive to the mix of income in a given year. A company that comfortably avoids Subpart F in one year can tip into full inclusion in the next simply because its income profile shifts.

How Subpart F and GILTI fit together

Owners often ask which regime applies. The practical answer is that Subpart F is tested first. Income that is a Subpart F inclusion is taxed under those rules and is then excluded from the GILTI calculation, so the two do not stack on the same dollars. GILTI then captures most of the remaining active income that Subpart F does not reach.

The combined effect is that, for a typical owner-managed CFC, very little annual profit escapes current US tax altogether. Passive and conduit income falls under Subpart F; active income falls under GILTI. Planning is therefore less about avoiding inclusion entirely and more about controlling the rate, the timing and the availability of credits.

This is why the choice of holding structure matters so much. Holding a CFC through a US C-corporation, or making a section 962 election as an individual, can change which deductions and foreign tax credits are available against these inclusions.

Reporting, basis and distributions

Subpart F inclusions are not only a tax cost; they create lasting record-keeping obligations. An inclusion increases your basis in the CFC shares and creates a pool of previously taxed earnings. When that income is later distributed, it should come out free of further US income tax, but only if the previously taxed amounts have been tracked accurately year by year.

In our experience, the failure to maintain these records is one of the most expensive oversights in cross-border ownership. Years later, on a sale or distribution, owners can find themselves taxed twice on the same profits simply because the previously taxed earnings were never documented.

CFC ownership also triggers detailed information reporting. The relevant annual forms carry significant penalties for non-filing that apply regardless of whether any tax is due, so compliance discipline is not optional.

How HPT helps

We help US owners determine whether their foreign companies are CFCs, identify which income falls within Subpart F, and plan the structure so that inclusions are anticipated rather than discovered. That includes assessing the high-tax and de minimis exceptions, coordinating Subpart F with the GILTI regime, choosing the right holding layer, and putting in place the previously taxed earnings and basis records that protect you on a future distribution or exit.

If you hold an interest in a company abroad and want certainty about your Subpart F exposure, we would welcome the opportunity to review your position.