IRS Notice 2025-72: Interim guidance after OBBBA

Executive summary

On Nov. 25, 2025, the IRS released Notice 2025-72, announcing its intent to issue proposed regulations and providing interim guidance that taxpayers may rely on until those regulations are published. The guidance is intended to prevent foreign taxes from becoming misaligned with income during the mandatory short-year transition and to avoid unintended acceleration of section 987 pretransition gain or loss.

The notice addresses two key areas:

• Section 898 and foreign tax allocation: The notice addresses the allocation of foreign income taxes for foreign corporations affected by the repeal of the one-month deferral election under section 898(c)(2) by the One Big Beautiful Bill Act (OBBBA). Taxpayers may rely on these rules for tax years of specified foreign corporations (SFCs) beginning after Nov. 30, 2025, and ending before proposed regulations are published in the Federal Register, provided the rules are applied in their entirety and consistently for both the short transition year and the succeeding year.
• Section 987 transition rules: The notice also announces that the Treasury Department and IRS intend to issue proposed regulations modifying the election under Reg. section 1.987-10(e)(5)(ii)(A) to recognize pretransition section 987 gain or loss ratably over the transition period. The forthcoming proposed regulations would apply to taxable years beginning after Dec. 31, 2024, and ending on or after Nov. 25, 2025. Taxpayers may rely on the rules described in the notice before proposed regulations are published, provided they apply them in their entirety and consistently for each section 987 qualified business unit (QBU), original deferral QBU and outbound loss QBU for that taxable year and each subsequent taxable year.

OBBBA repeal of one-month deferral election

Section 898 generally requires SFCs to conform their taxable year to that of their majority U.S. shareholder. Historically, section 898(c)(2) allowed an SFC to elect a taxable year beginning one month earlier than the shareholder’s year—the ‘one-month deferral election.’

Taxpayers historically used the one-month deferral election to delay U.S. inclusions of Subpart F and global intangible low-taxed income (GILTI) income—effectively postponing the deemed distribution and improving short-term cash flow.

The OBBBA repeals the one-month deferral election for taxable years of SFCs beginning after Nov. 30, 2025. Under the statutory transition rule, an SFC that previously made the one-month deferral election will have a mandatory short taxable year, generally one month, beginning after Nov. 30, 2025, and ending on the same date as the majority U.S. shareholder’s year-end. This change is treated as initiated by the corporation and made with the Secretary’s consent.

What Notice 2025-72 says

Notice 2025-72 confirms the repeal and provides interim guidance for allocating foreign income taxes during the short year and the succeeding year. Without these rules, foreign taxes could be stranded or misaligned, creating distortions in foreign tax credit (FTC) computations, Subpart F inclusions and GILTI inclusions. Taxpayers may rely on these rules until proposed regulations are published, provided they apply them consistently for both the short year and the following year.

Definition and treatment of specified foreign income taxes

Notice 2025-72 introduces the concept of ‘specified foreign income tax.’ This is a foreign net income tax accrued by an affected SFC (using the accrual method and required to change its year under the repeal) in its first required year, for which the SFC is the section 901 taxpayer. The allocation rules apply only to these specified foreign income taxes. Other foreign taxes—such as partnership-level taxes, withholding taxes or taxes accrued in the succeeding year—are not subject to these special allocation rules and continue to be taken into account in the year they would ordinarily be recognized for U.S. tax purposes.

Background on foreign taxes and why this rule helps

Foreign income taxes generally accrue when the foreign tax year ends, not ratably throughout the year. This creates a timing mismatch when a U.S. shareholder’s year and the foreign subsidiary’s year do not align—especially during a short transition year. Without special rules, a short-year controlled foreign corporation (CFC) could appear to have little or no foreign taxes allocated to its income, reducing FTC availability and potentially inflating residual U.S. tax.

The interim guidance in Notice 2025-72 mitigates this issue by allowing foreign taxes to be allocated based on income earned during the short period under foreign law, rather than requiring strict accrual at year-end. This approach is generally beneficial because it preserves FTC benefits and avoids distortions in effective tax rate calculations during the transition.

Ordering rule for the allocation of specified foreign income taxes

Notice 2025-72 sets forth a multi-step ordering rule for allocating specified foreign income taxes between the short taxable year and the succeeding full year:

1. Identification: First, identify the specified foreign income taxes for the affected SFC.
2. Allocation and apportionment: Next, allocate and apportion the tax to income groups and previously taxed earnings and profits (PTEP) groups under Reg. sections 1.861-20 and 1.960-1(d)(3)(ii)(B).
3. Allocation percentage: The portion of foreign law taxable income attributable to the first required year is divided by the total foreign law taxable income for the full foreign year to determine the allocation percentage.
4. Allocation to U.S. tax years: The specified foreign income tax is then allocated between the short year and the succeeding year based on this percentage. Taxpayers may use either a ‘closing of the books’ method (allocating based on actual foreign taxable income in each period) or a “ratable allocation” method (allocating based on the number of days in each period, if actual income data is not available).
5. Treatment for U.S. tax purposes: The allocated amounts are treated as accruing in each respective year for U.S. tax purposes that depend on the year of accrual, including Subpart F, GILTI, earnings and profits (E&P), and section 960 deemed paid credits. Sections 905(c) and 986(a) are exceptions and treat the tax as accruing in the first required year.

This ordering rule is intended to ensure that foreign taxes are matched as closely as possible to the income to which they relate, thereby supporting accurate FTC calculations and preventing the stranding of foreign taxes.

Application of the high-tax exception/exclusion

The portion of specified foreign income tax allocated to each year is used in determining whether the high-tax exception (for Subpart F) or high-tax exclusion (for GILTI) applies in that year. The ordering rules specifically address this point, ensuring that the correct amount of foreign tax is considered in the relevant year for these purposes. This can be outcome-determinative for taxpayers that are near the high-tax threshold in either the short year or the succeeding year.

Accrual vs. cash taxpayers, partnerships and withholding taxes

The allocation rules in Notice 2025-72 apply primarily to accrual method taxpayers, who recognize foreign taxes when the liability is fixed and the amount can be determined—typically at the end of the foreign tax year. For these taxpayers, the allocation of foreign taxes between the short and full years is critical to ensure proper FTC and U.S. tax computations.

Cash method taxpayers, by contrast, recognize foreign taxes when paid. For these taxpayers, the allocation rules do not apply; foreign taxes are simply taken into account in the year of payment, regardless of the year change.

The allocation rules also do not apply to distributive shares of foreign taxes paid or accrued by a partnership (which are taken into account in the year the partnership income is recognized) or to withholding taxes (which generally accrue close in time to the related income and are not subject to the allocation rules).

Changing a taxable year: Permission and automatic consent

As a general rule, once a taxpayer establishes a taxable year, it must obtain IRS approval before making any changes. The standard method for requesting approval is by filing Form 1128, Application to Adopt, Change, or Retain a Tax Year.

However, certain circumstances allow for automatic consent, eliminating the need to file Form 1128. Under Rev. Proc. 2006-45, section 7.02(1)(c), automatic approval applies when a CFC changes its taxable year to either:

• A year beginning one month earlier than the taxable year of its majority U.S. shareholder, or
• A year that always ends on the same day of the week and references either the majority U.S. shareholder’s year-end or the one-month deferral year-end.

Under the OBBBA repeal transition rule, no Form 1128 is required because the mandatory short year is imposed by statute and treated as made with the Secretary’s consent, even though the result is a change in the SFC’s taxable year for U.S. tax purposes.

Section 987 and the recognition of pretransition gain or loss

The final section 987 regulations introduce a mandatory and standardized method for calculating taxable income or loss and foreign currency gain or loss for QBUs with a non-U.S. dollar functional currency. Under these rules, the foreign exchange exposure pool (FEEP) method is now the default and required method for all taxpayers subject to section 987, with limited exceptions.

Taxpayers transitioning to the final regulations must perform a one-time transition calculation to determine the pretransition section 987 gain or loss and establish the starting basis for future section 987 gain or loss recognition.

Under the final regulations, taxpayers could elect under Reg. section 1.987-10(e)(5)(ii)(A) to amortize pretransition section 987 gain or loss over the transition period when transitioning to new rules—the ‘amortization election.’ The transition period is a period of ten taxable years beginning with the first taxable year in which the section 987 regulations apply.

What Notice 2025-72 changes

The notice confirms that forthcoming proposed regulations will modify the amortization election to allow taxpayers to recognize pretransition section 987 gain or loss ratably over 120 months (10 years) rather than 10 taxable years. This change eliminates the risk of accelerated recognition caused by short taxable years.

Special rules apply for short years ending before Nov. 25, 2025:

• If a taxpayer recognized a portion of pretransition gain or loss under the original rule in a short year, that year is deemed to contain 12 months for purposes of calculating the remaining amortization.
• The remaining amount is then recognized ratably over the balance of the 120-month schedule (e.g., 108 months if one-tenth was recognized in the short year).

Reliance, effective date and request for comments

Taxpayers may rely on the rules in Notice 2025-72 for taxable years beginning after Nov. 30, 2025, and ending before the forthcoming proposed section 898 regulations are published, provided the rules are applied in their entirety and consistently for the first required year and the succeeding taxable year. The forthcoming proposed section 987 regulations will apply to taxable years beginning after Dec. 31, 2024, and ending on or after Nov. 25, 2025, with similar reliance permitted.

The IRS and Treasury have requested comments on whether the allocation rule should apply to other types of foreign taxes (such as partnership-level taxes) and on other multi-year rules affected by short taxable years. Comments are due by Jan. 24, 2026.

Accounting Standards Codification (ASC) 740 implications

Before Notice 2025-72, companies faced unresolved questions about how to allocate foreign income taxes that accrued over a full foreign taxable year but, due to the repeal, would be split between a short ‘stub’ year (the first required year) and the succeeding full year for tax purposes under the OBBBA. This raised concerns for the financial reporting of income tax expense, as the timing and amount of FTCs available for tax purposes could be unclear.

The guidance provides companies with clarity regarding the amount of FTCs available in each U.S. taxable year, supporting clearer measurement for income tax provisions. Under ASC 740, the effects of changes in tax law are reflected in the period of enactment. Companies should reflect the effects of Notice 2025-72 in the financial statement period, including the Nov. 25, 2025 publication date. Companies will need to reassess foreign taxes accrued by foreign entities if impacted by the OBBBA provision and this notice. Companies should discuss how foreign taxes are allocated across taxable years with their tax advisors to better understand the effects for financial reporting purposes.

The notice may also reduce uncertainty for companies by allowing the release of existing uncertain tax positions (UTBs) where prior foreign tax allocation methods were unclear but are now explicitly supported by IRS guidance, meeting the more-likely-than-not threshold. However, it could also create new UTBs if companies adopt alternative interpretations within the permitted framework, especially regarding closing-of-the-books allocation assumptions.

Please connect with your advisor if you have any questions about this article.

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This article was written by Adam Chesman, Darian A. Harnish, Mandy Kompanowski, Yushu Ma and originally appeared on 2026-02-19. Reprinted with permission from RSM US LLP.
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