Instructions For Schedule U-M - Member'S Income And Expenses

among other things, items of non-effectively connected income on which the federal income tax may be

collected through withholding imposed upon the payers of such items. See 830 CMR 63.32B.2 (6) (c)

2.1.a (referencing I.R.C. § 882(b), as well as I.R.C. §§ 881(a), 882(a)).

An item of income of a corporation that is organized outside of the United States shall not be included in

the combined group’s taxable income to the extent that such item is exempt from federal income tax by

virtue of a federal income tax treaty. See M.G.L. c. 63, § 32B(c) 3(iv). In any case in which such a treaty

merely reduces the federal rate of tax to be applied to an item of federal gross income, this income is to

be included in the combined group’s taxable income without any reduction.

Where a combined group member’s federal gross income taken into account in determining taxable net

income is limited under the Code (or pursuant to Massachusetts adjustments), any deductions in

determining taxable net income are also limited to those permitted to be taken under the Code (and any

such Massachusetts adjustments) with respect to the items of gross income taken into account. See 830

CMR 63.32B.2 (6) (c) 2.

In addition to the above, a non-U.S. corporation shall also be included in a water’s edge combined

report in cases not referenced above where it earns 20% or more of its gross income, directly or

indirectly, from intangible property or service-related activities, the costs of which generally are

deductible for federal income tax purposes, whether currently or over a period of time, against the

business income of other members of the group. In these cases, the non-U.S. corporation shall only be

included to the extent of such income (and the apportionment factors that relate thereto). In

determining whether the 20% income threshold has been exceeded, the items of gross income in the

numerator and denominator of the corporation’s calculation shall not be limited to items of federal

gross income. However, where a corporation’s calculation meets the 20% threshold, the income of the

corporation to be included in the combined group’s taxable income shall be limited to items of federal

gross income as reduced by the deduction of expenses of the member that are reasonably related and

not disproportionate to such federal gross income, as determined pursuant to such guidance as may be

issued by the Commissioner, provided that in no event in these cases shall the corporation’s gross

income to be included in the combined group’s taxable income be reduced below zero. The rules

referenced above with respect to the impact of any applicable U.S. tax treaties also apply in these cases.

The regulatory rules that explain the concepts discussed in this paragraph are generally set forth at 830

CMR 63.32B.2 (5) (b) 1.c and 830 CMR 63.32B.2 (5) (b) 3 and 4.

In those cases where a non-U.S. corporation included in a water’s edge combined group files Form

1120F, the member must report in column (a) all of the member’s effectively connected income and the

deductions allowable with respect to that income under the Code as reported on its Form 1120F.

Further, any such corporation must report in column (c) any additional items of federal gross income

that are required to be included in the combined report but that is not reported on a U.S. Form 1120F

Instructions For Schedule U-M - Member'S Income And Expenses - 2012 Page 7