US-source vs. foreign-source income: a sourcing fact checklist by income type

Reviewed 2026-09-15 · AI-assisted draft and editing; sources and limitations remain visible for independent review.

Answer: Source is decided by an income-type rule, so the first task is classifying the receipt rather than looking at where the payment cleared. Sections 861 and 862 are mirror lists of the same categories, including interest, dividends, personal services, rentals and royalties, real property, inventory sales, underwriting income, social security benefits, and a ninth paired category for guarantee fees. Section 863 covers income partly from within and partly from without the United States. Sales of personal property start at §865, where the seller's residence governs unless an exception applies, and inventory is the largest exception, returning to §861, §862 and §863. For inventory the taxpayer produced, §863(b)(2) allocates solely on the basis of production activities, a rule added by 2017 legislation. Because the controlling fact differs by category, a source conclusion reached before the facts are gathered is usually a guess about which rule applies. What follows is the intake order, not a source determination for any particular receipt.

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Scope

Jurisdiction: United States — federal

Tax periods: Categories checked as of 2026-09-15, Produced inventory: after 2017, No 2025 change to 861-865

Assumptions

• The question is the geographic source of an item of gross income, not whether the income is effectively connected with a US trade or business.
• The taxpayer's US or foreign status and residence have already been determined under other provisions.
• No income tax treaty re-sources the item; a treaty resourcing position is a separate question.

Exclusions

• State and local tax treatment.
• Allocation and apportionment of deductions against sourced gross income.
• Effectively connected income, branch profits tax, and permanent establishment analysis.
• A source conclusion for any actual taxpayer, contract, or payment.

1. Classify the receipt before opening a Code section

The statutory design is paired. Section 861(a) lists the classes of income treated as from sources within the United States and §862(a) lists the same classes treated as from sources without. Identify which numbered class the receipt falls into first, because the fact that matters in class (1) is not the fact that matters in class (4). A contract described only as a services agreement can contain a royalty, a reimbursement, and a sale.

Two categories sit outside the paired lists. Section 863 governs income partly from within and partly from without the United States and also carries the special rules for space and ocean activity and for international communications income. Sales of personal property are routed first through §865, which sets a residence-of-the-seller default and then a series of exceptions. Read §865 before §861(a)(6) for any sale, because §865 decides whether the inventory route applies at all.

2. Facts that decide the interest and dividend categories

For interest, the fact to collect is the identity and status of the obligor, not the location of the lender or the place of payment. Section 861(a)(1) reaches interest from the United States or the District of Columbia and interest on obligations of noncorporate residents or domestic corporations, with exceptions stated in the section. Gather the obligor's organizational status, the instrument, and any exception the section itself names before concluding.

For dividends, collect the payer's place of organization and, where the payer is foreign, the facts the Code uses to pull part of the distribution into US source: §861(a)(2)(B) works off whether less than 25 percent of the foreign corporation's gross income from all sources for the three-year period ending with the close of its taxable year preceding the declaration of the dividends was effectively connected with a US trade or business, and then sources a proportionate amount. The ninth paired category is narrower than it looks. Headed Guarantees, section 861(a)(9) reaches amounts received, directly or indirectly, from a noncorporate resident or domestic corporation for the provision of a guarantee of that person's own indebtedness, and from a foreign person for the provision of a guarantee of its own indebtedness only where the amount is connected with income that is effectively connected with a US trade or business; §862(a)(9) takes the remaining foreign-person guarantee fees. So the fact to collect is who the debtor was and whether the fee ties to effectively connected income.

3. Facts that decide services, rentals and royalties

Compensation for labor or personal services is sourced by where the work was physically performed. The IRS states that all wages and other compensation for services performed in the United States are generally from US sources, and that the place of contracting, the place of payment, and the payer's residence do not control. The facts to collect are therefore a day count and a work location record, not a payroll address.

Where services were performed both inside and outside the United States, an apportionment is required. Which paragraph supplies the method depends on who performed the services. Regulation § 1.861-4(b)(1)(i) covers a person other than an individual and calls for the basis that most correctly reflects the proper source under the facts and circumstances, with a time basis often acceptable. Paragraph (b)(2)(i) states the same standard for an individual, but paragraph (b)(2)(ii)(A) then provides that for an individual acting as an employee the part attributable to services performed in the United States is determined on a time basis, subject to the exceptions in (b)(2)(ii)(B) and (C). The IRS page illustrates the time basis by multiplying total pay by the fraction of days worked in the United States, and it treats certain fringe benefits on a geographic rather than a time basis. Collect days by location, the contract scope, and the benefit type.

Section 861(a)(3) contains a narrow exception for a nonresident alien individual temporarily present in the United States for not more than a total of 90 days in the tax year whose compensation does not exceed $3,000 in the aggregate, with a further condition on who the employer or contracting party is. Regulation § 1.861-4(a)(2) defines a day for this purpose as a calendar day during any part of which the individual is physically present in the United States. All conditions must hold; do not apply the exception from the dollar figure alone.

For rentals and royalties, the fact is the location of the property or the place of use of the intangible, per §861(a)(4) and §862(a)(4). For a license, collect the territory of use granted, not the licensee's headquarters.

4. Facts that decide sales of property

Start with §865(a): income from the sale of personal property by a United States resident is sourced in the United States, and by a nonresident outside the United States. Residence for this purpose is defined in §865(g) and is not the same question as residence for other parts of the Code, so collect the tax home as well as the citizenship or place of organization.

Then test the exceptions in order, because each has its own fact. Section 865(b) removes inventory property to §861(a)(6), §862(a)(6) and §863. Section 865(c) splits gain on depreciable personal property by reference to prior depreciation adjustments. Section 865(d) treats contingent payments for intangibles as royalties and sources goodwill by the country where the goodwill was generated. Section 865(e) can change the result where the sale runs through a foreign office of a US resident or a US office of a nonresident, and §865(e)(1)(B) makes the foreign-office route unavailable unless an income tax equal to at least 10 percent of the income from the sale is actually paid to a foreign country. A parallel 10 percent condition sits in §865(g)(2) before a US citizen or resident alien can be treated as a nonresident for a sale. Collect the foreign tax actually paid, not the foreign rate on the books.

For inventory the taxpayer produced, §863(b)(2) is the operative rule and it allocates between US and foreign sources solely on the basis of production activities. The fact to collect is therefore where production occurred and in what proportion, and that is what distinguishes the current rule from pre-2018 practice. Purchased inventory resold abroad is a different subparagraph with a different fact.

For real property, the fact is where the property sits, and a disposition of a United States real property interest has its own category in §861(a)(5). Record the property location and the interest disposed of.

5. The inclusion trap: the rule sits in the dividend regulation

A US shareholder's income inclusions are not sourced by tracing the underlying foreign operating income, and the rule that says so is easy to look for in the wrong place. It is in the dividend regulation, § 1.861-3, whose heading covers dividends and income inclusions under §951, §951A and §1293 and associated §78 dividends. Paragraph § 1.861-3(d) provides that, for purposes of §861 and §862 and the regulations under them, an amount included in gross income of a United States person under §951, §951A or §1293 and the associated §78 dividend is treated as a dividend received directly from the foreign corporation that generated the inclusion.

This matters because a workpaper that sources an inclusion by looking through to the controlled foreign corporation's own sales or services will produce the wrong numerator. If the file contains an inclusion, note the rule and carry the point into the credit limitation work rather than resolving it here. The companion page titled Foreign tax credit: creditability, baskets and limitation workpaper outline picks the analysis up at that point, including a 2025 source rule that applies only for purposes of §904 and therefore changes a limitation numerator without changing where income is sourced generally.

6. Close the checklist with a period and a citation for each fact

For each item of income, record the category chosen, the one or two facts that drove it, the Code or regulation paragraph relied on, and the tax year. Where a fact is missing, write the gap rather than an assumption, because in this area the missing fact is usually the whole question. Where an item spans categories, note that a partly-within analysis under §863 may be required instead of a single answer.

The statutory text used here was the preliminary United States Code on the House site, which carried the release line stating it contains those laws in effect on September 14, 2026. The amendment notes on §861, §862, §863 and §865 record no change made by the July 2025 legislation, so the categories described here are the same for a 2025 return and a 2026 return. The regulations were read in the electronic Code of Federal Regulations, which displayed title 26 as up to date as of September 14, 2026, with the title last amended September 8, 2026; that source is authoritative but unofficial, and the annual printed edition governs where official text is required.

This page differs from the sibling page titled Is it a CFC? A classification issue map across the 2026 statutory boundary, which classifies an ownership structure rather than sourcing a receipt. Ask Taxterity to pull the sourcing authority for one income type and one fact pattern, or to build a Federal Tax Memo on the category in dispute, then verify each citation against the section text yourself.

Related research

• Treaty benefits and Form 8833: when a treaty position must be disclosed
• Withholding on payments to foreign persons: the chapter 3 documentation sequence
• Is it a CFC? A classification issue map across the 2026 statutory boundary
• Form 1118 foreign tax credit limitation: baskets, the 90% rule and carryovers

Official sources

1. 26 U.S.C. 861 - Income from sources within the United States — Sec. 861(a)(1) interest; (a)(2)(B) 25 percent, three-year effectively connected test; (a)(3) 90-day and $3,000 exception; (a)(4) rentals and royalties; (a)(5) USRPI; (a)(9)(A)-(B); release line, laws in effect September 14, 2026
2. 26 U.S.C. 862 - Income from sources without the United States — Sec. 862(a)(1)-(a)(9) mirror category list; (a)(3) services; (a)(4) rentals and royalties; (a)(9) residual for backing a foreign person's debt
3. 26 U.S.C. 863 - Special rules for determining source — Sec. 863(a); 863(b)(2) produced inventory allocated solely on the basis of production activities; 863(d) space and ocean; 863(e) international communications; Amendments notes show no Pub. L. 119-21 change
4. 26 U.S.C. 865 - Source rules for personal property sales — Sec. 865(a) residence of seller; (b) inventory; (c) depreciable property; (d) intangibles and goodwill; (e)(1)(B) 10 percent foreign tax condition; (g) United States resident and (g)(2) 10 percent condition
5. 26 CFR 1.861-4 - Compensation for labor or personal services — Sec. 1.861-4(a)(1)(i) 90 days, (a)(1)(ii) $3,000; (a)(2) day means a calendar day of any physical presence; (b)(1)(i) persons other than individuals; (b)(2)(i) individuals; (b)(2)(ii)(A) time basis for an employee; (b)(2)(ii)(E) time basis
6. 26 CFR 1.861-3 - Dividends and income inclusions under sections 951, 951A and 1293 — Sec. 1.861-3(d) inclusions under sections 951, 951A and 1293 and the associated section 78 dividend treated as a dividend received directly from the foreign corporation that generated the inclusion
7. IRS: Source of income - personal service income — Place-of-performance rule; time-basis fraction of days worked in the United States; fringe benefit geographic basis; page last reviewed or updated 06-Feb-2026

Limitations

• This is a fact-gathering checklist, not a source determination; every category listed has conditions and exceptions in its own section text that must be read for the specific item.
• The Code text relied on is the preliminary United States Code release stating it contains those laws in effect on September 14, 2026; the amendment notes on §861 through §865 show no change made by the July 2025 legislation.
• Regulations were read in the electronic Code of Federal Regulations, which is authoritative but unofficial; the annual printed edition and the Federal Register govern where official text is required.
• Treaty provisions can re-source an item and are outside this page; a treaty resourcing position raises its own disclosure question.
• Sourcing gross income is only the first step. Allocation and apportionment of deductions, and the effectively connected income rules, are separate analyses not covered here.