Creeping up to the New Year, the Internal Revenue Service (“IRS”) showed an uncharacteristic sign of holiday goodwill. On December 30, 2013 the IRS issued Temporary Treasury Regulations providing guidance with regard to so-called “passive foreign investment companies” (“PFIC”). The areas covered in the Regulations include guidance in determining ownership of a PFIC (specifically, attributing ownership of PFIC stock through partnerships, estates and trusts), the annual filing requirements for shareholders of PFICs and guidance on the exception to the requirement for certain shareholders of foreign corporations to file Form 5471, “Information Return of U.S. Persons with Respect to Certain Foreign Corporations.’

Broadly speaking, the US tax laws impose a special tax and interest charge on a US person that is a shareholder of a PFIC when the investor receives an “excess distribution” from the PFIC, or recognizes gain derived from a disposition of stock in a PFIC that is treated as an “excess distribution”.

This blog post focuses on the annual PFIC reporting requirement and certain exceptions as announced in the Temporary Treasury Regulations.

PFIC Filings for “Suspended Years” Not Required

By way of background, The Hiring Incentives to Restore Employment Act of 2010 (more commonly known as the HIRE Act) enacted an annual reporting requirement for shareholders of PFICs. Although the law was enacted in 2010, it was to become effective only upon issuance of Treasury Regulations by the IRS. Since 2010, tax professionals and their clients have been waiting to learn when this annual reporting requirement would take effect.

In July 2011, the IRS announced it intended to issue regulations implementing the annual PFIC reporting rules and to release a revised Form 8621 to reflect this annual requirement. See Notice 2011-55 (2011-29 CB 663 (July 18, 2011). Simultaneously, the IRS announced it was “suspending” the annual reporting requirements until the release of the revised Form 8621 for PFIC shareholders that were not otherwise required to file Form 8621 under the then-current Instructions to the Form. Remember, reporting on Form 8621 was and is clearly required when the investor receives an “excess distribution” from the PFIC or disposes of his PFIC shares. In that same Notice, the IRS announced that filing of the Form 8621 would be required for the earlier years that had previously been “suspended” and that a failure to furnish Form 8621 for a suspended taxable year could result in the extension of the statute of limitations for that year as well as result in imposition of penalties.

The Temporary Treasury Regulations issued right before the New Year bring welcome relief. The IRS announced that it is not necessary for taxpayers to file the Form 8621 for any “suspended” taxable year. Again however, reporting on Form 8621 was and is required when the investor receives an “excess distribution” from the PFIC or disposes of his PFIC shares or makes certain elections with regard to the PFIC.

The previously deferred annual reporting requirement will begin for 2013 tax returns (assuming a calendar year taxpayer). So, for most taxpayers with PFIC interests, the annual report must be filed with the tax return due for the calendar year 2013. For Americans overseas this is generally due by June 15, 2014. Don’t be lulled into a false complacency. US tax return preparers are always working under tight deadlines and as more and more taxpayers fear penalties for making errors, they are turning to professionals to get the job done. Start gathering your tax information early.

Newly Introduced – De Minimis Dollar Value Threshold Required for Annual PFIC Reporting and Piggy-Back Filings

The Temporary Treasury Regulations also establish a brand new de minimis threshold amount. Only if it is met, is the annual PFIC reporting requirement triggered (this assumes the shareholder is not otherwise required to file the Form 8621, for example, because the investor received an “excess distribution” or has made a so-called QEF election). If the threshold is not met on the last day of the shareholder’s taxable year, then reporting is not required for that particular tax year. Generally, reporting is not required if on that last day, the value of all PFIC stock owned directly or indirectly by the shareholder is $25,000 or less; or, if the shareholder holds his PFIC stock only indirectly and the value of the stock indirectly owned is $5,000 or less.

In addition, the Temporary Regulations attempt to eliminate duplicative reporting in certain cases. The annual report is not required when a US person owns PFIC stock through another US person which timely files the annual report and the US investor is required to include an amount in income only under the QEF or Mark-to-Market rules with respect to PFIC stock held through the other US person. An example would be that of an individual member of a US hedge fund or private equity fund, when the US entity owns interests in foreign funds that are PFICs. In such a case, the individual member of the hedge fund or equity fund will not be required to file the annual Form 8621 provided the US entity itself has filed the annual report and the individual has a QEF or Mark-to-Market election in place.

Make Sure Filings Are Done Correctly

A US investor in a PFIC should make sure all required information and tax forms are completed and submitted with regard to his PFIC investment. In addition to the Form 8621, the taxpayer may need to file Form 8938 and the so-called FBAR (Form 114a). Record-keeping and preparation time for the Form 8621, alone, is extremely complicated and a separate Form must be filed for each PFIC owned. The IRS estimates that the time required with regard to Form 8621 for each PFIC investment is at 22 hours per year! The tax preparation costs may be prohibitive and in fact, many return preparers will not take on clients who need PFIC filings.

Don’t forget that starting this year, under certain provisions of the “Foreign Account Tax Compliance Act” (FATCA), ”foreign financial institutions” will be required to report either directly (or indirectly through their local government authority) to the IRS about assets held by US persons with that institution. The FATCA rules will make it very easy for the IRS to cross-reference the information provided by the foreign financial institution with the taxpayer’s Form 8621 to determine whether taxes and reporting on the PFIC have been properly undertaken.

In accordance with Circular 230 Disclosure