IRS Form 8621: Understanding PFIC Taxation

Navigating the complexities of US tax obligations can be a daunting task, especially for Americans living abroad. Among the myriad of forms and regulations, Form 8621 and the concept of Passive Foreign Investment Companies (PFICs) stand out as particularly challenging for US expats. This guide aims to demystify PFICs and the requirements surrounding Form 8621, ensuring you stay compliant while maximizing your financial strategy overseas.

WHAT IS A PFIC?

A Passive Foreign Investment Company (PFIC) is a foreign corporation that meets either the income or asset test specified by the IRS. Specifically, if 75% or more of the corporation’s gross income is passive income, or if at least 50% of the corporation’s assets produce or are held to produce passive income, it is considered a PFIC. Passive income includes dividends, interest, rents, royalties, and certain other types of income.

Here’s a concise summary of the essential definitions and rules:

  • Income Test: A foreign corporation qualifies as a PFIC if 75% or more of its gross income for the tax year is considered passive income, as defined in section 1297(b) of the tax code.
  • Asset Test: Alternatively, a foreign corporation meets the PFIC criteria if at least 50% of its average percentage of assets, determined under section 1297(e), are either producing passive income or are held for the purpose of producing passive income during the tax year.
  • Basis for Measuring Assets: For the asset test, a foreign corporation can use the adjusted basis to determine PFIC status if it is not publicly traded during the tax year, and either qualifies as a controlled foreign corporation (CFC) under section 957 or opts to use the adjusted basis. Publicly traded corporations must use the fair market value for this determination.
  • Look-thru Rule: In assessing whether a foreign corporation is a PFIC, it is considered to directly own its proportional share of the assets and directly receive its proportional share of the income of any corporation where it owns at least 25% of the stock by value.
  • CFC Overlap Rule: U.S. shareholders owning 10% or more of a CFC that is also a PFIC, and who include in their income their pro rata share of subpart F income, are generally not subject to PFIC regulations for the same stock during the qualified portion of their holding period. This exception does not extend to option holders. Further details are provided in section 1297(d).

It’s important to note that even if a foreign corporation is not considered a PFIC with respect to a shareholder under section 1297(d), the attribution rules of section 1298(a)(2)(B) still apply.

Common examples of investments that might be classified as PFICs include, but are not limited to:

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(This is a continuation from the article posted yesterday. Click here to read it.)

Ok, it is PFIC. So what?

In 1986, Congress added the PFIC rules to the Internal Revenue Code because of concerns that American taxpayers investing in passive assets indirectly through a foreign investment company have an inappropriate tax benefit compared to direct investments in these assets. The purpose of the PFIC rules was to eliminate this advantage. Read More

Why are PFIC rules important for holders of Canadian mutual fund?

Many American citizens living or working in Canada have invested in Canadian mutual funds – likewise, many Canadians who subsequently moved to the United States retained their Canadian mutual funds holdings. They likely are unaware of the PFIC rules. Consequently many American taxpayers holding Canadian PFIC have not met their reporting obligations. Not only that  but PFIC investments are to be avoided since its taxation (with the exception of the QEF regime) is designed to be punitive. Read More

Ephraim Moss, PFIC reporting

The IRS recently finalized regulations, previously in proposed and temporary form, which provide guidance on determining the ownership of a passive foreign investment company (PFIC) and the reporting obligations of PFIC owners. The final regulations make some changes to the proposed and temporary regulations based on comments that the IRS received from taxpayers and taxpayer organizations.

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