What is a PFIC (Passive Foreign Investment Company)? What are the tax implication and reporting rules if you own a PFIC?

A Passive foreign investment company (PFIC) is any foreign corporation if 75 percent or more of its gross income for the taxable year consists of passive income, or 50 percent or more of the average fair market value of its assets consists of assets that produce or are held for the production of passive income. For example, a foreign mutual fund would be considered a PFIC.

Passive Income would be interest income, dividend income, passive rents and royalties, annuities, gains from the disposition of stocks and securities and certain other assets, certain gains from commodity trading, and certain foreign currency exchange gains. Foreign tax credit rules provides further instructions on which income is considered passive.

What are the tax implication and reporting rules if you own a PFIC?

If you own a PFIC, then you may be subject to reporting the investment on IRS Form 8621, IRS Form 8938, and FinCen Form 114 (AKA FBAR). The rules for reporting the PFIC are a bit complex. So for instance, if you made no elections and no PFICS are sold then you are not required to report the PFIC on 8621 but are still subject to report on Form 114 if you have more than USD $10,000 aggregate balance of your offshore accounts and IRS Form 8938 if you have an interest in specified foreign financial assets and meet the reporting threshold.

So there are three avenues that you can take when it comes to PFICS to report and pay your taxes as instructed by the IRS Form 8621:

Option 1: Elect the PFIC as Qualified Electing Fund, If applicable. Report PFIC on 8621, Report on FinCen Form 114 if applicable, and complete IRS Form 8938 part IV (if applicable). The gain can be reported on line 21 of 1040 or Schedule D, depending on type of income.

Option 2: Elect Market to Market Election on PFIC, if applicable. Report PFIC on 8621, Report on FinCen Form 114 if applicable, and complete IRS Form 8938 part IV (if applicable). If there is a gain, report your taxable income on Line 21 of your 1040.

Option 3: Make no election, but when the PFIC is sold, there can be stiff throwback tax and interest penalties. Complete Form 114 and IRS Form 8938, if applicable.

What can you do to avoid being subject to tax and reporting rules of PFIC?

Well, a foreign corporation that is a CFC (Controlled Foreign Corporation) is never a PFIC. Controlled foreign corporation is when a U.S. Persons has ownership and/or voting rights of a foreign corporation that is more than 50%.

Part of the reason why the rules are so complex for PFICs is because domestic Mutual funds were not happy with U.S. Person investing money overseas, so to discourage American to investing money in foreign mutual funds, the lobbyist have plead their case to congress, and now we have some difficult rules concerning PFICS.

Modi CPA is a licensed Certified Public Accounting firm in the state of Texas in The Colony, TX and service clients in the DFW Metroplex area (Dallas, Addison, Lewisville, Plano, Garland, Forth Worth, Arlington, Richardson, McKinney) and throughout the United States. Furthermore, we are also International & Cross-Border Tax accountants whom look at US-Canada Tax Treaty, US-India Tax Treaty, US-Russia Tax Treaty, US-UK Tax Treaty, US-Egypt Tax Treaty, and others.

We are a qualified accounting firm to discuss Domestic, Cross Border Tax issues between multiple countries, and other International tax services to ensure your compliance with the United States’ International tax laws. Do not hesitate to contact our office should you have further questions. Our Phone number is (214)618-0468 and email is ravi@modicpa.com