Passive Foreign Investment Company
Frequently Asked Questions
Understanding PFICBack to Tax Services
Passive Foreign Investment Company is commonly known as "PFIC." U.S. taxpayers' shares in a PFIC could be subject to PFIC taxation. PFIC taxation is notoriously punitive. PFIC owners are required to pay tax on "excess distribution" and "disposition." Not only are the taxpayers required to pay tax, but they are also required to pay "interest" on such tax. Together, it can result in 40% to 75% tax liability for the passive income. In addition, PFIC U.S. shareholders are also tasked with filing responsibilities when receiving certain direct or indirect distributions from a PFIC, recognizing gains on the disposition of PFIC stocks, etc. If you think you cannot possibly be a shareholder of a PFIC, think twice. Many U.S. taxpayers who live abroad unknowingly become PFIC shareholders when their employers open a retirement account, such as a 2nd Pillar account. However, such ignorance does not necessarily exempt the taxpayer from PFIC regulations and penalties.
- PFIC Elections
If you have heard of the "PFIC" rules, you are probably already familiar with the saying, "Once a PFIC, always a PFIC." However, there are two elections that PFIC shareholders can make to avoid the PFIC tax treatment. They are the Qualified Electing Fund (QEF) and the "Mark-to-Market" elections. Once the PFIC shareholder makes the QEF election, the taxpayer will be required to annually include in their gross income as ordinary income its pro rata share of the ordinary earnings of the QEF and as long-term capital gain its pro rata shares of the net capital gain of the QEF regardless of whether they receive such distributions during that taxable year.
Some PFIC shareholders can also make the mark-to-market election. Once you make this election, you are required to include in your ordinary income an amount equal to the excess, if any, of the fair market value of the PFIC stock as of the close of the tax year over the PFIC shareholder’s adjusted basis in such stock. The shareholder is allowed a deduction if there is a loss during the taxable year. However, such a deduction is limited by the lesser of:
- The excess, if any, of the adjusted basis of the PFIC stock over its fair market value as of the close of the tax year; or
- The excess, if any, of the amount of market-to-market gain included in the gross income of the PFIC shareholder for the prior tax year over the amount allowed such PFIC shareholder as a deduction for a loss with respect to such stock for previous tax years. Whether to make such an election, how to make such an election, and even when to make elections require careful analysis; if you would like to speak with a professional, contact us today.
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