Passive foreign investment company (PFIC)

Passive income means dividends, interest, royalties, rents, annuities and gains on property that produces them. Passive assets are those that produce passive income, or are held to. A foreign fund set up as a company is a corporation for US tax. Its income and assets are almost all passive. So most foreign mutual funds, UCITS funds and ETFs organized outside the US are PFICs. A US fund is not a PFIC, even if it holds only foreign stocks.

The rules reach every US person who owns shares, however small the stake, unlike the CFC rules, which start at 10%. Shares that were ever PFIC stock in your hands generally stay that way, unless you elect a deemed sale.

An excess distribution is a year’s payouts above 125% of the average for the prior 3 years, or for a shorter holding period. Without an election, a gain on sale or an excess distribution is spread over the years you held the shares. The part for earlier PFIC years is taxed at each year’s top rate, plus interest. The rest is ordinary income. A qualified electing fund (QEF) election, or a mark-to-market election for marketable stock, replaces this with income each year. A QEF election works only if the fund sends you an annual information statement. Dividends from a PFIC do not get the qualified dividend rate.

Each PFIC generally needs its own Form 8621, filed with your return every year. A fund with no election is excepted when all your PFIC stock is worth $25,000 or less at year end. The limit is $50,000 on a joint return. It applies only in a year with no excess distribution or gain from the fund. PFIC stock held in an IRA or a 401(a) plan needs no Form 8621.