7 Top PFIC Mistakes & Avoiding Unnecessary Reporting Problems

7 Top PFIC Mistakes to Avoid

When it comes to reporting foreign investment accounts to the IRS, two of the most common types of IRS or international information reporting forms are FBAR (FinCEN Form 114) and FATCA Form 8938 (Foreign Account Tax Compliance Act). But, another tax form that many taxpayers may have to file is Form 8621 which is used to report Passive Foreign Investment Companies (PFICs). Unfortunately, reporting PFIC can be a very complicated undertaking especially when Taxpayers have excess distribution calculations that need to be prepared. When it comes to PFICs, oftentimes US taxpayers have to file Form 8621 in a situation in which they have ownership of foreign pooled funds such as foreign mutual funds and ETF’s. Nevertheless, US Taxpayers may also qualify for various exceptions to avoid reporting (as well as should be aware of certain problems they may be able to sidestep if they are unable to avoid reporting). Here are seven top PFIC mistakes to avoid.

First-Year Fund Ownership Distribution

In order for there to be excess distributions in the current year, there must have been distributions in a prior year — so that current year distributions are considered ‘excess’ to prior year distributions. Thus, if the taxpayer only recently opened or invested in a PFIC, and it is the first year of the PFIC, then the distribution in the present year would not be considered an excess distribution — because the current year distribution is not in excess of any prior year distribution.

First Distribution, Non-First Year

Another important fact to remember is that it is not about it being just the first distribution of the fund, but rather the initial distribution year. In other words, if the Taxpayer opened a pooled fund several years ago for example, and this year is the first year that a dividend is being distributed — that would not qualify for the first year exception because the fund has been in existence and owned by the taxpayer for several years prior.

Late Election vs. Retroactivity and Purging

There are various elections that a taxpayer may be able to make such as the Mark To Market Election (MTM) and Qualified Electing Fund (QEF). If these elections are made in the first year that the PFIC filer is reporting the PFIC timely then it is (relatively) straightforward. Conversely, if the Taxpayer wants to make a late election then they typically also have to do a purging election which requires the excess distribution calculation for the years prior, up to the current year, before the MTM or QEF election can take effect. Some taxpayers may qualify for a retroactive election instead of a late election but there are several fiery hoops to jump through in order to make that happen — it is not easy and the IRS is not very sympathetic.

Treaty Country Exception

If the taxpayer owns PFICs in a pension with a foreign country in which the US has entered into a treaty with the country, the taxpayer may be able to avoid having to parse out each individual PFIC on a Form 8621.

FBAR vs Form 8938 vs PFIC

The PFIC reporting requirements will vary depending on which IRS Tax Form the taxpayer is reporting the PFIC on. For example, if the Taxpayer has an investment account with several foreign mutual funds in the account, each individual PFIC may not need to be reported for FBAR or Form 8938 purposes – but rather the total value of the account. When it comes to Form 8621 and the tax return, the Taxpayer will have to parse out each individual for form 8621 purposes in order to establish the basis/ownership for each fund.

Form 8621 is Required Even if No Tax Return is Needed

There is no tax return filing requirement when it comes to Form 8621. In other words, if a taxpayer meets the threshold for having to file a Form 8621, then form is required even if the taxpayer does not have to file a tax return.

$25,000/$50,000 Exception Limitations for Excess Distributions

There is an exception for having to file Form 8621 when the taxpayer has a relatively smaller ownership of PFIC (noting that there is some discrepancies between the language of the code/regulation and language of the instructions regarding if any portion of Form 8621 stills needs to be filed with respect to this exception). Nevertheless, if there are excess distributions in a year, then the taxpayer must still parse out each individual PFIC, and file form 8621 even if the total value is below the $25,000/$50,000 exemptions.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist that specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.