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New Reporting Rules for Foreign Mutual Fund (PFIC) Owners

The position of the IRS is that all non U.S. mutual funds are considered to be PFICs unless they are formed not by a foreign corporation buy instead by a foreign trust, which is unlikely (but if it was a trust you may need to file Form 3520) that accumulated within the foreign mutual fund on their Schedule B of their income tax return, reported the Mutual Fund on their FBAR and that was all was required. However once the Foreign Account Tax Compliance Act (FATCA) was passed in 2010, these and other specified foreign financial assets needed to be reported on Form 8938. Also, pursuant to Section 521 of the Hiring Incentives to Restore Employment (HIRE) Act, not only was FATCA enacted, a new provision to the Internal Revenue Code was added, Section 1298(f) which modified the rules regarding who must file Form 8921 to include any U.S. person (as defined by the Code), regardless of the type of return that they filed, who had a financial interest in a foreign mutual fund. This means if you purchased even one unit of a foreign mutual fund that you need to file Form 8621 beginning with the 2012 filing (I am assuming that the final revised Form 8621 will be available for filing for 2012 tax returns as the draft has been ready for some time now). The other thing that I need to point out is that the Form 8621 will be required to be included with the U.S. income tax return for each and every year and will be die with the filing of the income tax return. It is expected that the IRS will require that these returns to be filed at a special IRS processing center rather than the normal filing center where one would customarily file their tax return, especially in the year that an election is made (see below).

The PFIC rules are complicated and I will not go into detail as to how they work other than to say that they are financially punitive. They were originally created as part of the Tax Reform Act of 1986 as a means to discourage U.S. persons from sheltering assets offshore. The two main elections that are available to avoid PFIC taxation are the Qualified Election Fund (QEF) election, and the Mark to market elections, both designed to currently tax the inside profits within the offshore mutual fund. The type of election to be made will depend on the facts and circumstances of the individual taxpayer.

The bottom line is, regardless of if you are an individual who is a U.S. resident filer due to citizenship, legal permanent residence (Green Card) or meet the substantial presence test (even if you file a Form 1040NR due to a treaty provision overruling the U.S. residency requirements, or a U.S. business entity; if you hold an investment in a foreign mutual fund you will most likely need to file Form 8621 and consider the tax consequences of  having an investment in a PFIC and if an election to remove the PFIC tax taint is appropriate and if so, which election is best.


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