A passive foreign investment company (PFIC) is a U.S. federal tax classification for certain foreign corporations.
A PFIC is a foreign corporation in which 75 percent or more of the gross income for the taxable year is passive income, or the average percentage of assets held by such corporation during the taxable year that produce passive income or are held for the production of passive income is at least 50 percent.1
Passive income for purposes of the PFIC test will generally include any kind of portfolio income. Passive income includes any income that would be foreign personal holding company income (FPHCI) under IRC Section 954(c).2 FPHCI includes dividends, interest, royalties, rents, annuities, capital gains, capital losses, commodity transactions, foreign currency gains and losses, income from notional principal contracts, and personal service contracts.
Taxation of PFICs for U.S. Shareholders
When a U.S. person owns stock in a PFIC, special reporting requirements and tax rules apply to those investments. A U.S. person with a PFIC investment must generally file Form 8621 (Information Return by a Shareholder of a PFIC or QEF) with their annual U.S. tax return.
Under the default rules, a U.S. shareholder’s PFIC investment is subject to the excess distribution tax rules under IRC Section 1291. However, a shareholder may make an election to treat the PFIC as a qualified electing fund (QEF) under Section 1293. Under certain circumstances, the shareholder may also be eligible to make a Mark to Market Election under Section 1296.
Example PFIC Scenario
On January 1, 2023, John Doe invested $500,000 cash in Fund ABC Ltd., a limited company (Ltd) formed in the Cayman Islands. Fund ABC Ltd. is an investment fund that invests primarily in common stocks and corporate bonds.
In 2023, the investment fund had approximately $25,000,000 in capital contributions from 65 different investors and generated $1,625,000 of gross income, which consisted of interest, dividends, foreign currency gains and losses, capital gains, and capital losses.
Given that more than 75% of the fund’s gross income consisted of FPHCI, the foreign corporation is a PFIC for U.S. federal tax purposes. John must report the details of his PFIC investment on Form 8621.
Sample Form 8621 Tutorials for QEF and MTM Elections
Check here for a video tutorial on how to prepare Form 8621 for a QEF election for a PFIC.
Check here for a video tutorial on how to prepare Form 8621 with a mark-to-market (MTM) election for a PFIC.
Additional Information
Taxpayers seeking more information on PFICs can review the IRS Form 8621 instructions on the IRS website.