As a US. citizen living abroad, there are many things financially you have to keep track of. Since the free flow of information is so much easier than in year’s past, the U.S. now keeps track of its citizen’s financial information abroad. Internationally, there are many rules and regulations expatriates must adhere to. You may have heard of FBAR, where you must notify the IRS of any foreign bank accounts which total $10,000 or more. Like FBAR, Passive Foreign Investment Companies (or PFICs) are foreign entities which must be reported to the IRS. This article speaks more about PFICs and how you must navigate them to adhere to IRS regulations.
What Constitutes a PFIC?
A PFIC (or a Passive Foreign Investment Company) is a foreign corporation which passes either the asset test or the income test. A company passes the asset test if 50% or more of its assets are held with the intention of producing passive income. A company passes the income test if 75% or more of the gross income of the company is passive income. Each US citizen who takes part in a PFIC must report their investment to the IRS.
At What Level of Involvement in a PFIC do you need to Report to the IRS?
If you are involved in a PFIC, you need to report it to the IRS. To do this you’ll have to file a form 8621. But what exactly constitutes “involvement”? Someone involved in a PFIC is either a direct or indirect shareholder. A direct owner is fairly straightforward. A direct owner owns stock in a PFIC. An indirect shareholder is a bit more complicated. If you yourself are a direct or indirect owner of a partnership, s-corporation, trust, or estate that is a shareholder of a PFIC, then this makes you an indirect shareholder. If you are a shareholder of a PFIC that is a shareholder of another PFIC, then this also constitutes indirect shareholder status. Lastly, if you are a 50% or more shareholder of a corporation that is not a PFIC, but owns stock of a PFIC, then that makes an indirect shareholder of that PFIC.
How do you Report PFIC Involvement to the IRS?
The form the IRS requires you to disclose your involvement in a PFIC on is form 8621, or Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund. On the surface, form 8621 sounds harmless. But according to the IRS, it can take up to 22 hours to fill out. Because of the length of the form, it’s recommended to have assistance when filling this form out. Speak to your financial advisor on the best route to take when filling this form out. In all, the IRS does not hold back on taxing PFICs. In some cases, PFICs can take up to 50% capital gains tax. That’s more than the highest tax rate in the US. Schedule a time with your financial advisor to sit down and discuss the best way to handle PFICs in your scenario.
—By Chris Gitre