Ep 26: What Is English For "PFIC"?
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In this episode, we discuss PFICs (Passive Foreign Investment Companies) and the dangers of investing in them.
We start by defining them with some examples and then discuss the tax compliance requirements and the potential penalties for non-compliance. We include financial planning considerations like foreign exchange and repatriation.
We explain why we want to get a detailed idea of any PFICs clients may have when we start working with them on financial planning or tax preparation.
Most of our clients /prospects are not aware that they have PFICs in their overseas portfolio.
We discuss ways of dealing with them, how to stay compliant or get rid of them, and also mention the particular case of those with work visas - who may want to keep the PFICs in their portfolio.
It's a fun discussion.
The speakers' views and opinions discussed in this episode should not be considered financial, tax, or legal advice. Consult your advisor for any legal, cross-border tax, and financial advice.
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Jane Mepham, CFP (00:01.835)
We're back with another shorty episode where in 10 minutes or less, we talk about a time in cross border finances and kind of just tell you what it is in common English. So in today's episode, we're going to talk about something called PIFIC. You may have heard of this. A PIFIC means Passive Foreign Investment Company. And we're kind of just, it's a very high level overview, talk about what it is and why you may or may
want to be invested in epiphany. So, what's
Manasa Nadig, EA (00:36.636)
A PFEK is a Passive Foreign Investment Company, which is actually a business or a corporation which is located abroad and exhibits either one of two conditions based on income or assets. The first condition is at least 75 % of the corporation's gross income is
that is derived from investments or other sources not related to regular business operations. And the second one is at least 50 % of the company's assets are investments which produce income in the form of earned interest, dividends, or capital gains. The Internal Revenue Service implemented these regulations on PFIX
in 1986 to prevent US taxpayers from deferring tax on passive income earned by entities organized in low tax jurisdictions. So that is a P -FAC. Jane, do you want to talk about some common examples?
Jane Mepham, CFP (01:56.075)
Absolutely. So when I look at clients or prospect statements, the things that kind of jump out at us a lot that are payfakes are typically foreign based or foreign registered mutual funds, as well as, you know, startup companies that unexpectedly fall within the scope of the payfake trap, which is why
would want to make sure we examine this to figure out whether they're PIFIX or not. And the biggest concern with PIFIX is one, typically they're outside the view of US financial planners, because most of us tend to be very US -focused based. You do need to include this in the plan. There are also a couple other issues with this, fees, foreign markets dependence, all that that we can deal with. But I think
biggest, biggest issue that we see is the punitive tax ramifications of how these things are treated by IRS. So Manasa, do you want to just go into some of this? This is squarely in your wheelhouse.
Manasa Nadig, EA (03:09.274)
Yeah, I know. boy, if I had a penny for every time I saw a P -Fake in a client's financial asset list. So yeah, speaking of punitive tax rules, it is really punitive, subject to section 1291's excess distribution regime. And what that is is something that we will talk about in a longer episode,
know enough that if you have P -Fix, then you as a US taxpayer would end up deferring taxes on excess distributions, but you could also accrue interest charges on... Yeah, no, no, no. This is wrong, Jane. I didn't say it right. Okay. You know what? I'll go
to the beginning from punitive tax rules. speaking, yeah.
Jane Mepham, CFP (04:13.981)
Okay. I just put in a markup. Okay, go for it. Go.
Manasa Nadig, EA (04:19.706)
Yeah. OK, cool. OK. So speaking of punitive tax rules, if I had a penny for every time I saw a PFIC in a client's financial asset list, that would be something. Suffice this to know that PFICs are subject to a Section 1291's excess distribution regime. And
This is something that I would advise you to work with a tax professional who is an expert in the international cross -border field. You should know that a PFIC is where the capital gains and the capital income is on which you pay taxes annually. You would
a QEF election or a QEF election or a mark to market election in order to determine what these taxes would be. The growth in your passive mutual funds or passive investments abroad would be ordinary income and capital losses cannot be recognized.
You should also think about what the tax ramifications are in the country where these mutual funds are based. All of this information is reported on form 8621, if this is applicable to you. There are some exemptions and exclusions, but that is something that you have to look at on an individual basis. And also know that if you did
include a form 8621 in your income tax return, then the statute of limitations does not even begin to run. So basically, your returns remains open indefinitely for the Internal Revenue Service to audit you. So those are some of the tax ramifications of having a PFIC. And also,
Manasa Nadig, EA (06:37.722)
You know, this is something that, like I said, you want to consider sitting down with a financial planner in the US, a tax professional in the US, as well as a financial planner where the, you know, the PFIX are based. And it is important to work with somebody to understand what the impact of this is on your overall portfolio.
Jane Mepham, CFP (07:03.867)
So one thing I know IRS talks about, do you want to talk about how long it takes to complete one of these forms? Do you remember what IRS says? How many hours?
Manasa Nadig, EA (07:16.622)
No, but I don't remember how many hours it takes just off the top of my head,
Jane Mepham, CFP (07:22.219)
think it was like over 20 hours per form. Yeah, yeah.
Manasa Nadig, EA (07:26.274)
really? I would say it definitely take much more than that because you have to put so much information together in order to do that. It's already, you know, coming back to the aspect of looking at this, not one size fits all. This may still be an option for you, depending on all of these factors that we just talked about.
Jane Mepham, CFP (07:30.933)
Yeah,
Jane Mepham, CFP (07:35.541)
Mm -hmm. Mm -hmm.
Manasa Nadig, EA (07:54.566)
So this is something a case -by -case basis if a PFIC is right for you. But we thought with this Shorty episode, we'll bring to you information if you did not ever have heard of this or you know about it but you wanted to learn more. So that kind of brings us to the end of today's Shorty episode. Thanks for stopping by and thanks for listening. Please visit our website.
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