Redemptions of Foreign Mutual Funds & PFIC (8621) Tax Requirements
Redemptions for Foreign Mutual Funds: When a Foreign Mutual Fund is Redeemed, a U.S. Taxpayer may have to perform a PFIC Excess Distribution to assess U.S. tax requirements under 8621
This is complicated and dry material. We will try to make this digestible, by breaking it down into small pieces — and try not to chew too fast (like your Grandma taught you).
- 1 Redemptions of Foreign Mutual Funds
- 2 Foreign Mutual Funds are PFIC
- 3 There is No Minimum Foreign Mutual Fund Ownership requirement
- 4 PFIC and a “Box”
- 5 Redemptions and Foreign Mutual Fund PFIC
- 6 Why is this Taxable, Since I Purchased New Foreign Mutual Funds?
- 7 How is the Redemption Taxed?
- 8 Non-Compliance with U.S. Tax Law
- 9 What Can You Do?
- 10 Golding & Golding, A PLC
Redemptions of Foreign Mutual Funds
Redeeming foreign mutual funds may escape tax liability overseas (where they are not considered “foreign,”) but the IRS is not as kind.
Foreign Mutual Funds are PFIC
Foreign mutual funds are generally considered Passive Foreign Investment Companies (PFIC). Therefore, the foreign mutual fund receives PFIC tax treatment, which unfortunately is not a good thing.
Unlike other dividends and capital gains which may receive Qualified Dividend (“QD”) treatment or Long-Term Capital Gains “LTCG”) treatment, most distributions from a PFIC do not receive such preferential tax treatment (subject to excess distribution rules)
**PFIC rules are different for the first year ownership in a foreign mutual fund.
There is No Minimum Foreign Mutual Fund Ownership requirement
Unlike form 5471 or 8865, in which there are general minimum threshold ownership requirements or control required before a Taxpayer is required to report – you may still have to file a form 8621, even if you have fractional ownership – as is common with mutual funds.
PFIC and a “Box”
Understanding how taxes work with a PFIC this difficult stuff. Most tax software that consumers can purchase does not even include form 8621, never mind explain to you how to perform the calculations.
One way think about a PFIC is as a box. And, as long as none of the money is actually distributed out-of-the-box (absent CFC Subpart F cross-over rules and exceptions), the accrued, but non-distributed income is not taxed.
Taxation does not come into effect until the money leaves the box and generally results in what is called an excess distribution (especially for PFIC capital gains).
One example of calculating excess distribution is on the redemption of a Foreign Mutual Fund.
Redemptions and Foreign Mutual Fund PFIC
With a redemption, the shares are ‘redeemed.’ The company that issued the fund paid you to return the fund, and you no longer own the fund. Generally, the redemption includes all of the shares of a particular fund — but not always.
Why is this Taxable, Since I Purchased New Foreign Mutual Funds?
See it like this: You went to Home Depot and you purchased a box. When you are done with the box form Home Depot, they company agreed to repurchase the box from you. They gave you money in exchange for the box.
Then, you went ahead and purchased a new box.
Now you have a new fund and the clock on that fund would start again. Now, with the new fund, you may be able to take the proper elections, and/or plan to reduce your tax going forward.
How is the Redemption Taxed?
Chances are, it will be taxed as an excess distribution. Why? Because you did not receive any capital gain income to offset the excess distribution125% calculation (which is more applicable when funds are issuing annual dividends and/or capital gains, and may reduce the blow of an excess distribution).
For example, if you held the fund for nine (9)years and redeemed it in the ninth year, you may have to perform an excess distribution calculation for the capital gain received at redemption — for the nine years prior (presuming no capital gains was issued on the particular fund, and even then it may be considered dual-category even within the capital gains tax).
Non-Compliance with U.S. Tax Law
Whether it is because you did not you had to report foreign accounts, thought you were below the threshold for filing, did not realize non-bank accounts were required to be reported, and/or have other unreported income, accounts, investments or assets – we can help.
What Can You Do?
Presuming the money was from legal sources, your best options are either the Traditional IRS Voluntary Disclosure Program, or one of the Streamlined Offshore Disclosure Programs.
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