Form explained

PFICs and Form 8621: why foreign funds are a U.S. tax trap

Most mutual funds, ETFs and unit trusts based outside the U.S. are PFICs, or passive foreign investment companies, in the IRS's eyes. They come with harsh default tax rules and a form for each fund, every year. Here's how it works, and what you can do about it.

Reviewed by Lewis Grunfeld, CPA · 5 min read

Living outside the U.S.? Find your country's guide.

Usually a PFICForeign funds and ETFs

Form8621, one per fund

Filing exceptionUp to $25,000 ($50,000 joint)

Default taxTop rate plus interest

The short version

PFIC stands for passive foreign investment company. Most funds based outside the U.S. are one, including mutual funds, ETFs and unit trusts.
By default, gains and large distributions are spread over the years you held the fund, and the earlier years' shares are taxed at the top rate, plus interest.
Two elections, QEF and mark-to-market, can soften that, if the fund qualifies and you make them in time.
You usually file a Form 8621 for each fund, every year, with your tax return.

1What makes a fund a PFIC

A foreign company is a PFIC for any year in which either test is met:

Income test: 75% or more of its gross income is passive, such as dividends, interest and gains.
Asset test: 50% or more of its assets produce passive income, or are held to produce it.

Almost every fund based outside the U.S. meets one of them: mutual funds, ETFs, unit trusts and money market funds, and often the funds inside foreign insurance and savings products. A fund based in the U.S. isn't a PFIC, even if you bought it from abroad, and shares in an ordinary foreign operating company usually aren't either.

Where you live doesn't matter. Where the fund is based does.

2The three ways a PFIC is taxed

Method	How it works	Usual result
Default method (section 1291)	Gains when you sell, and large distributions (more than 125% of the average of the last three years), are spread back over the years you held the fund. Each year's share is taxed at that year's highest ordinary rate, plus interest.	Usually the most expensive
QEF election	You report your share of the fund's income and capital gains each year, and the gains keep capital gains rates. The fund has to give you an annual information statement.	Often the best, if the fund supports it
Mark-to-market election	Each year's rise in value is taxed as ordinary income, and falls are deductible up to earlier gains. Only for funds that count as marketable, such as many listed ETFs.	Simpler, but no capital gains rates

Say you put $20,000 into a foreign fund and sell it five years later for $30,000. Under the default method, the $10,000 gain is spread evenly over the five years. The parts that land in the earlier years are taxed at those years' top rate, 37%, plus interest, and the part for the year you sell is taxed as ordinary income. The same gain on a U.S. fund held that long would usually be a long-term capital gain, taxed at 0%, 15% or 20%.

The elections generally have to be made on time, normally with the first return that covers the fund. Late elections are sometimes possible, and we look at that case by case.

3When you file Form 8621

You generally file a separate Form 8621 for each PFIC, with your tax return, every year you own it. You don't have to file one for a fund taxed under the default method if both of these are true:

All your PFIC holdings together are worth $25,000 or less at the end of the year ($50,000 on a joint return).
You had no excess distribution from the fund and didn't sell any of it during the year.

Your fund accounts still count for the FBAR and Form 8938, which are separate filings.

4If you missed Form 8621

There's no fixed penalty for a missing Form 8621. The catch is that the statute of limitations on your whole return can stay open until you file it, so the IRS can come back to that year at any time.

Under the Streamlined procedures we include a Form 8621 for each fund in the years you file, with the PFIC tax worked out correctly, so those years can close normally. If you live in the U.S. and file under the domestic version, funds that weren't reported properly also count toward the 5% penalty. How that penalty is calculated.

Not sure which catch-up route fits? See every IRS option, compared.

5What to do with your funds

Switch to U.S.-based funds, if a broker will let you buy them from where you live.
Hold individual shares or bonds, which aren't PFICs.
Keep the fund and make an election going forward, if the fund provides a QEF statement or counts as marketable.
Sell, once we've run the numbers. Selling under the default method can be costly, and your country may tax the sale too.

Brokers in many countries, including most of the EU, can't sell U.S. funds to local retail investors. Check before you plan around it.

Guides by country

Local accounts, pensions and tax treaties change how these rules play out. Each guide below covers them for one country, with its tax year and filing dates.

Live somewhere else? We help there too.

Common questions

Is my pension a PFIC?

Usually not by itself. Funds held inside some foreign pensions can be, depending on how the pension is treated for U.S. purposes, and the rules aren't settled for many plans. We look at yours.

I bought a foreign fund through a U.S. broker. Is it still a PFIC?

Yes. It's where the fund is based that counts, not where you bought it.

I've never filed U.S. taxes. Do the PFIC rules still apply?

Yes. When you catch up, each fund usually needs a Form 8621 for the years you file, with its PFIC tax worked out. It's one more reason to catch up properly rather than piecemeal. Where to start if you've never filed.

What does PFIC reporting cost with you?

$100 per fund, per year, on top of the package. See our pricing.

Holding foreign funds? We'll show you the U.S. cost.

Answer 3 quick questions and our tax team will review your situation for free.

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Reviewed by Lewis Grunfeld, CPA. General information, not advice for your specific situation.