PFIC Excess Distribution regime (Section 1291 Fund) – Form 8621 line by line 1

We’ve see the basics of PFIC taxation in post Passive Foreign Investment Companies (PFIC) and Canadian mutual funds, although truth being told, it applies to PFICs anywhere, now let’s dig in –

Let the brain damage begin

PFIC excess distribution

PFIC Tax Samurai – Section 1291 is nothing compared to my daisho

The scenario is that John Doe (SSN: 000-00-0000). He bought share of the Safe Investment Inc, a PFIC on January 1, 2012 at 1,000 USD to be sold on April 15, 2014 for 1,100 USD, no other income (interest/dividends) from this investment.

Here we go:

Since we are in Excess Distribution world, we are filing the 2014 edition of form 8621, prior years 8621 were not needed as clarified by regulations T.D. 9650 & REG-140974-11, issued on December 30, 2013: One would not have to file rorm 8621 if 1) their investment in PFIC is less than $25,000 ($50,000 per couple if married-filing-jointly) and 2) they do not elect to be taxed under a PFIC regime (which is our case – excess distribution is the default)

 

The first section is the identification of the taxpayer – John Doe

8621-first-section-ed

The first section is the identification of the PFIC – Safe Investment Inc

8621-second-section-ed

The Employer Identification Number is most likely “Not Applicable” (unless the PFIC has an EIN).

The Reference ID Number can be pretty much anything alphanumeric up to 50 characters no space. Have fun here, but stay consistent when describing the PFIC in the future or in other forms calling for a Reference ID Number.

The tax year of the PFIC is most likely Jan 1 thru Dec 31 2014

 

8621-part-I-ed

Part I describes the shares

 

Question 3: 0

Question 4: (a) $0 – 50,000

Question 5: The amount included under 1291 is $100

 

8621-part-II-ed

Part II would be to make elections. Excess distribution being the default regime, no election is to made. Part II would be left blank – It’s not November 😉

 

Part III would be left blank.  It would only apply if you had made a Qualified Electing Fund election.  Under the scenario we’re using here, we did not.

 

Part IV would be left blank.  It would only apply if you had made a Mark-to-Market election.  Again, under the scenario we’re using here, we did not. Dude, it’s not November, why do you keep on talking about elections 😉

 

8621-part-V-ed

Part V is where the computation of your tax takes place, let the fun begin

 

Question 15a: That would be $100 (in our case, the distribution is the proceeds from the sale (in excess of basis), but that’s also where you would enter any dividend or interest you may receive from the PFIC)

Question 15b: That would be $0 (no dividend or interest was paid in prior years, they ask that to get the 125%, in this case all excess distribution (what normal people would call capital gains in this case) will be taxable since 125% of zero = zero)

Question 15c: That would be $0 (Told you it would be fun, so here you go, zero divided by three equals zero)

Question 15d: That would be $0 (The fun continues 0 X 1.25 = 0)

Question 15e: That would be $100

Question 15f: That would be $100 (Gain on the sale of the stock, an excess distribution under the PFIC regime)

 

Question 16a: See statement to attach to return Statement for 8621 – sec 1291 (the numbers in the following lines come from the Excel file – please refer to that file to see how they’re computed)

Question 16b: That would be $4.97 (see Excel file for details)

Question 16c: That would be $32.61 (see Excel file for details)

Question 16d: For this example, I’ll assume that we don’t have any foreign tax credit to use, which is a shame because I like FTC.

Question 16e: That would be $32.61

Question 16f: That would be $1.23

 

Part VI would be left blank. We did not (previously) make an election to extend time to pay tax.

 

Now, the $4.97 is going to line 21 (“other income”) of the 1040, which can then be offset by anything lot of stuff like the adjustment to AGI (educator’s expense, then the standard/itemized deductions, personal exemptions, FTC from other passive income…). Whereas the $32.61 +$1.23 = $33.84 would be reported as an additional tax and can not be offset by anything (other than FTC for tax paid for that specific PFIC transaction, which would have been line 16d).
This will then flow to the 1040 : The $32.61 of tax (section 1291 tax to be specific) goes to line 44, with “1291TAX” in the space provided. Line 16f (the $1.23) is interest charged for the net increase in tax, and flows to Line 60c, Form 1040, with the notation “1291INT”.

 

Also, remember that as the song goes “Once a PFIC, always a PFIC”. Not a song? Well it was a song in my head.

So, if you invest in a biotech company at early stages for instance, well it will do research (R&D expenses), but all its income will come from interest/dividends from the cash/investments it set aside. Likewise, its balance sheet will be investments it has to fund the research = it’s a PFIC, and always will be (for you and for the shares you bought at early stages, other persons and shares bought after patent was discovered, drugs were sold… would be treated differenty, provided the corporation no longer meets the PFIC asset not income tests)

One comment on “PFIC Excess Distribution regime (Section 1291 Fund) – Form 8621 line by line

  1. Reply B Chin Mar 26,2015 10:32 pm

    I have seem considerable direct contradiction between various accounting websites about whether capital losses resulting from actual (as opposed to “deemed”) sales of section 1291 funds may be declared on Schedule D.

    Evidence that such losses go on schedule D:

    0) Some accountant’s websites say so.
    1) I have carefully examined the text of IRC 1291-1298, and I can so NO INDICATION that losses for actual sales (as opposed to “deemed” sales) are not deductable on schedule D.
    2) I have carefully examined the text of the corresponding treasury regulations (1-1291 to 1-1298) and found NO INDICATION otherwise.
    3) There is no statement to the contrary in the instructions of form 8621.
    4) There is no statement to the contrary in the instructions for form 1040, the instructions for form 1040 schedule D, or in publication 550.

    Evidence that such losses do not go on schedule D:
    1) A number of accountant’s websites directly claim this, although none that I have found gives a definitive source from the IRC, CFR, or instructions to form 8616.

    Note that it is clear that if you make a “deemed sale” at a loss (in order to make your shares into a PEDIGREED QEF) that the basis of such shares does not change. Since you will be able to take a loss if you later make an actual sale of those shares, it wouldn’t make any sense that you could declare a loss on a “deemed sale”, and indeed it is expressly forbidden. But since nowhere do I see any prohibition otherwise (except on unsourced accountant’s websites) I must assume that the first camp is correct: Losses go on schedule D.

    I spent a number of days checking on this, it was not some half-hazard effort.

    However, what remains confusing is Line 15f on form 8621. As I read the CFR and section 1291 of the IRC, the tax on gains of each lot of shares sold must be computed separately, in order to properly compute the interest on back-dated pro rata deemed gains. In particular, in years when you sell some shares at a gain and some shares at a loss, line 15f should be two numbers (for the loss and the gain) instead of one. Furthermore, the computation in line 16 of the tax on the gains should be done if the gain number is positive.

    But this is contrary to the instructions of 8621.

    Do the instructions of 8621 fail to properly implement the CFR in such an example, or am I missing something???

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