PFIC Annual Information Statements

PFIC Annual Information Statements

Are you considered a U.S. person?

For U.S. tax purposes, a Canadian mutual fund can be considered a Passive Foreign Investment Company (PFIC). If you’re considered a ‘U.S. Person’ under U.S. tax law and invest in a Canadian mutual fund through a TFSA, RESP or non-registered account, you may be subject to the PFIC U.S. tax rules. Usually RRSPs and RRIFs plans are not subject to PFIC rules; however, it’s advisable that you speak to a U.S. tax advisor on your specific facts and situation.

Generally, a U.S. Person who is treated as holding shares in a PFIC are required to report their PFIC investment to the IRS. The default method of reporting is the Excess Distribution Method. Alternatively, a U.S. Person can either elect to use the Mark-to-Market Method with respect to marketable stock or make a Qualified Electing Fund (QEF) election with their annual income tax return on Form 8621, Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund.

What we’re doing to help

This tax season, Franklin Templeton will provide PFIC Annual Information Statements for over 30 of its mutual funds. These statements will be available by late March 2018, and can be used by U.S. Persons to help report their PFIC if they make a QEF election.

Franklin Templeton Canadian Large Cap Fund

PDF

Templeton Asian Growth Fund

PDF

Templeton Frontier Markets Fund

PDF

Other Considerations

Please note that the QEF election is only one of three methods available to U.S. investors to accurately report their PFIC investments to the IRS.

If you hold a fund that isn’t listed here, you may consider using the Mark-to-Market Election or the Excess Distribution Method, both of which are described in more detail in our Frequently Asked Questions and the IRS website. The tax rules regarding PFICs can be complex, and we recommend you consult with a U.S. tax advisor if you are a U.S. person investing in a PFIC.

 

Frequently Asked Questions

1. Who are U.S. persons?

Generally, a “U.S. person” is considered to include:

  • U.S. citizens
  • U.S. residents
  • U.S. permanent residents (i.e., “green card” holders
  • Certain entities that are treated as U.S. residents (e.g. corporations, etc.)

2. What is a PFIC?

As defined under U.S. tax rules, a PFIC is a non-U.S. corporation that meets either one of the two tests described below:

  1. Income test. 75% or more of the corporation's gross income for its taxable year is passive income. In this context, this would include investment income like dividends, interest, passive rents or royalties.
  2. Asset test. At least 50% of the average fair market value of the assets held by the corporation during the taxable year are assets that produce passive income or that are held for the production of passive income.

It is generally accepted market practice that Canadian mutual funds and exchange traded funds should be considered “corporations” for U.S. tax purposes. As such, they meet the definition of a non-U.S. corporation and are subject to the PFIC rules.

3. Why do PFIC rules exist?

The PFIC rules were enacted to help prevent potential U.S. tax deferral opportunities that may be obtained when U.S. Persons invest in non-U.S. investment vehicles (for example, non-U.S. mutual funds) that are not subject to current U.S. taxation rather than in U.S. investment funds that are generally subject to current U.S. taxation on their earning and profits.

4. How is PFIC income reported by a U.S. person?

U.S. persons holding investments in Canadian mutual fund trusts that are treated as PFIC are required to report their income or gains from this holding by using either the default “Excess Distribution” method or by making either a QEF election or a mark-to-market election (the latter is only available with respect to marketable securities).

To the extent a QEF election is timely made, the U.S. Person making the election is required to annually file a separate Form 8621, Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund, for each PFIC held within the tax year. For more details on any of these methods and on the requirements to file form 8621 if a method other than the QEF election is followed, please see the IRS website and/or consult with a U.S. tax advisor.

5. How is PFIC income calculated?

As noted above, two elections are available to holders of PFIC securities, the mark-to-market election or the qualified electing fund election; however, if neither of these elections are made, then the PFIC is considered a “Section 1291 Fund” and subject to special rules when there is an excess distributions and/or gain on the sale/disposition of the stock. Each of these methods is briefly described below. For more details on any of these methods, please see the IRS website and/or consult with a U.S. tax advisor.

“Section 1291 Fund” / Excess distribution – Default Method

If the U.S. person chooses not to make any PFIC elections, a Canadian mutual fund that is classified as a PFIC will be treated as a “Section 1291 Fund” and the excess distribution and deferred interest charge treatment will apply. Excess distributions potentially result in additional ordinary income and interest charges to the shareholder. To determine what is considered an “excess distribution,” calculations based on past and present distributions received must be analyzed. All capital gain from the disposition of a Section 1291 fund is considered an excess distribution. The rules surrounding this method are complex. If this treatment may be required, please see the IRS website and/or consult with a U.S. tax advisor.

MARK-TO-MARKET (MTM) – Election

Income recognition: If the Canadian mutual fund is a “marketable security”, then the U.S. Person may elect to follow the mark-to-market method under IRC Section 1296 for income recognition. In general, this requires the U.S. Person to include any appreciation as ordinary income in the PFIC investment, and any depreciation as ordinary loss year over year. The ordinary loss is limited to the extent of prior income inclusions (i.e. prior appreciation taken in as ordinary income). This analysis is done at the tax lot level. Upon the sale or disposition of the PFIC, the U.S. Person must treat gain as ordinary income and loss as ordinary loss. The loss is treated as ordinary loss only to the extent of prior income inclusions. Any excess is treated as capital loss.

Basis adjustments: The U.S. person’s adjusted basis in the PFIC investment is increased by the amount included in income, and decreased by any deductions allowed under these mark-to-market rules due to depreciation in the value of the PFIC

Election timing: The election should be made in the first year of holding the PFIC. If this is not done, then you may want to consult a U.S. tax advisor on the appropriate treatment.

QUALIFIED ELECTING FUND (QEF) – Election

Income recognition: If an election to follow the QEF method is selected by the shareholder, then the shareholder of the QEF must annually include in gross income as ordinary income its pro rata share of the ordinary earnings and as long-term capital gain its pro-rata share of the net capital gain of the QEF. No portion of the ordinary income should be treated as “qualified dividend income” for U.S. tax purposes.

Basis Adjustments: A shareholder’s basis in the stock of the QEF is increased by the earnings included in gross income and decreased by the distributions from the QEF to the extent of previously taxed amounts. Gain or loss realized on a sale or disposition is treated as capital gain or loss.

Election timing: The election should be made in the first year of holding the PFIC. If this is not done, certain mitigation options may be available. To understand these options better, refer to the IRS website and/or consult a U.S. tax advisor on the best option.

6. Which method is right for you?

Generally, the QEF method for calculating and reporting PFIC income to U.S. tax authorities most closely aligns with the distributions of the Canadian mutual fund and may be viewed as the most beneficial to the shareholder. However, to determine which method is right for you, a U.S. tax advisor should be consulted.

7. How is the QEF Election made?

A U.S. Person may make the QEF election by checking the appropriate box on Form 8621 (Election to Treat the PFIC as a QEF) and providing the required information. A separate election must be made for each PFIC held that the U.S. Person wants to treat as a QEF. This election must be made by the due date, including extensions if applicable, of the U.S. federal income tax return for the first taxable year to which the election will apply. Certain exceptions do exist if the election is not made in the first year of the PFIC holdings. The IRS website and/or a U.S. tax advisor may be consulted for additional information on this scenario.

8. What is the purpose of the PFIC Annual Information Statement?

The PFIC Annual Information Statement enables U.S. Persons who have made a QEF election to compute their pro-rata share of PFIC ordinary earnings and net capital gains, if any, attributable to their investment in the fund.

9. What type of information will be included in the PFIC Annual Information Statement?

The PFIC Annual Information Statement will include per series — per unit — per day calculations of PFIC ordinary earnings and net capital gains that can be used to determine the shareholder’s pro-rata inclusion of PFIC taxable income. It will also include a summary of distributions paid during the taxable year of the PFIC. This information can be used to calculate the shareholder’s ordinary earnings and net capital gains, which can then be reported on Form 8621 and included in the U.S. Holder’s U.S. income tax return.

10. How do I calculate the account level amount of taxable income and capital gains under the QEF method?

When using the QEF method for calculating PFIC taxable income and capital gains, the information listed below is needed:

  • PFIC Annual Information Statement (provided by Franklin Templeton for designated funds)
  • Account statements for the tax year provided by your investment dealer

With this information, you or your tax professional, can determine the number of days the units were held by reviewing your purchases and sales within the year, and then with the PFIC Annual Information Statement, your pro-rata share of PFIC ordinary earnings and net capital gains can be calculated.

Example #1

A shareholder reviews his accounts statements for the tax year and determines that he held 1,000 units of Franklin Templeton Fund A, Series A (“Fund A, Series A”) for the entire tax year. Fund A, Series A had $0.0005 of PFIC ordinary earnings earned per series — per unit — per day, and $0.0003 of PFIC net capital gains earned per series — per unit — per day. Based on this, the annual ordinary income is calculated by multiplying units held x days held x ordinary earnings rate (1,000 x 365 x 0.0005) for a total of $182.50. Likewise, the annual net capital gain income is calculated by multiplying the Units held x days held x net capital gains rate (1,000 x 365 x 0.0003) for a total of $109.50. Both the annual ordinary earnings of $182.50 and net capital gains of $109.50 are reported on Form 8621.

Example #2

If, instead, the shareholder noted above only held 1,000 shares of Fund A, Series A for 180 days in the tax year, the calculation instead would be 1,000 x 180 x 0.0005 to calculate annual ordinary earnings and 1,000 x 180 x 0.0003 to calculate annual net capital gains.

Example #3

Lastly, if the shareholder noted above had multiple buy and sale transactions during the year in Fund A, Series A that caused the units held to fluctuate, the calculation would need to be modified accordingly. For example, if the shareholder started the tax year with 1,000 shares, but then later executed two additional trades; the first trade a purchase of 250 shares on October 31st, and the second trade a sale of 100 shares on November 30th then the calculation would be [(1,000 x 304) + (1,250 x 30) + (1,150 x 31)] x 0.0005 for reportable ordinary earnings of $188.58.

In this calculation, the fund held:

  • 1,000 shares for 304 days (original shares of 1,000; held from January 1 to October 31)
  • 1,250 shares for 30 days (original shares of 1,000 increased by the buy of 250 shares; held from November 1 to November 30)
  • 1,150 shares for 31 days (1,250 shares decreased by the sale of 100 shares; held from December 1 to December 31)

Applying this same calculation to the annual net capital gains, the shareholder would have reportable net capital gain of $113.15. Both the annual ordinary earnings of $188.58 and net capital gain of $113.15 are reported on Form 8621 as QEF income.

This calculation and preparation of Form 8621 is repeated for each PFIC (or Canadian mutual fund) held.

For help with these calculations, Franklin Templeton recommends that shareholders consult with a U.S. tax advisor.

11. What if there is no PFIC Annual Information Statement for a Canadian mutual fund needed?

If a U.S. Person owns a Canadian mutual fund during the tax year for which no PFIC Annual Information Statement is provided, then the U.S. Person may elect to follow the mark-to-market method or follow the default Section 1291 / Excessive Distribution method. We recommend consulting a U.S. tax advisor on the best method for you.

12. How should a PFIC be reported for a mutual fund with a fund-of-funds structure?

A mutual fund that invests in other Franklin Templeton Canadian mutual funds is referred to as a “fund-of-funds.” If you invest in this type of mutual fund, a separate Form 8621 must be filed for each of the underlying mutual funds as well as the top-level (parent) mutual fund. Franklin Templeton will provide a single PFIC Annual Information Statement for this type of mutual fund that includes all required information for the underlying funds, so the shareholder may file the necessary 8621 forms.

Any U.S. federal tax information contained on this site (including any attachments) is not intended to promote, market, or recommend to another party any transaction or matter addressed herein. This information should not be construed to be legal or tax advice. Please consult your own legal or U.S. tax advisor.