IRS to Amend PFIC Regulations to Eliminate PFIC Ownership through Tax-Exempt Organizations and Accounts

The IRS has announced that it will amend recently issued Temporary Regulations to make clear that U.S. persons that own stock of a Passive Foreign Investment Company ("PFIC") through a tax-exempt organization or account are not "shareholders" of the PFIC. Section 1291 of the Code imposes a special tax and interest charge on a U.S. person that is a shareholder of a PFIC that receives an "excess distribution" or recognizes gain from the sale or other disposition of PFIC stock. A non-U.S. corporation is a PFIC if either 75% or more of its gross income is passive or 50% or more of its assets are held for the production of passive income. PFICs include non-U.S. mutual funds and non-U.S. hedge funds that are treated as corporations for U.S. tax purposes.

Temporary Regulations issued in December 2013 exempted certain tax-exempt entities from the PFIC rules and filings in most instances, but suggested that a U.S. person that is a beneficiary of, or has an interest in, the tax-exempt entity or tax-exempt account was an indirect PFIC shareholder even if such U.S. person did not receive any distributions from the tax-exempt entity. Direct and indirect U.S. shareholders of PFICs are required to file Form 8621 annually with their income tax return to report their interests in a PFIC commencing for tax year 2013. In Notice 2014-28, the IRS stated that it believed that the application of the PFIC rules to a U.S. person treated as owning stock of a PFIC through a tax-exempt organization or account "would be inconsistent with the tax policies underlying the PFIC rules and the tax provisions applicable to tax exempt organizations and accounts." Prior to the Notice, for example, a U.S. person who held an interest in a PFIC through an IRA would have been required to file Form 8621 with respect to such indirect interest for calendar year 2013.

The change in the regulations, which will be retroactive to tax year 2013, applies to stock owned through any organization exempt from tax under Section 501(a) of the Internal Revenue Code because it is described in Sections 501(c), 501(d) or 401(a) of the Code. The Notice also applies to stock held through Section 403(b) and 457(b) plans, individual retirement accounts, and qualified tuition programs described in Section 529 or 530 of the Code. The change apparently does not apply to stock held through a charitable remainder trust, since such trusts are exempt under Section 664 of the Code rather than Section 501(a).

See: Notice 2014-28.See generally: Cabinet FATCA Materials (for Cabinet subscribers only).For more information, please contact Daniel Mulcahy and Mark Howe.