To help investors who file U.S. tax returns, RBC Global Asset Management Inc. (RBC GAM) will provide Passive Foreign Investment Company (PFIC) Annual Information Statements for more than 100 funds for the 2018 tax year. PFIC Annual Information Statements will be available March 2019.
The PFIC reports to be issued by RBC GAM will allow U.S. taxpayers to make an election to treat certain RBC GAM funds as Qualified Electing Funds (QEFs) on their U.S. tax returns. This election potentially allows U.S. investors access to capital gains tax rates on a portion of their holdings of these funds and prevents the application of certain amounts of tax deficiency interest.
Please note that the PFIC Annual Information Statements from RBC GAM will be made available at the fund level, rather than at the individual account level. To file a QEF election, investors will need the PFIC Annual Information Statement for each fund they own, plus their account statements for the appropriate tax year. U.S. investors in RBC GAM funds should consider seeking the help of a qualified U.S. tax professional for advice on the decision to make a QEF election for each fund held in 2018 and for assistance in preparing the required election and information reporting forms to include with their U.S. tax returns.
A PFIC is a “Passive Foreign Investment Company,” as defined under U.S. tax rules. In this context, “Passive” means that stocks and bonds are used to generate income and capital gains, rather than the operation of an active business. The “Foreign Investment Company” concept applies in this case because the U.S. Internal Revenue Service (IRS) classifies Canadian mutual fund trusts and mutual fund corporations as foreign corporations for U.S. tax purposes.
U.S. persons who own Canadian mutual funds will be affected by PFIC rules. U.S. persons include U.S. citizens, U.S. permanent residents (“Green Card” holders) and U.S. residents. U.S. persons are generally required to file a U.S. tax return even if they are residents of Canada or another country. Other Canadian residents with significant ties to the U.S. may also be required to file U.S. tax returns. To assess their status in this respect, investors should consult with a qualified U.S. tax professional.
PFIC rules are intended to prevent U.S. taxpayers from securing preferential tax treatment, such as tax deferral, from investing in foreign securities in comparison with U.S. domestic securities.
Each year, a U.S. person with an ownership interest in a PFIC must report each PFIC holding on a separate IRS Form 8621. On this form, taxpayers may, if they choose, make a Mark-to-Market election or a Qualified Electing Fund (QEF) election if these elections are available. There are also various supplementary elections that are beyond the scope of this discussion. Annual IRS Form 8621 reporting is required for each PFIC that is directly or indirectly owned by the U.S. person, regardless of which election is made.
Under the Mark-to-Market election, a U.S. person is treated as if the PFIC investment was sold on the last day of the tax year for fair market value and then repurchased. The amount of gain realized on this deemed sale is taxed as ordinary income. Under this election, there is no look-through to the transactions of the fund that could give rise to capital gains that could potentially qualify for favoured tax treatment.
Under the Qualified Electing Fund (QEF) election, a U.S. person is taxed on the pro-rata share of the mutual fund’s earned income for U.S. tax purposes, split between ordinary earnings that are taxed as ordinary income and net capital gains which are taxed as capital gains at potentially preferential rates. In this way, the QEF election allows U.S. persons to defer taxes on unrealized capital gains and to potentially receive more favourable tax treatment on their share of capital gains that were realized within the fund. Investors also receive an increase in their tax basis in units of the funds to correspond with amounts included in income under the QEF election.
The QEF election is frequently advantageous because it allows for more tax-efficient treatment of capital gains. The PFIC reporting from RBC GAM will provide investors with information required to file a QEF election. In certain situations, such as cases where units of a fund decline in value during a tax year, other elections may be more advantageous. Investors should consult with a qualified U.S. tax professional for guidance on which election is most advantageous for each fund, taking into account statutory restrictions on revoking elections in subsequent tax years.
If a U.S. person does not make either of these elections, the Excess Distribution Method applies. Under this method, gains recognized on disposition and certain distributions received from a PFIC are taxed as ordinary income. These amounts are also allocated back to prior tax years during the U.S. person’s holding period and are subjected to U.S. tax at the highest marginal rates in effect in those periods. In addition, tax deficiency interest is charged on the deemed unpaid tax amounts. In cases where the value of the PFIC has increased during the investor’s holding period, the Excess Distribution Method is frequently the most costly form of tax treatment for a PFIC.
The PFIC rules are expected to apply to PFICs held in non-registered accounts, as well as Tax-Free Savings Accounts (TFSAs), Registered Education Savings Plans (RESPs) and other non-retirement registered plans.
For PFICs held in retirement savings accounts such as Registered Retirement Savings Plans (RRSPs) and Registered Retirement Income Funds (RRIFs), the PFIC rules should not apply. RBC GAM suggests that investors consult with a qualified U.S. tax professional on this matter.
Our goal is to provide PFIC reporting on a wide range of funds in a cost effective manner. To accomplish this, RBC GAM will provide PFIC reporting on our largest and most widely held funds. Several smaller funds will also have PFIC reporting when those funds are held in larger fund-of-fund products or programs. This is because each underlying fund in a fund-of-fund investment must have PFIC reporting to allow for the top fund to provide PFIC reporting as well.
With PFIC reporting on more than 100 funds at RBC GAM, investors can choose from a wide range of options across investment strategies, asset classes and geographies. We are confident that investors seeking a PFIC solution will find ample opportunities at RBC GAM.
Recordkeeping systems from our internal and external service providers do not offer the ability to provide individual account level PFIC reporting. RBC GAM decided to offer PFIC reporting at the fund level so that investors will have all of the information that they would need to file the potentially more tax-efficient QEF elections for the 2018 tax year.
For each PFIC, your U.S. tax preparer will require the following: 1) the PFIC Annual Information Statement for the fund provided by RBC GAM and 2) your account statements for the tax year provided by your investment dealer.
The PFIC Annual Information Statement (AIS) will provide the pro-rata share of the fund’s ordinary earnings and net capital gains per unit per day.
To calculate your individual amounts for a QEF election, you will multiply the number of unit days you held the fund by the pro-rata amounts on the AIS.
To calculate the number of unit days, you will multiply the number of units held by the number of days those units were held for the tax year. For example, for an account that held 100 units of a fund for the full year (i.e. 365 days, there being 365 days in the 2018 tax year), the number of unit days would be 100 x 365 = 36,500. If those units were held for 180 days, the number of unit days would be 100 x 180 = 18,000. This value would then be multiplied by the pro-rata values on the AIS and reported on IRS Form 8621.
If the number of units changes over the course of the year, the unit days calculation should be adjusted accordingly. For example, consider an account that starts the year with 100 units then, 65 days into the year, another 100 units are purchased (increasing the total number of units to 200). If no other changes are made for the remaining 300 days of the year, the unit days calculation would be: (100 units x 65 days) + (200 units x 300 days) = 66,500 unit days.
For help with these calculations, RBC GAM suggests that investors consult with a qualified U.S. tax professional.