I mean that American taxpayers (including green card holders, citizens and those that trigger substantial presence in the US) remain subject to US tax rules even though they –
a. No longer reside on US soil
b. Acquire a second residence such as residence in Portugal through the Golden Visa
c. Acquire a second citizenship such as Portugal citizenship.
The US tax rules include complex reporting and calculations around offshore investments. Here’s a brief introduction to the 3 main anti-deferral rules that Americans investing offshore need to navigate with their advisors.
Firstly, the 1960s saw the introduction of the Subpart F regime. It served to prevent the deferral of US income taxes on certain types of income earned by Controlled Foreign Corporations (CFCs). CFCs, as the name implies are foreign companies owned or controlled by US taxpayers.
Secondly, the 1980s saw the introduction of the PFIC regime. PFIC stands for Passive Foreign Investment Companies and would arise where US taxpayers invest in offshore structures that derive 75% or more of gross income as passive income. Alternatively, under the asset test, a foreign corporation is a PFIC if 50% or more of the average value of its assets consists of assets that would produce passive income.
Thirdly, 2017 saw the creation of the Tax Cuts and Jobs Act (TCJA). One of the foremost areas of change under the tax reform was the introduction of the global intangible low-taxed income (GILTI) regime, containing a new set of anti-deferral rules that apply to CFCs.
These rules may appear intimidating at first, but compliance can be made easy. When it comes to PFICs specifically, the QEF or Qualified Electing Fund election under section 1295 provides an optional method of taxation available for certain PFICs. This election most closely mirrors the US taxation of US mutual funds and allows for capital gains treatment of some of the income.
In order for a PFIC investment to allow for QEF treatment by the shareholders it must
a. Maintain books under IRS acceptable accounting procedures and compute gain, loss and income each year using those same principles.
b. Provide a “PFIC Annual Information Statement” to its investor’s each year providing not only the amount of income to include on Form 8621 but other specific required attestations.
Essentially a Qualified Electing Fund looks like a partnership where the income retains its character and is reported by the shareholder each year (whether they receive it or not). Note that losses will not flow through to the investor during the period of ownership, they are simply disregarded or put on hold. So this can create cash flow issues as taxpayers are taxed on phantom income (i.e. unrealized income). However, it is possible to make a section 1294 election to defer paying these taxes on certain phantom income.
Key takeaway – speak with a US qualified advisor who’s comfortable with international tax matters.
By Derren Joseph at www.htj.tax