Brief Comparisons of PFICs (Passive Foreign Companies ) Versus CFCs(Controlled Foreign Companies)

Please find the above tabular format brief comparison of how different a Passive Incomes company overall operates as opposed to its counterpart of a Controlled Foreign Company.

Tax Treatments for both kinds are mentioned therein.

Form 8621 is three-pages and requires the U.S. shareholder to provide the following information:

• Statement of annual information. This part of Form 8621 requires information with respect to all shares of the PFIC held by the U.S. shareholder filing Form 8621. It requires information on the classes of shares of the PFIC, date the shares were acquired, and the value of the shares, as well as other information.
• Elections. The U.S. shareholder has the option to make certain elections, which may be beneficial to avoid certain negative tax consequences, on Form 8621.
• Income from a Qualified Electing Fund (QEF). U.S. shareholders who elect to have the PFIC taxed as a Qualifying Electing Fund (QEF) complete Part III with the income details of the QEF for the reporting period.
• Gain or loss from Market-to-Market Election. Filers who elect on Form 8621 to have the Mark-to-Market rules apply to the PFIC, report the gain or loss in Part IV of Form 8621.
• Distributions from and dispositions of stock of a Section 1291 fund. Filers of Form 8621 who do not elect to have the PFIC taxed under the QEF or Mark-to-Market rules, report the distributions from and dispositions of stock of the PFIC in Part V of Form 8621.

Specific penalties are not imposed for failure to file Form 8621, unlike the burden of penalties and sanctions imposed by the Foreign Account Tax Compliance Act (“FATCA”). However, regulations coordinate the filing of this form with requirements in the filing of other forms such as the Form 8938 (individual FATCA reporting requirement). U.S. individuals are required to disclose any directly held foreign assets on Form 8938. Exception to this requirement applies to all foreign financial assets the person reports in certain international reporting forms such as Form 8621.

Form 5471 requires the U.S. Person to provide the following information:

• Stock of the Foreign Corporation. Form 5471 requires Filers to provide a description of each class of stock, as well as the number of issued and outstanding shares throughout the accounting period for each class of stock.
• U.S. shareholders of foreign corporations. Form 5471 requires Filers to provide the name, address and identifying number of each U.S. shareholder. For each U.S. shareholder, the Filer must provide a description of each class of stock held by the U.S. shareholder and number of shares held throughout the accounting period.
• Income statement. Form 5471 requires the Filer to provide an income statement in the foreign corporation’s functional currency and in accordance with U.S. Generally Accepted Accounting Principles (GAAP).
• Income, war profits, and excess profits taxes paid or accrued. Form 5471 requires the Filer to provide the name of each country where income, war profits, and excess profits taxes were paid or accrued during the tax year being reported. This information is used in calculating current earnings and profits on Form 5471.
• Balance sheet. Form 5471 requires the Filer to provide a balance sheet for the foreign corporation, including information about assets, liabilities, and shareholder’s equity. The balance sheet is required to be in U.S. dollars and prepared in accordance with U.S. GAAP.
• Current earnings and profits. Form 5471 requires Filers to compute earnings and profits using the foreign corporation’s functional currency. The starting point is net income which is adjusted by certain items as provided in Schedule H of Form 5471 to arrive at current earnings and profits for the period being reported.
• Summary of shareholder’s income from foreign corporation. Form 5471 requires the Filer to complete a Schedule I for each U.S. shareholder of the foreign corporation summarizing the U.S. shareholder’s proportional share of certain income items (i.e., subpart F income) of the foreign corporation. Form 5471 also requires the Filer to furnish each U.S. shareholder with Schedule I.

Form 5471 is used to report ownership interest in foreign corporations. Just to make Form 5471 more interesting, there are four categories of filers, Category 2, 3, 4, and 5, each of which has different reporting obligations. A Category 2 filer includes a US citizen or resident who is an officer or director of a foreign corporation who is required to report US persons who have acquired 10% or more stock ownership of the foreign corporation by value or vote. A Category 3 filer includes a US person who: acquires stock in a foreign corporation which, when added to stock already owned, has 10% or more of the stock by value or vote of the foreign corporation; acquires stock of 10% or more, by value or vote, of the foreign corporation; a person who becomes a US person while owning 10% or more of the foreign corporation by value or vote; or a US person who disposes of sufficient stock in the foreign corporation to reduce their stock ownership, by value or vote, in the foreign corporation below 10%. A Category 4 filer is a US person who for at least an uninterrupted period of 30 days during the annual accounting period of the foreign corporation owned more than 50% of the foreign corporation stock by value or vote. A Category 5 filer includes US shareholders who own stock in a foreign corporation that is a Controlled Foreign Corporation (“CFC”) for an uninterrupted period of 30 days or more during any tax year of the foreign corporation, and who owned stock on the last day of the tax year.

As detailed above, Form 5471 requires Filers to present the financial information using U.S GAAP (or U.S. generally accepted accounting principles). Since the foreign corporation operates outside of the U.S., it is likely that the foreign corporation does not routinely follow U.S. GAAP and probably keeps their books under International Financial Reporting Standards. Even if a U.S. taxpayer is required to file Form 5471, the foreign corporation may also be a passive foreign investment company (“PFIC”) requiring the filing of Form 8621.