Passive Foreign Investment Company

A passive foreign investment company is an investment company that is a foreign company and has predominant investment income. A passive foreign investment company makes sure that its assets are mainly meant to generate investment income.
The 75% income of a passive foreign investment company has to be passive or the 50% of its assets in investment should be involved in earning interest, capital gains or dividends. The IRS (Internal Revenue Service) handles all the profits of investments in the passive foreign investment companies in a different way than the domestic counterparts of the IRS.

According to the US law, unlike a foreign personal holding company or a controlled foreign corporation, the US shareholders don’t have any minimum percentage ownership to trigger application of the passive foreign investment companies.

In the US, a foreign corporation that has a high percentage of passive income or assets is regarded as a passive foreign company and it does not matter if their ownership percentage in the company is very small or if the US shareholders, either individually or in aggregate, don’t have the ability to control the investment or business of the foreign corporation.
The US shareholders having stocks in the passive foreign investment company can sell their PFIC stocks. In that case the income that is earned is considered to be ordinary income and the tax that is due with the gain from PFIC stock selling or excess distribution is subject to an interest charge reflecting the deferral following the income earned by the PFIC.

According to the Income Test, a foreign corporation is regarded as a PFIC if either 75% or more than that of the foreign company’s gross income for a taxable year consists of passive income. The passive income earned by a PFIC may be interest, dividends, royalties, annuities, rents, net gains from the transactions of certain commodities, payments in lieu of dividends, net foreign currency gains, income from notional contracts, income equivalent to interest and income earned from some personal service contracts.

According to the Asset Test, a foreign corporation is a passive foreign investment company if 50% of the company’s asset is used to earn passive income. Generally the fair market value of the assets of a foreign company is used to apply the Asset Test.

Last Updated on : 22th July 2013