Important information for Manulife mutual fund investors who are U.S. taxpayers
A Passive Foreign Investment Company (PFIC) is defined as a non-U.S. corporation (or a non-U.S. entity treated under U.S. tax principles as a corporation) where 75 per cent or more of its gross income is passive income, or at least 50 per cent of the corporation's assets produce or are held to produce passive income. Under this definition, Canadian mutual funds are treated as PFICs.
If you hold non-registered Canadians mutual funds and are a U.S. taxpayer, you are likely subject to the Passive Foreign Investment Company (PFIC) rules and are required to report income from each PFIC when you file your U.S. income tax return.
The PFIC rules are complex. Investors should consult their own U.S. tax advisor for advice on how these rules may impact their situation.
Manulife Investments provides PFIC Annual Information Statements for the following funds
Manulife Investments will provide its customers who are U.S. taxpayers with important U.S. tax information to allow them the option to make the Qualified Electing Fund (QEF) election, when filing their U.S. tax return for 2018.
Under U.S. tax law, Canadian mutual fund trusts and mutual fund corporations are generally considered PFICs, which are subject to strict rules designed to limit U.S. taxpayers' ability to defer tax through foreign (non-U.S.) investments. With the QEF election, the tax treatment of Canadian mutual fund holdings held in non-registered accounts will be closer to that of similar U.S. mutual fund holdings.
On or about March 29, 2019, PFIC Annual Information Statements (AIS) will be available for 30 funds at manulife.ca/pfic. These statements contain information that will enable U.S. taxpayers to elect to treat these funds as QEFs should they choose to do so based on the advice of their tax advisors.
The purpose of this document is to provide a high-level summary of the U.S. PFIC rules and their implications to U.S. taxpayers investing in Canadian mutual funds. These rules are complex. Investors should consult their own tax advisors for advice regarding the application of the U.S. federal and state income tax rules governing PFICs.
Frequently Asked Questions
What is a PFIC?
PFIC stands for “passive foreign investment company.” A PFIC is defined as a foreign (non-U.S.) corporation that meets one of the following two tests: (1) 75 per cent or more of its gross income is passive income; or (2) 50 per cent or more of the corporation’s assets produce, or are held to produce, passive income. Canadian mutual fund trusts and corporate mutual funds (“Funds”) are considered PFICs for U.S. income tax purposes.
What is the purpose of the PFIC rules?
The PFIC rules are aimed at limiting the extent to which U.S. taxpayers can defer U.S. tax through foreign (non‑U.S.) investments.
Who is affected by the PFIC rules?
Generally, the PFIC rules apply only to U.S. taxpayers and should not apply to non-U.S. persons. U.S. taxpayers who intend to purchase or hold securities of a Fund should consult their tax advisors to determine the U.S. federal, state, local and other tax consequences of an investment in the Fund.
What type of accounts do the PFIC rules affect (i.e. non-registered, TFSA, RRSP, etc.)?
PFIC rules apply to various types of accounts including non-registered, TFSA, RESP and RDSP. The PFIC rules are silent on whether they apply to RRSPs, RRIFs and their locked-in equivalents. Most tax advisors are of the view that these registered funds (RRSPs, RRIFs and their locked‑in equivalents) would be excluded from the PFIC rules if a special tax deferral election is filed. Furthermore, the Internal Revenue Service has recently published simplified procedures for the tax deferral election to become automatic. Consequently, it is recommended that clients speak to a U.S. tax specialist about these procedures and any other filing obligations with respect to their investment.
What is a PFIC annual information statement ("PFIC AIS")?
The PFIC AIS enables U.S. taxpayers, who choose to make a QEF election with respect to their investment in a Fund, to compute their U.S. taxable income, if any, attributable to that investment.
What information will be included in the Manulife investments PFIC AIS?
Manulife Investments PFIC AIS will include per security information regarding ordinary earnings and net capital gains that should be reported on a U.S. taxpayer’s U.S. tax return as well as the amount of any distributions to the shareholder during the taxable year of the PFIC and the first and last days of the taxable year of the PFIC to which the Annual Information Statement applies. These statements contain information to enable U.S. taxpayers to elect to treat these funds as QEFs should they choose to do so based on the advice of their tax advisors.
When will Manulife invesments' PFIC AIS be available?
The PFIC AIS are expected to be available on or about April 3, 2017.
How can investors obtain the PFIC annual information statement for the funds they invest in?
On or about April 3, 2017 the PIFC AIS for 34 of our Manulife Mutual Funds will be posted at manulife.ca/pfic.
What are the U.S. reporting requirements for U.S. taxpayers holding Canadian funds?
Effective for 2013 and subsequent years, U.S. taxpayers holding investments in Canadian Funds (“U.S. Holders”) are required to file Form 8621 to report their investment in a PFIC. Please see below a link to the IRS Form 8621, “Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund.”
Why is Manulife investments providing the PFIC annual information statements for only a selection of funds for 2016?
It is not mandatory for a Canadian Fund to provide PFIC Annual Information Statements. Manulife Investments has been providing this optional service to U.S. taxpayers investing in our Funds since the 2014 taxation year. We have developed our selection of Funds for 2016 based on the type and size of Funds for which we expect there will be a demand for this tax information by U.S. taxpayers. For Funds that do not have PFIC Annual Information Statements, U.S. taxpayers can choose to report on their investments under the Mark-to-Market regime or the default Excess Distribution method. In all cases, investors should speak to their U.S. tax advisor to determine the best way to proceed based on their personal circumstances.
What approaches can be used by U.S. taxpayers to report income for U.S. tax purposes for their PFIC investments?
Absent a QEF Election:
Generally: Unless a U.S. Holder makes a QEF election or a mark-to-market election as defined, respectively, in Sections 1295 and 1296 of the Internal Revenue Code, (1) distributions of earnings and profits from a PFIC would generally be subject to tax in the year received and (2) such distributions would not be eligible to be treated as “qualified dividend income“. In addition, a U.S. Holder will be subject to special rules with respect to (1) any “excess distributions“ and (2) any gain realized on the sale or other disposition of their ownership interest in a PFIC.
Excess Distributions: “Excess distributions“ are distributions received by a U.S. Holder in a PFIC in a taxable year that are greater than 125 per cent of the average annual distributions received by such taxpayer in the three preceding taxable years, or, such taxpayer’s holding period, if the Holder’s holding period is less than three taxable years. If there is an “excess distribution,“ the excess distribution amount is allocated on a pro rata basis to each day the Holder owned the investment in the PFIC. The amount allocated to the current year is included as ordinary earnings in the Holder’s gross income for the current year. Any amounts allocated to prior years would be subject to tax at the highest rate of tax in effect for the applicable class of taxpayer for that year, and an interest charge would be imposed with respect to the resulting tax attributable to each such other taxable year (the “deferred amount.”)
Gain on Sale or Other Disposition: If a U.S. Holder disposes of their ownership interest in a PFIC, any gain resulting from the disposition generally is treated as an “excess distribution,“ and subject to the rules set forth above.
Termination of PFIC Status: If a foreign corporation is classified as a PFIC for any year during which a U.S. Holder has an ownership interest, the foreign corporation generally will continue to be treated as a PFIC in the case of such U.S. Holder for all succeeding years during which such U.S. Holder maintains an ownership interest regardless of whether the foreign corporation ceases to be classified as a PFIC for other U.S. Holders.
If a QEF Election is made:
Purpose of the election: By making a QEF election, a U.S. Holder will not be subject to the special rules discussed above under “Absent a QEF Election.“ Instead, such Holder will include its pro rata share of the PFIC’s ordinary earnings and net capital gains for the taxable year in income, regardless of whether any amounts are distributed to such Holder during such taxable year.
Impact of QEF Election: A U.S. Holder who has made a QEF election includes its pro rata share of the PFIC’s ordinary earnings and net capital gains in the Holder’s income for each taxable year. No portion of such inclusions of ordinary earnings would qualify as “qualified dividend income.“ The U.S. Holder would increase the tax basis in its PFIC ownership interest to reflect the Holder’s pro rata share of the PFIC’s ordinary earnings and net capital gains. Any distributed earnings with respect to which the U.S. Holder has already been taxed would be excluded from income upon receipt by such Holder, and such Holder would decrease the tax basis of its ownership interest by such distribution. Gain or loss realized on a sale or exchange of the securities of a Fund will be a capital gain or loss.
PFIC Losses: A U.S. Holder would not be entitled to a deduction for their pro rata share of any losses incurred by the PFIC for such year.
Timing Considerations: The QEF election may be made for the first year in which an investor holds securities of a Fund. The QEF election is effective for the taxable year in which the election is made and all subsequent taxable years of the Fund in which an investor holds an ownership interest.
How does a U.S. holder make a QEF election for U.S. tax purposes?
The QEF election is made by completing and attaching Form 8621 to the investor’s U.S. federal income tax return filed by the due date of the return, including any filing extension allowed.
What is the potential benefit of making a QEF election?
If a U.S. Holder elects to treat a Fund as a QEF, then any future gain from the sale of securities of the Fund will qualify for capital gain treatment (assuming the U.S. investor holds the securities as a capital asset). In addition, the U.S. Holder will be subject to tax at capital gains tax rates rather than at ordinary income tax rates and distributions of amounts taxed to the shareholder will be distributed tax free. In contrast, without a QEF election, the U.S. Holder would be subject to tax at ordinary income tax rates on distributions from the PFIC. Note there may be U.S. tax implications if a U.S. Holder held securities of a Fund in a year prior to making the QEF election for the first time with respect to the Fund.
What is the consequence of a QEF election?
A U.S. Holder who makes a QEF election is required to annually include in income the U.S. Holder’s pro rata share of the ordinary earnings and net capital gains of the Fund. Other consequences in the year of the election will depend on whether such U.S. Holder owned securities of the Fund in a year prior to the year in which the QEF election is made.
What if the U.S. investor is a new U.S. holder of the fund's securities?
The U.S. investor can make a QEF election as of the date they buy the securities.
If a U.S. holder doesn't make a QEF election in the first year, can one be made in the future
Yes, but complicated rules apply to U.S. Holders who do not have a QEF election in effect with respect to PFIC securities throughout the period that they own such securities. A U.S. Holder may make a QEF election in a subsequent year provided that they elect to treat the PFIC securities as being sold on the first day of the year in which the QEF election is made and pay the deferred tax owing with respect to any resulting gain from the deemed sale. The QEF regime will apply to the PFIC securities for the subsequent taxable years. Each U.S. Holder should consult their own tax advisors with respect to the U.S. federal, state, local and other tax consequences of making such a QEF election.
What if a U.S. holder owner securities of a fund in a year prior to the year of the QEF election?
If a U.S. holder makes a QEF election and owned securities of the Fund prior to the effective date of the QEF election, then the U.S. Holder may also choose to make a deemed sale election. A deemed sale election will require the investor to recognize any gain from a “deemed sale” of the U.S. Holder’s Fund securities as of the first day of the QEF election year (January 1 of such year), and report the gain as ordinary income on Form 8621. Such gain will be allocated over the U.S. Holder’s holding period up to the date of the deemed sale and taxed at ordinary income tax rates plus an interest charge. Gain, if any, is the difference between the “deemed sale price” and the U.S. Holder’s adjusted cost basis of their securities of the Fund. The deemed sale price to be used is the fair market value of the Fund securities on the first day of the Fund’s taxation year as a QEF (i.e., January 1 of the taxable year with respect to which the U.S. investor makes the QEF election). The U.S. Holder’s adjusted cost basis of their Fund securities will be increased by the gain on such deemed sale.
What if the U.S. holder does not have a gain on the deemed sale?
If there is no gain, then the U.S. Holder will not have to pay any taxes as a result of making the deemed sale election, but will still need to make the deemed sale election and a QEF election in order to avoid the application of the “excess distribution” rules, described above.
What if the U.S. holder makes a mark-to-market election?
As a third alternative to the general default rules and the QEF election mentioned above, a mark-to-market election to recognize a gain or loss annually to reflect changes in the value of the Fund securities may be available. Such tax election is also made using Form 8621. Under the mark-to-market regime, the gain or loss is treated on income account and therefore the capital gain treatment is not available to U.S. Holders. An income loss can only be recognized to the extent gains with respect to the U.S. holdings of a U.S. Holder in a Fund were previously taxed as ordinary income. Each U.S. Holder should consult their own tax advisors about eligibility and procedures for, and appropriateness in such U.S. Holder’s particular circumstances of making, this mark-to-market election.
Any information contained in this document (including any attachments thereto) should not be considered legal or tax advice and is not intended to promote, market or recommend to another party any transaction or matter addressed herein. U.S. Holders should consult their tax advisors about the overall tax consequences of their holdings in Manulife Investments mutual funds arising in their particular situations under U.S. federal, state, local or foreign tax laws.