August 16, 2011 - Phil Hodgen

PFIC bought and sold in the same year – mark-to-market

In Part 1 of this series, I showed you what happens when you buy and sell a PFIC in a year. Part 1 dealt with the default treatment of the PFIC sale under the excess distribution rules. The bottom line? All of the gain is ordinary income, is reported on Form 8621 and then flows through to Form 1040, Line 21.

In this post, I compare the outcome if you make a mark-to-market election for the PFIC, instead of allowing the default excess distribution rules to apply.


Again, here are the facts we are working with.

A taxpayer buys shares of a PFIC for US$1,000 and sells them in the same calendar year for US$1,500. How is the US$500 gain taxed? How is it reported on a tax return? To keep this example simple, let’s pretend that there are no distributions or dividends from this PFIC. It is a simple buy low, sell high transaction.

Taxation under the mark-to-market regime

Remember there are three different ways in which PFICs are taxed. The excess distribution rules I explained in Part 1 give you the default tax treatment. But you aren’t stuck with the excess distribution rules. You can elect “mark-to-market” treatment.

Again, let’s remember the Source of Infinite Wisdom: the Internal Revenue Code. In this case, Section 1296 of the Internal Revenue Code gives us everything we need to know about the mark-to-market rules for PFICs.

The simple idea is that you have a starting point for your investment in the PFIC. At the end of the year, you look at the value of the PFIC. If it went up, you have ordinary income. Make some changes to the starting point value for your PFIC (called “adjusted basis”) and do the same thing at the end of next year. Section 1296(a)(1) says:

If the fair market value of such stock as of the close of such taxable year exceeds its adjusted basis, such United States person shall include in gross income for such taxable year an amount equal to the amount of such excess.

If you sell the PFIC before year-end, you use the sale price to calculate gain under the mark-to-market rules.

How it works here

If it is possible to make the mark-to-market election (this is a topic to be addressed some other time), the result is that you have a starting point for your investment of US$1,000 (your adjusted basis) and an ending value of US$1,500.

This results in a gain of US$500. The gain is treated as ordinary income, according to Section 1296(a)(1).

Form 8621 and mark-to-market gain

The fun happens on Lines 5, 6, and 7 of Form 8621. Line 7 tells you to take the US$500 gain and report it as ordinary income.  That means the US$500 gain is reported on Form 1040, Line 21 (for the 2010 version of Form 1040).