If you are a US citizen or Green Card holder living in the UK and you hold a Stocks & Shares ISA, an OEIC, a unit trust, or a UK-domiciled investment fund, you almost certainly have a PFIC problem. Here is what the rules actually mean and what it costs.
What is a PFIC?
A Passive Foreign Investment Company (PFIC) is any non-US corporation where 75% or more of income is passive, or 50%+ of assets produce passive income. Almost every UK-domiciled mutual fund, ETF, and investment trust falls under this definition.
Why the IRS treats PFICs harshly
Without a US-style fund tax regime, Congress created PFIC rules in 1986 to stop US taxpayers deferring tax inside foreign funds. The default tax treatment, the excess distribution regime, can apply the highest marginal tax rate (37%) plus interest charges to gains and distributions — even if you sold at a loss for the year.
Three ways to be taxed on a PFIC
- Excess distribution (default) — punitive: top marginal rate + interest on deferred tax.
- Mark-to-market (MTM) — annual gains taxed as ordinary income; only available if the fund is regularly traded.
- Qualified Electing Fund (QEF) — tax flows through annually; only available if the fund provides annual PFIC reporting (almost no UK funds do).
What this means for your ISA
Cash ISAs are simple — only the interest is US-taxable. Stocks & Shares ISAs holding UK funds trigger Form 8621 for each fund, every year, with potentially severe US tax even though the ISA is UK-tax-free. Holding direct shares (e.g. Apple, Tesco) inside an ISA does not create a PFIC issue.