U.S. taxpayers with foreign investments often discover PFIC issues years after investing, usually while filing U.S. tax returns, FBAR, or Form 8938. The PFIC purging election is one of the most critical yet misunderstood U.S. tax strategies available to correct prior PFIC non-compliance.

This comprehensive guide explains:

• PFIC rules under U.S. tax law
• The “once a PFIC, always a PFIC” rule
• How a purging election under Section 1291(d)(2) works
• Impact on US tax filing, FBAR, Form 8938, and global mobility planning

PFIC Meaning Under US Tax Law

A Passive Foreign Investment Company (PFIC) is a foreign corporation that meets either of the following conditions in a tax year:

Income Test

75% or more of gross income is passive income (interest, dividends, capital gains)

Asset Test

50% or more of assets generate passive income

Common PFIC Investments for NRIs & Global Taxpayers

• Indian mutual funds
• Foreign ETFs
• Offshore holding companies
• Foreign investment vehicles
• Certain overseas startups

PFIC classification applies even if the investor did not know the entity was a PFIC.

Once a PFIC, Always a PFIC – Section 1298(b)

Under IRC Section 1298(b), once a foreign corporation is classified as a PFIC during any year of ownership, it continues to be treated as a PFIC for that shareholder forever, unless corrective elections are made.

Consequences:

• All future distributions
• All gains on sale of PFIC shares
• All deemed dispositions

are subject to the Section 1291 excess distribution regime, even if:

• The company is no longer a PFIC
• The taxpayer later becomes compliant

This rule is especially damaging for:

• NRI Investment in India
• Returning Indians from the U.S.
• Global mobility professionals
• U.S. taxpayers holding foreign portfolios

Why Missing a QEF or Mark-to-Market Election Is a Major US Tax Problem

If a U.S. taxpayer does not make a timely election:

• QEF (Qualified Electing Fund), or
• MTM (Mark-to-Market)

the default Section 1291 rules apply.

Section 1291 Tax Impact:

• Gain taxed at ordinary income tax rates
• No capital gains benefit
• Interest charge calculated retroactively
• Complex multi-year tax allocation
• Increased audit exposure

This significantly increases U.S. tax liability.

What Is a PFIC Purging Election?

A PFIC purging election under Section 1291(d)(2) allows a taxpayer to:

• Eliminate prior PFIC taint
• Reset PFIC holding period
• Make a fresh QEF or MTM election going forward

This election is commonly used when:

• PFIC elections were missed in earlier years
• The taxpayer recently became aware of PFIC rules
• Residency status has changed (global mobility cases)

How the PFIC Purging Election Works (Deemed Sale Method)

When a purging election is made:

• PFIC shares are treated as sold at Fair Market Value
• This is a deemed sale, not an actual transaction
• Any gain is taxed as an excess distribution
• Taxed at ordinary income rates
• Interest charges may apply
• A new QEF or MTM election applies prospectively

This allows the taxpayer to move forward with clean PFIC compliance.

Timing Rules for PFIC Purging Election

A purging election must be:

• Made in the same tax year as the QEF or MTM election
• Filed with:
  • Original return, or
  • Amended return within 3 years of original due date (including extensions)

Incorrect timing = invalid election.

IRS & Treasury Guidance – December 2020 PFIC Regulations

The IRS and Treasury issued final PFIC regulations in December 2020, addressing:

• Inconsistent application of the PFIC rules
• Differences between historic and new shareholders
• Interpretation of “once a PFIC, always a PFIC”

Key Clarifications:

• A foreign corporation may be a PFIC for some shareholders but not others
• Historic shareholders may need to file amended returns
• New investors may avoid PFIC classification entirely

This guidance is crucial for global mobility and cross-border NRI tax planning.

PFIC Compliance & Mandatory US Tax Forms

PFIC investments almost always trigger multiple U.S. tax disclosures:

Form 8621

• Mandatory PFIC reporting
• Required annually, even with no income

Form 8938 (FATCA)

• Disclosure of foreign financial assets
• PFIC investments must be reported

FBAR (FinCEN Form 114)

• Required if foreign accounts exceed USD 10,000
• PFIC accounts are reportable

Failure to file can result in:

• Severe monetary penalties
• Extended statute of limitations
• Increased audit risk

PFIC Issues in Global Mobility & NRI Taxation

PFIC complications commonly arise when:

• NRI returning to india
• U.S. taxpayers invest in Indian mutual funds
• Foreign ESOPs are exercised
• Residency status changes to ROR
• Cross-border investments are restructured

Without PFIC planning, US tax filing becomes non-compliant by default.

Why Professional US Tax Filing Is Essential for PFIC Cases

PFIC purging elections require:

• Technical elections under IRC 1291 & 1298
• Interest charge calculations
• Multi-form coordination (8621, 8938, FBAR)
• Amended return strategy
• Audit-risk mitigation

A single error can:

• Invalidate elections
• Trigger retroactive taxation
• Create long-term compliance issues

Conclusion: PFIC Purging Election Is a Strategic Reset for US Taxpayers

The PFIC regime is one of the most punitive areas of U.S. tax law, but the purging election provides a powerful path to compliance when executed correctly.

If you are:

• Filing U.S. tax returns as an NRI
• Managing global mobility tax exposure
• Holding foreign mutual funds or companies
• Required to file FBAR or Form 8938
• Facing PFIC compliance issues

Expert U.S. tax advisory is critical.

US Tax Filing & PFIC Advisory for NRIs and Global Taxpayers

At Dinesh Aarjav & Associates, we specialize in:

• US tax return filing services & expats
• PFIC advisory & purging elections
• FBAR & Form 8938 compliance
• Global mobility & cross-border taxation

Connect with our International Tax Team to ensure accurate, compliant, and audit-ready U.S. tax filings.

Also read:

Dual Tax Residency for NRIs: US Tax Filing Guide & Compliance 2025

Understanding FBAR Filing: A Crucial Tax Obligation for NRIs in the US

Understanding How Indian Property Capital Gains Are Taxed in the USA

Importance of Filing Income Tax Returns for NRIs in India