Seemingly small details can make a big difference with income taxes. That’s why many Canada-based asset-management firms now provide their American taxpayer clients with U.S. tax information statements. These forms, while perhaps tedious to fill out, can greatly reduce these clients’ U.S. tax exposure if they own units in a Canadian mutual fund or an exchange-traded fund (ETF).

The U.S. annual information statement (AIS) deals with the U.S.’s passive foreign investment company (PFIC) rules. A PFIC is a non-U.S. corporation for which 75% or more of the gross income that it generates in a year is passive income, or if 50% or more of the corporation’s assets for the year produce passive income.

The AIS gives mutual fund and ETF unitholders affected by PFIC rules the option of making an election for their tax reporting that reduces the potentially onerous U.S. tax hit that could be created by holding a PFIC such as a mutual fund.

“You can’t make the election without the form,” says Debbie Pearl-Weinberg, executive director of tax and estate planning in the wealth strategies group at Canadian Imperial Bank of Commerce in Toronto. “And if you can’t make the election, the tax consequences are much more severe.”

Earlier this year, Toronto-based BlackRock Asset Management Canada Ltd. began posting online the AIS information for the majority of its iShares ETFs for the 2015 taxation year. Other major asset-management firms, including Mackenzie Financial Corp., RBC Global Asset Management Inc., CIBC Asset Management Inc., CI Investments Inc., and Fidelity Investments Canada ULC (all firms are based in Toronto), already had been providing their American investors with PFIC statements.

According to Joseph Micallef, national asset management tax leader with consulting firm KPMG LLP, more asset- management firms soon will begin offering the statements. “You’ll see those press release [announcements] coming out probably later in the fall,” Micallef says. KPMG is a third-party provider of PFIC reporting services to the asset-management industry.

The issue of American taxpayers residing in Canada who own units in Canadian mutual funds or ETFs dates back to 2010, when the U.S. Internal Revenue Service indicated that it considered non-U.S. investment funds to be PFICs.

The U.S. tax regime is based on citizenship, meaning that American citizens and green-card holders residing anywhere in the world must file a U.S. tax return annually on their worldwide income and stay current with all other U.S. tax-filing obligations.

For each Canadian mutual fund holding, an American taxpayer must file a U.S. Form No. 8621 annually to report any income received from the PFIC or any gain realized from a sale of any units in a fund.

Under the rules governing the taxation of PFICs, these gains and distributions may be taxed as ordinary income and could be subject to interest charges – essentially eliminating the usual tax advantages of owning Canadian funds.

To avoid this punitive default tax result, an American taxpayer has the option of making one of two elections under the PFIC rules: a mark-to-market election or qualified election fund (QEF) election.

Of the two elections, the QEF election is generally preferable for most American taxpayers. With that election, the taxpayer is taxed on his or her pro rata share of the fund’s earnings and gains in the year, as if the fund units had been sold.

However, a number of large asset- management firms have chosen not to provide AISes, arguing that the forms are not a panacea for their clients.

Cross-border tax issues are very complex and each investor’s situation is unique, says Doug Carroll, vice president of tax and estate planning at Invesco Canada Ltd. in Toronto, a firm that doesn’t provide the form to most clients. “An investor needs to have a conversation with a tax counsel from a combined Canadian/U.S. tax perspective over the course of time, not just in one year, to be best informed about what investments to hold and how to hold them.”

For example, units of Canadian funds held within an RRSP or a RRIF do not fall under the PFIC regime, thanks to a specific exemption in U.S. tax legislation for income from pension plans. However, the U.S. does not recognize the tax-deferred status of other Canadian registered accounts, such as tax-free savings accounts.

Another issue with owning PFICs is the cost of compliance. Having an accountant prepare a Form 8621 can cost $100-$500 per fund held, depending on the taxpayer’s situation, suggests Veronika Chang, who specializes in U.S. tax law with Toronto-based law firm Morris Kepes Winters LLP.

TD Asset Management Inc., for its part, does not offer PFIC statements for its mutual funds. “Our view remains that mutual funds are not an optimal investment vehicle for clients impacted by PFIC,” says Ingrid Macintosh, vice president of wealth and head of investment product, sales support and client portfolio management with the firm.

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