The Mark to Market election under §1296 is an optional method of PFIC taxation that is better than §1291 but not as tax friendly as QEF. In a nutshell- any unrealized gain in the PFIC during the tax year is included in the shareholder’s income as ordinary income. If the investment has lost value over the year losses are allowed but only to the extent of “unreversed inclusions” or previously included gain. When the PFIC is sold gains are ordinary income and losses are either ordinary or capital depending on the situation.

When a Mark to Market election is made the taxpayer is required to “purge” any prior gain in the PFIC by doing a deemed disposition under §1291 rules and paying any §1291 tax and interest prior to the election taking effect. This means that the entire investment is treated as if it were sold for fair market value (FMV) on Dec 31 (last day of the taxpayer’s tax year). All shares that have a gain will be taxed as excess distributions meaning that gain allocated to the current tax year will be included on the tax return as ordinary income and any gain allocated to years before the current one will be taxed at the highest tax rate for that year and an additional interest charge will be added. Any shares that have dropped in value due to either the performance of the investment or fluctuation in the currency exchange rates will be disregarded- no losses are allowed in a §1291 “purge”. Losses can only be recognized when they are realized.

Although the form line instructions look easy- they are not. You are required to prepare a separate Part IV (2015 Form 8621) for each share or block of shares purchased at the same time. All basis, gain, loss, and unreversed inclusions must be tracked per share. This becomes tedious and overwhelming when the fund reinvests dividends monthly to purchase more shares, or the shareholder sells shares each month as part of a retirement income plan- or Heaven forbid- a mutual fund pays monthly dividends and reinvests them and also sells shares and distributes the cash every month. Remember – the rule is FIFO-first in first out- so you cannot offset the purchases and distributions in a year and just deal with whatever is left over.

Only PFICs that are marketable securities are eligible to make a Mark to Market election. Mark to Market elections can only be made on a timely filed tax return. Once made it remains in effect for all subsequent years and Form 8621 is required annually.

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