Most French citizens who come to the United States with Assurance Vie accounts are completely unaware of the serious implications that Assurance Vie may have with respect to their U.S. tax reporting requirements. What is even more problematic is that tax advisors in France and even United States are not even aware of how bad these consequences can be.
Assurance Vie and French Life Insurance Contracts
French life insurance contracts and Assurance Vie accounts are essentially investment vehicles with significant tax advantages under the French tax code. In general, in France, no income tax is levied on the Assurance Vie funds if they are not withdrawn and there are additional favorable tax treatment available in certain cases when the funds are withdrawn.
These contracts usually consist of a mix of bonds, stocks and mutual funds; in most cases, the contracts are not life contingent (if they are, then the analysis may become more complex). All of these investments are officially wrapped under the general designation of a life insurance contract under French law (but are not considered as such in the United States, because the U.S. definition of a “life insurance contract” is vastly different).
In France, the chief advantage of these Assurance Vie Accounts is that the earnings are allowed to remain in the account tax-free as long as these funds are not withdrawn. Even when they are withdrawn, additional advantages include the option that the owner of an Assurance Vie account has in terms of choosing the tax rate that will apply. Finally, Assurance Vie policies offer unique estate tax advantages under the French law, because these policies allow the amounts on the Assurance Vie accounts to transfer directly to the beneficiary without being included in the estate (subject to certain limitations, but even the excess amounts are likely to be taxed at an advantageous estate tax rate).
U.S. Treatment of Most Assurance Vie Policies That Include Mutual Funds – PFICs
Given these advantages under the French tax law, it is little wonder that Assurance Vie contracts are wildly popular among the French. However, what happens when a French national becomes a U.S. tax resident – i.e. how will the IRS treat Assurance Vie accounts?
In the United States, the treatment of the Assurance Vie accounts is vastly inferior and may be highly disadvantageous and extremely troublesome for the owners of the Assurance Vie policies. First of all, Assurance Vie accounts are taxable in the United States. Second, none of the tax advantages from French law pass to the U.S. law, including the estate tax treatment (which may be a complex question in itself).
Finally and most importantly, Assurance Vie policies usually consist of mutual funds which are treated as Passive Foreign Investment Companies (PFICs) under U.S. tax law. As such, the Assurance Vie policies may be subject to the most draconian tax treatment under the 1291 fund (default PFIC) rules, especially because the QEF treatment is usually not available and MTM treatment may result in additional taxes (assuming that the French owner of the Assurance Vie policy timely made the election – usually, this is not the case).
IRC Section 1297(a) defines a PFIC to mean any foreign corporation if: “(1) 75 percent or more of the gross income of such corporation for the taxable year is passive income, or (2) the average percentage of assets (as determined in accordance with subsection (e)) held by such corporation during the taxable year which produce passive income or which are held for the production of passive income is at least 50 percent.” If a US person is required to report PFIC income, the Form 8621, “Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund” will need to be filed for each PFIC held.
Unfavorable Tax Regime for Assurance Vie Accounts Under U.S. Tax Rules
With a few exceptions, it is most likely that an Assurance Vie account that is subject to PFIC rules will fall under the highly unfavorable rules of the default IRC Section 1291 PFIC rules.
In general, under such rules, US taxpayers receiving “excess distributions” will be subject to the special PFIC tax and interest regime the combined effect of which is likely to exceed the most unfavorable tax result possible under any other regular tax laws.
An excess distribution is defined by the IRS to mean the portion of a distribution received in the current year, “[T]hat is greater than 125% of the average distributions received in respect of such stock by the shareholder during the 3 preceding tax years (or, if shorter, the portion of the shareholder’s holding period before the current tax year). No part of a distribution received or deemed received during the first tax year of the shareholder’s holding period of the stock will be treated as an excess distribution.” (Conversely, the entire amount of any gain recognized on a disposition of PFIC shares will be treated as an excess distribution).
Thus, the PFIC tax regime is likely to overshadow whatever French tax benefits the owner of an Assurance Vie account may derive from holding this account. Moreover, the tax compliance costs associated with calculating PFICs may be very high.
Assurance Vie Accounts May Suffer From Severe Inability to Produce Proper PFIC Information
As if it were not enough, in addition to the prospect of facing the highest marginal tax rate with interest combined with high legal fees, the U.S. owners of an Assurance Vie account face one more difficult problem – a very limited ability to be able to produce the information required for proper PFIC calculations.
At the core of the problem is the fact that French banks are not required to keep the information that is necessary for proper PFIC calculations in the United States. My clients often encounter tremendous problems with trying to obtain the necessary information from French banks (especially since some of the information would be required for the years which are far beyond the recordkeeping requirements of many French banks) with respect to Assurance Vie PFICs.
FBAR and Form 8938 Compliance Requirements
In addition to PFIC compliance, it is important to remember that Assurance Vie accounts are financial accounts subject to reporting on FinCEN Form 114 (commonly known as FBAR and formerly associated with Form TD F 90-22.1) and FATCA Form 8938.
Contact Sherayzen Law Office for Help With Assurance Vie PFICs
If you have undisclosed Assurance Vie accounts, contact Sherayzen Law Office for professional expert help.