Currency Investments

If you have GBP in the UK, you will find it nearly impossible to invest it in the UK as a US resident.  Most financial institutions will not deal with US residents and citizens purely due to the vast reporting requirements that are imposed on them by the IRS and the SEC.  There are a couple of solutions available which steer you towards utilising a Discretionary Portfolio based opportunity which is driven by a specific mandate.  These mandates can be as simple as "we aim to beat the FTSE by 3%", however if the FTSE drops by 20%, then your Portfolio will still drop but by a predicted 17% instead.  Normally there is no flexibility or the ability to switch out to cash, gold or another safe haven asset when markets dictate.

What complicates matters further is if you do find a solution that will let you invest normally, you are very restricted in what you can and can't invest in.

Mutual Funds and ETF's

Many people like to build portfolios with these collective investment style products.  They offer huge diversity and the ability to take advantage of the buying power of the masses.  Most of you will have these in your 401k, IRA or your brokerage account at present.

However from a foreign currency point of view, the IRS see non US jurisdiction funds and ETFs very differently.  Perhaps you may have heard of the term PFIC (Passive Foreign Investment Company) through research, via your accountant or having fallen foul to this in the past.

What is a PFIC and how is it relevant?

A passive foreign investment company (PFIC) is a foreign-based corporation which exhibits either one of two conditions.

  1. Based on the company's income, at least 75% of the corporation's gross income is "passive." Income from investments would be passive, but not that from the company's regular business operations.
  2. Based on the company's assets, at least 50% of the company's assets are investments which produce income in the form of earned interest, dividends or capital gains.

Typical examples of PFICs include foreign-based mutual funds and start-up’s that exist within the scope of the PFIC definition. Foreign mutual funds typically are considered PFICs if they are foreign corporations that generate more than 75% of their income from passive sources, such as capital gains and dividends.  PFICs first became recognized through tax reforms passed in 1986. The changes were designed to close a tax loophole which some U.S. taxpayers were using to shelter offshore investments from taxation. The instituted tax reforms not only sought to close this tax avoidance loophole and bring such investments under U.S. taxation but also to tax such investments at high rates, to discourage taxpayers from following this practice.

U.S. persons, who own shares of a PFIC, must file IRS Form 8621. This form is used to report actual distributions and gains, along with income and increases in QEF elections.  The tax form 8621 is a lengthy, complicated form that the IRS itself estimates may take more than 40 hours to fill out. For this reason alone, PFIC investors are generally well advised to have a tax professional handle completion of the form. In a year where there is no income to report they do not need to worry about specific tax penalties. However, failure to register may render a whole tax return incomplete.

Tax rates for PFICs are very complex, but a simple explanation is that income will generally be taxed at the highest rate possible for the type of distribution, plus an interest charge.  Here is the breakdown:

  • All income distributions are taxed at the highest marginal rate:  39.6%
  • Capital gains tax rates do not apply and gains are also taxed as income at 39.6%, compared to a rate of 15% for domestic, long term capital gains
  • Deferred gains receive an interest charge for the entire time period that gains are held in the PFIC

For some investments these high rates and interest charges can equal more than 50%.  For this reason, most US based investors are wise to avoid PFICs.

So what is the solution?

There are some, albeit they are restrictive.

It is possible to move your GBP to the USA and invest it in GBP on certain US platforms that cater for foreign currency based transactions.  If you want to keep the GBP and invest it, the only realistic option available to you is to invest in UK stocks offered on the London Stock Exchange.  This approach can be lucrative where timing is right but it can also be disastrous as you have very limited diversity when buying stocks.

The alternative to keeping it in GBP is to make a conscious decision to move the GBP (or at least a portion of it) into USD today at today’s rate and invest it.

In theory you could wait 3 years for the rate to go up 18% from 1.27 (at the time of publishing this page) to 1.5 and in that time you could have lost two times that by not being invested properly, considering the S&P500 went up 35% in 2019.

The options available to you in USD are fair greater whilst you are a US resident than they are in GBP.  The portfolio can be tailored in line with your attitude to risk much more easily than a direct stocks and bonds portfolio with a much greater choice of market diversity.   We are not steering you in this direction and this page should not be seen as advice but you should know the pro’s and con’s of each solution so that you can make an informed decision.

What about ISA's?

When you leave the UK, you lose all the benefits of this tax effective product, especially while in the US as the IRS have a "look through" approach when it comes to ISA's.

Whilst in the UK, an ISA grows without any form of tax implications, when you move to the US this changes.  If you have a stocks and shares ISA, the dividends and any capital gains should be reported in the US.  As you can no longer pay into the ISA when living in the US, i would question the need to keep the ISA (unless perhaps you plan on returning to the UK and paying into it again).  The positions within this ISA can be transferred in specie to certain US platforms which keeps your current cost basis intact.  They can then be managed by a firm like us going forward.  If you have a ISA that is made up of Mutual Funds and ETF's then you need to report each position as a PFIC on your US tax return (as mentioned above).