The IRS taxes your Indian mutual funds harder than your own salary.
Most US-based NRIs assume the PFIC problem does not apply to them. They moved to the US years ago, and they do not actively trade Indian mutual funds. They did not sign up for a punitive tax regime designed for offshore tax shelters.
But between a joint folio their parents opened in 2008, an inherited portfolio from a grandparent and three SIPs they started before relocating, most US-NRIs hold at least one PFIC. Often they hold a dozen.
FBAR and FATCA reports are disclosure forms. You file them and you are compliant. (Both are covered in our post on the FBAR threshold and Form 8938.) PFIC reporting is different because it is a tax regime. Filing Form 8621 makes you taxable, every year, on a punitive schedule designed to punish anyone who tried to defer US tax through a foreign fund.
What is a PFIC?
A Passive Foreign Investment Company is any non-US corporation that meets one of two tests: 75% or more of its income is passive (interest, dividends, capital gains), or 50% or more of its assets produce passive income. Indian mutual funds are technically structured as trusts under Indian law, but the IRS treats them as corporations for US tax purposes.
Mutual funds hold stocks and bonds, so every one of them meets both PFIC tests automatically. Equity funds, debt funds, hybrid funds, ETFs listed in India and even Indian index funds that mirror US benchmarks are all PFICs.
The problem is the difference in treatment. A US-listed India ETF like INDA holds the same Indian stocks an Indian mutual fund holds, but INDA reports on a standard 1099-DIV. Your Indian mutual fund reports nothing to the US and generates no 1099. It still creates a per-fund-per-year filing obligation with a punitive default tax regime. The underlying exposure is the same, but the tax treatment differs sharply.
The three election paths
Once you own a PFIC, you have three choices for how it gets taxed. You cannot opt out of the regime. You can only pick the version that hurts least.
Section 1291 is the default. It applies if you do nothing. The IRS designed Section 1291 to punish deferral. Distributions and gains are taxed using the "excess distribution" method. The IRS spreads any large distribution or gain back over your entire holding period and taxes each year's portion at the highest ordinary rate (37% in 2026). It then adds an interest charge on the deferred tax that compounds from each prior year to the present.
For a fund held 10 years with a meaningful gain, the effective tax rate on the gain commonly runs 50% to 60%. In extreme cases with long holding periods, total tax plus interest can exceed the gain itself. This is the regime the IRS wants you in, because it makes the other two look attractive by comparison.
The second path is QEF (Qualified Electing Fund). If the PFIC provides you with an annual PFIC Annual Information Statement (a US-format document showing your share of ordinary earnings and net capital gain), you can elect QEF treatment. Your share of fund earnings flows through to your US return each year, taxed as if you owned the underlying assets directly. Long-term capital gain rates apply where they would normally apply. This is the cleanest outcome.
The problem is that virtually no Indian AMC (asset management company, the firm that runs the fund) issues PFIC Annual Information Statements. They have no commercial reason to. The QEF election exists on paper for most NRIs, but in practice it is unavailable.
The third path is Mark-to-Market (MTM). This is available only for PFICs whose shares are "marketable," meaning regularly traded on a qualified exchange. Most Indian open-ended mutual funds do not qualify because they are not exchange-traded. Some Indian ETFs do qualify.
Under MTM, you recognize the increase in fund value as ordinary income each year, whether or not you sold. Losses are limited. The election eliminates the interest charge of Section 1291 but trades it for annual phantom income (income you are taxed on without receiving any cash). If you have the cash to pay tax on unrealized gains and the fund qualifies, MTM is workable. For most NRIs holding traditional Indian mutual funds, it is not available.
Most US-NRIs holding Indian mutual funds will end up in Section 1291 by default. QEF requires AMC cooperation that does not exist, and MTM requires exchange-traded status most funds do not have.
A real-life example, in dollars
Consider Priya, a US-resident NRI in New Jersey. Her father in Pune added her as a joint holder on his ₹20 lakh ICICI Prudential equity mutual fund folio in January 2016, when she was on H-1B and had just moved to the US. The fund has compounded at roughly 12% annually over the decade. In January 2026, after her father's passing, Priya inherits the full holding. She sells it six months later to consolidate her US portfolio.
The investment grows from ₹20 lakh (≈ $30,000 at the 2016 exchange rate of ₹67/USD) to roughly ₹62 lakh by 2026 (≈ $65,500 at ₹95/USD). On paper, that is a ten-year gain of about $35,500.
This is how Section 1291 treats that gain:
| Section 1291 Calculation | |
|---|---|
| Total gain on sale | $35,500 |
| Holding period | 10 years (2016–2026) |
| Allocated per year | $3,550 |
| Tax rate on each prior year's portion | 37% |
| Base tax on 9 prior years × 37% | $11,822 |
| Plus interest charge (compounded ~8%/yr) | ≈ $4,600 |
| Current-year portion (32% marginal rate) | $1,136 |
| Total US tax owed | ≈ $17,558 |
| Effective rate on the $35,500 gain | ~49.5% |
Compare that with the same exposure held in INDA, the US-listed iShares MSCI India ETF. It has the same underlying Indian market, the same ten-year holding period and the same $35,500 gain. Taxed at long-term capital gains rates (15% for Priya at her income level), the total US tax is $5,325.
| Indian Mutual Fund (PFIC) | US-Listed India ETF (INDA) |
|---|---|
| $17,558 | $5,325 |
| Section 1291 + interest charge | 15% long-term capital gains |
The difference is $12,233 in taxes, paid solely because the wrapper said "Indian mutual fund" instead of "US-domiciled ETF."
Priya did not choose this fund or pay for it. She did not know her name was on the folio until her father's CA flagged it during estate administration. Under US tax rules, she still owed roughly one third of her gain in US tax, plus a decade of compounded interest, plus the obligation to file Form 8621 for every year she held the fund.
Illustrative example only. Actual Section 1291 computation depends on individual tax history, AMT applicability, state taxes, and dozens of edge cases. Consult a cross-border CPA for your specific situation.
Form 8621: the form your India CA never filed
Form 8621, "Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund," is the form the IRS requires you to file for every PFIC you hold, for every year you hold it. It is one fund, one form, every year. If you hold 12 Indian mutual funds, that is 12 Form 8621s annually. Most India-side CAs have never seen one. Most US CPAs miss them on NRI returns.
The math under the default Section 1291 regime is severe. As the worked example above shows, a ten-year holding can produce an effective rate near 50% on the gain.
The consequence of not filing can be worse than the tax. Failing to file Form 8621 when required keeps the statute of limitations on your entire tax return open indefinitely. That covers everything on the return, including items unrelated to the PFIC.
Compliance Guardrail: Form 8621 is neither your FBAR nor your Form 8938. It is a third, separate disclosure required by the IRS, filed per fund, per year. The FBAR is a FinCEN form. Form 8938 is the IRS asset disclosure. Form 8621 is the IRS tax computation form. These are three different forms, with three different agencies' rules and three different penalty regimes.
If you think a fund of yours belongs on this form, a cross-border tax consult is the place to start, and the form itself goes in with your US tax return.
From Edition 6 of the NRI Playbook newsletter. For informational purposes only; not financial, tax, or legal advice. For decisions about your specific situation, consult a qualified cross-border tax professional.