Thanks for your advice. I'm still not quite clear. Below is an excerpt from comments from our tax preparer, and my comments/laments in capitals. Not sure if this is beyond the scope of my original question with you. So I"m happy with your answer and will rate, but wondered if you could comment on questions below, or do I need to resubmit as another question?
PFIC – does it only become as PFIC on the date that I became a US resident? (March 20, 2012) I only bought it 1 month prior to moving here (Feb 2012). This is the info provided to me by my tax preparer:
Default method (excess distribution) - the current year distribution is weighed against the average distribution of the prior 3 years. If the current year distribution is over 125% of the average amount, an excess distribution has occurred. The normal distribution is taxed at your ordinary (marginal) tax rate and the excess amount would be taxed based on the respective prior year's highest tax rate. Interest may be applied on the excess distribution. In your particular case, any distribution during 2012 tax year from each fund will be taxed as ordinary tax rate as 2012 was the first year of investment for each fund. A review of these funds is necessary every year with which you have a distribution (actual or deemed distribution) while maintaining these foreign investments.
You may also consider the mark to market election for each fund in the first year these are deemed PFIC. Under this approach, you report the growth of the fund every year - regardless if the gain is realized or not. Losses incurred under the mark to market method may be taken to the extent the growth within the funds had previously been taxed.
So this is more favourable? I have no idea why. This whole thing seems so horrible that I think I should sell the mutual funds and move the money into my Australian superannuation. Would that affect my choice to go M2M?
Lastly, any gain from the dispositions (sale) of shares from these funds are automatically treated as excess distribution. Losses are considered capital losses for US purposes and the deduction is limited to the lower of the actual loss incurred or $3,000 ($1,500 if filing with MFS status). Any unused/excess capital losses may be carried over into the next US tax year for continued use.
I’m thinking that PFIC are a nightmare and someone should have warned be about this before I took a short term position over here! So, although I’m not paying tax in Australia on these investments (due to the combination of – carry over of capital losses, franking credits, and payment of withholding tax), it seems like I will end up paying quite a lot of tax in the US, and some of it is double taxation. Are these PSICs generally viewed as punitive to short-term visa workers like us, or am I over-reacting because I don’t really understand it? I was planning to be in the US for four more years and then return to Australia.