Will I have to pay US taxes on an investment account that is tax-free in the UK?

Generally speaking, you will need to report and pay taxes on any capital gains, interest, or dividends from your UK investment accounts on your US tax return.

There is a statute in place that prevents US citizens residing in the UK from opening new investments stateside. Because of this, many US expats consider UK tax-free government investment options such as ISAs or GIAs, which are UK versions of IRAs.

Unfortunately, this income does not have the same tax-free treatment in the USA. Instead, you would need to report the full amount of the capital gains, interest, dividends, etc., on your US tax return. Technically, you should report this income each year you earn it on the account.

The capital gains rates for these accounts is the same as for US income. Capital gains tax rates are based on your ordinary income tax rate, with a max capital gains rate of 20% for investments held more than one year. Investments held for one year or less are taxed at your ordinary rate.

To avoid the onerous paperwork involved with having what’s considered a PFIC (not to mention large preparation fees), you should avoid investing in ISAs that are similar to a mutual fund. Invest where you own the whole stock or bond.

If the Stocks and Shares ISAs are through a bank or financial institution, they are not foreign trusts, as the person who holds the account is the actual owner of the stocks.