Morningstar article on ETFs and Taxes
This Morningstar article on ETFs and taxes had a lot of information that was new to me. Hope you find it of interest too.
I was especially interested in the information on taxes on leveraged funds.
Your ETF Tax Questions Answered
03-18-09 | ![](http://im.morningstar.com/im/dot_clear.gif)
![](http://im.morningstar.com/im/dot_clear.gif)
Paul Justice is an ETF strategist with Morningstar
"...When held in an IRA, taxation is generally shielded in the following manners. First, because an IRA is not subject to capital gains taxation until withdrawal, the 60%/40% rule does not apply. Furthermore, you don't pay taxes on interest income in a tax-deferred account until funds are withdrawn. Finally (I'm sure you get the point by now), the IRA would become taxable if UBTI crossed a threshold, but these commodity-trading funds should not produce any UBTI. Again, there should be no UBTI to report because these funds do not engage in business activities.
If you chose to gain your commodity exposure from ProShares' lineup, your taxation should be slightly different. These funds do not limit themselves only to futures contracts; they also use swaps and options. Depending on which contract type is used, the 60%/40% taxation rule may not apply for all gains. However, you will still be taxed every year regardless of whether you sell the fund. You will have to take a closer look at your tax statement to determine your reportable income and capital gains.
Grantor Trust Rules
Another common structure employed by some commodity 'ETFs' is the Grantor Trust. The most prominent examples of this structure are SPDR Gold Shares (GLD), iShares COMEX Gold Trust (IAU), and iShares Silver Trust (SLV). Direct investments in precious metals are taxed at ordinary income rates (currently 28%) upon sale of the trust. Oddly enough, you might not receive either a K-1 or a Form 1099 for an investment here, so make sure you are diligent about your reporting.
If your Grantor Trust fund holds physical metals, like gold bullion, here is a taxation guide:
1) The fund holds physical metals.
2) You will be taxed upon sale at ordinary income rates.
3) Ordinary income rates are higher than capital gains rates.
4) The fund does not distribute realized capital gains.
5) The fund generates no interest income.
Leveraged and Inverse Funds
Leveraged and inverse-themed ETFs are another example of how the tax-efficiency that a vanilla ETF offers isn't always universal. In 2008, numerous funds of this type paid out eye-popping distributions to investors who held them in taxable accounts. Additionally, many investors were shocked to find out that regardless of how long they held these funds their gains were deemed short-term capital gains by the IRS. We discussed this issue in more detail in an article titled "The Tax Man Cometh for Leveraged and Inverse ETFs."
So, why do these leveraged exchange-traded products tend to be less tax efficient than their traditional counterparts? Unlike other ETFs, leveraged and short ETFs do not use a portfolio of exchange-traded assets (namely stocks and bonds) to track their benchmark index. Instead, they keep their assets in a pool of cash and enter custom swap agreements to produce the desired returns. This means that when authorized participants create or redeem new shares of UltraShort S&P500 ProShares
(SDS) for example, they merely exchange the shares for a set amount of cash as opposed to a basket of securities...."
http://news.morningstar.com/articlen...aspx?id=284287
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