The legal structure of the commodity ETFs and the type of ETF—futures-contracts or physical commodity—affect tax results for investors.
J.K. Lasser
There are more than 85 exchange-traded funds (ETFs) that invest in or hold commodities, such as gold, silver, aluminum, copper, heating oil, light crude, natural gas, RBOB gasoline, corn, soybeans, sugar, wheat, and zinc. Many commodity ETFs own futures contracts to gain their commodities positions, while others own the physical commodity. Special tax rules apply to commodity ETFs: The legal structure of the commodity ETFs and the type of ETF—futures-contracts or physical commodity—affect the tax results to investors.
Holding commodity ETFs
Depending on how the ETF is structured, you may have annual income tax issues even though you do not sell your shares. A commodity ETF that is structured like a partnership and owns futures contracts in commodities presents special tax rules for its investors. Each year, investors are required to report the ETF’s capital gains at a hybrid rate of 60% long-term and 40% short-term gains. This is so regardless of actual distributions from the ETF. Investors may also have interest income from the ETFs. Futures-contracts ETFs provide investors with a Schedule K-1 rather than a Form 1099 to report the capital gains allocated to them each year.
Commodity ETFs should be distinguished from commodity exchange-traded notes (ETNs). These, too, can track changes in commodity prices. However, taxwise, they are not subject to the 60%/40% rule. Typically there are no dividend or interest payments during the year. Instead, investors are taxed when shares in the ETNs are sold.
ETFs holding the physical commodity do not distribute their profits to investors, so they do not produce annual tax cost for investors. These ETFs may be structured from a legal standpoint like grantor trusts. The tax consequences to investors result only upon their sale of shares in the ETF.
Special rule for IRAs. While IRAs generally are barred from holding collectibles, they can own certain US gold, silver, and platinum coins as well as gold, silver, platinum, and palladium bullion. IRA owners who want to have a position in precious metals can do so by investing in and are classified as grantor investment trusts. The IRS has ruled privately that IRA owners will be treated as receiving a taxable distribution only if shares in ETFs holding the commodities are distributed to them. If you are still concerned about your IRA being allowed to hold an ETF, read the tax section of the fund's prospectus, which is typically available online.
Selling commodity ETF holdings
Usually, when you sell your shares in an ETF at a profit and have held those shares for more than 1 year, the capital gains tax rates are 0%, 15%, or 20% depending on your taxable income and filing status. However, commodity ETFs may be treated differently, again depending on what type of ETF is involved.
- Investors selling shares in futures-contracts ETFs have already reported their gains; they were passed through to investors and picked up annually. There usually is no additional gain or loss to report when the shares are sold.
- Investors selling shares in commodity ETFs that hold physical gold or silver may be taxed at a long-term capital gains rate of 28% for those in tax brackets at or above 28%. However, if these ETFs are grantor trusts, then investors have ordinary income, rather than capital gain, when they sell their shares.
- Investors selling shares in commodity ETNs generally are subject to the usual capital gain and loss rules. Exception: Gains on the sale of currency ETNs are taxed at ordinary income rates.
Note: In addition to income tax, there may be a special Medicare tax of 3.8%. It applies to net investment income of high-income investors. It does not apply to commodity ETFs held in IRAs.
Final Word
The taxation of commodity ETFs is very complicated. As an investor, you can rely on the annual information return (e.g., a Schedule K-1 or a Form 1099) that you receive from the ETF issuer detailing your tax reporting obligations for the year. However, your personal tax position can impact this tax reporting, so it is important to work with a knowledgeable tax professional to get things right!
