Senate Proposal Would Pass Capital Gains Tax to ETF Investors

Chris Gaetano
Published Date:
Sep 17, 2021

Senator Ron Wyden (D-Ore.) has proposed measures aimed at curbing the $5.4 trillion market for exchange-traded funds (ETFs) by changing how capital gains taxes are applied to the investments, MarketWatch reported

An ETF is a collection of stocks bundled together and sold as individual shares, which allows people to invest in broad segments of the market without having to buy specific companies themselves; there are ETFs for industries such as cannabis, assets such as Treasuries, geographical regions such as China, specific stock indices such as the Nasdaq, or even themes such as sustainability or woman-owned-and-operated companies. 

ETFs minimize tax liabilities, according to ETF Trends, by paying large redemptions with shares of stock. The shares with the lowest cost basis in the trust are given to the redeemer. The result is an increase in the cost basis of the ETFs' overall holdings, but a reduction in capital gains. The low turnover means that capital gains in ETFs are relatively rare, as a result of the creation/redemption process.

With his bill, Wyden, who chairs the Senate Finance Committee, aims to require that these funds pass capital gains on to individual investors in a similar manner to many mutual funds. 

As one might imagine, ETF managers had strongly negative reactions to the idea. Industry lobbyists said that investors pay capital gains upon selling the stock anyway, and that, furthermore, the current setup prevents them from getting unexpected tax bills due to the actions of other investors. 

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