While ETFs are generally regarded as “tax-efficient” investments, the multiplicity of product structures in the ETP market has created a maze of confusing possible outcomes. But by choosing the right ETP structure, along with placing it in the right type of account, advisors can help clients to greatly reduce clients’ tax bill.
ETP asset classes include bonds, commodities, currencies and stocks. Some ETPs will own the underlying securities while others will use derivatives like options or futures contracts to obtain their exposure.
Regarding product structures, ETPs generally use the following types: open-end funds, unit investment trusts (UITs), grantor trusts, limited partnerships (LPs) and exchange-traded notes (ETNs).
Before examining the specific tax treatment of ETPs, let’s analyze some simple tax-cutting strategies that use the instruments.
Smart Asset Location
Diligent financial advisors are wise to spend effort in determining the correct asset allocation for clients. But they should not overlook the importance of smart “asset location.” It’s a deliberate process that involves strategically located ETP investments among taxable and tax-deferred accounts to cut tax liabilities.