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The Inside Income Service launched Discover 2026-62 and Income Ruling 2026-20 on Sep. 29, focusing on the tax methods utilized by some funding funds.
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Income Ruling 2026-20 applies substance over type and step transaction doctrines to reject the tax advantages sought below Code Sec. 852(b)(6). Discover 2026-62 identifies that transaction and different transactions that the IRS is reviewing for potential steering. The IRS additionally states that its steering, as soon as issued, could also be utilized retroactively.
Rev. Rul. 2026-20 concerned the switch by an investor of appreciated securities to a newly fashioned exchange-traded fund. The ETF then distributed some or the entire securities to a different investor within the ETF in redemption of shares with the intent to qualify the transaction as a tax-free redemption below Code Sec. 852(b)(6). The IRS rejected the taxpayer’s characterization of the transaction and handled the complete transaction collectively as a taxable change below Code Sec. 1001.
Discover 2026-62 alerts taxpayers to a sequence of transactions the place the IRS is worried that taxpayers are looking for tax advantages that aren’t supposed below the legislation. The IRS seeks feedback on the suitable scope of forthcoming steering.
Code Sec. 852(b)(6) transactions
The discover addresses Code Sec. 351 conversion transactions concerned in Rev. Rul. 2026-20 the place a taxpayer engages in a sequence of transactions involving new ETFs designed to diversify holdings with out incurring capital acquire taxes. The discover goes on to say that the IRS is contemplating comparable remedy for transactions involving partnerships and Code Sec. 721(a).
The discover additionally highlights “field unfold funds” the place a taxpayer, as a substitute of paying out curiosity or taxable dividends, makes use of Code Sec. 1256 choices and triggers an in-kind redemption to filter the acquire earlier than expiration of the choices. The investor seeks to defer taxes till the shares are offered or the place the fund deducts the corresponding loss whereas flushing out the acquire tax-free. The IRS can be involved about comparable transactions with each a field unfold transaction and a separate transaction involving offsetting positions that represent a straddle below Code Sec. 1092(c)(1) the place the place within the straddle that has unrealized acquire for federal revenue tax functions is distributed.
The discover additionally highlights ETF timing maneuvers round company dividend issuance dates. It discusses conditions the place the ETF mother or father holds ETFs monitoring an index. Simply earlier than the fund’s dividend report date, the mother or father ETF points a creation unit to a licensed participant in change for property in a distinct ETF that tracks the identical index. The mother or father ETF subsequently distributes to the licensed participant the shares of the acquired ETF in redemption of the mother or father ETF shares.
The discover additionally addresses revenue take a look at avoidance by mutual funds. Some ETFs are taking the place that Code Sec. 852(b)(6) allows them to circumvent the revenue take a look at in Code Sec. 851(b)(2) by avoiding the popularity of beneficial properties with respect to distributed property that might not be qualifying revenue.
Methods of tax-aware funds
The IRS can be involved about a number of multiposition methods of “tax-aware” funds that use technical variations amongst economically comparable monetary merchandise, funds, or timing and identification guidelines to create a sample of producing capital beneficial properties and peculiar losses.
The discover addresses Code Sec. 1092 (a)(2) recognized straddles with combined character, recognized straddles used to transform character, same-day acquisitions and inclinations of overseas foreign money ahead contracts, selective notional principal contract terminations used to acquire inconsistent character, and selective notional principal contract termination methods.
Subsequent steps
The IRS is looking for feedback to attempt to assist it deal with abusive transactions with out interfering with regular enterprise transactions. It intends to problem steering within the type of rules, notices, income rulings or different steering making use of anti-abuse guidelines and judicial doctrines with the purpose of figuring out transactions of curiosity or listed transactions.
The IRS requested feedback by Oct. 28, 2026. Nonetheless, it additionally indicated that it will attempt to think about later feedback if it didn’t delay the issuance of forthcoming steering.
The company additional indicated that it might apply some steering retroactively in applicable circumstances, with Discover 2026-62 offering discover to taxpayers of probably problematic transactions.
