Special rules for commodity ETFs

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!

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Article copyright 2012 by J.K. Lasser Tax Institute. Reprinted and adapted from J.K. Lasser’s Your Income Tax 2012 with permission from John Wiley & Sons, Inc. The statements and opinions expressed in this article are those of the author. Fidelity Investments® cannot guarantee the accuracy or completeness of any statements or data. This reprint and the materials delivered with it should not be construed as an offer to sell or a solicitation of an offer to buy shares of any funds mentioned in this reprint. The data and analysis contained herein are provided "as is" and without warranty of any kind, either expressed or implied. Fidelity is not adopting, making a recommendation for or endorsing any trading or investment strategy or particular security. All opinions expressed herein are subject to change without notice, and you should always obtain current information and perform due diligence before trading. Consider that the provider may modify the methods it uses to evaluate investment opportunities from time to time, that model results may not impute or show the compounded adverse effect of transaction costs or management fees or reflect actual investment results, and that investment models are necessarily constructed with the benefit of hindsight. For this and for many other reasons, model results are not a guarantee of future results. The securities mentioned in this document may not be eligible for sale in some states or countries, nor be suitable for all types of investors; their value and the income they produce may fluctuate and/or be adversely affected by exchange rates, interest rates or other factors. The tax information contained herein is general in nature, is provided for informational purposes only, and should not be construed as legal or tax advice. Fidelity does not provide legal or tax advice. Fidelity cannot guarantee that such information is accurate, complete, or timely. Laws of a particular state or laws which may be applicable to a particular situation may have an impact on the applicability, accuracy, or completeness of such information. Federal and state laws and regulations are complex and are subject to change. Changes in such laws and regulations may have a material impact on pre- and/or after-tax investment results. Fidelity makes no warranties with regard to such information or results obtained by its use. Fidelity disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information. Always consult an attorney or tax professional regarding your specific legal or tax situation.

Exchange-traded products (ETPs) are subject to market volatility and the risks of their underlying securities, which may include the risks associated with investing in smaller companies, foreign securities, commodities, and fixed income investments. Foreign securities are subject to interest rate, currency exchange rate, economic, and political risks, all of which are magnified in emerging markets. ETPs that target a small universe of securities, such as a specific region or market sector, are generally subject to greater market volatility, as well as to the specific risks associated with that sector, region, or other focus. ETPs that use derivatives, leverage, or complex investment strategies are subject to additional risks. The return of an index ETP is usually different from that of the index it tracks because of fees, expenses, and tracking error. An ETP may trade at a premium or discount to its net asset value (NAV) (or indicative value in the case of exchange-traded notes). The degree of liquidity can vary significantly from one ETP to another and losses may be magnified if no liquid market exists for the ETP's shares when attempting to sell them. Each ETP has a unique risk profile, detailed in its prospectus, offering circular, or similar material, which should be considered carefully when making investment decisions.

Commodity ETPs are generally more volatile than broad-based ETFs and can be affected by increased volatility of commodities prices or indexes as well as changes in supply and demand relationships, interest rates, monetary and other governmental policies or factors affecting a particular sector or commodity. ETPs that track a single sector or commodity may exhibit even greater volatility. Commodity ETPs which use futures, options or other derivative instruments may involve still greater risk, and performance can deviate significantly from the spot price performance of the referenced commodity, particularly over longer holding periods.