An Underrated Benefit to ETFs: Tax Loss Swaps
One often overlooked benefit of exchange traded funds (ETFs) owner-ship is tax efficiency. Since most ETFs are based on passive indices in-stead of actively managed, portfolio turnover is usually low. In addi-tion, when ETF shares are traded between investors there is no need to buy or sell the underlying holdings (a technique used in mutual funds) which also adds to their tax efficiency. Another lesser known tax benefit of ETFs is the ability of the fund to eliminate taxable gains within the fund when large blocks of shares, or units, are redeemed for the underlying securities.
Beyond their tax-friendly internal mechanisms, the use of ETFs as a temporary, or permanent, replacement for an investor’s current market exposure has become very popular. These “tax swaps” have become more common as market volatility has increased and clients are look-ing to offset losses in their portfolios. A tax swap is the process of sell-ing one security for tax purposes and immediately buying a simi-lar investment. This practice allows investors to maintain or alter their market exposure and asset allocation while offsetting a loss or cap-turing a gain. The so called “wash sale” rule prevents investors from claiming a loss on a stock if a “substantially identical” security is pur-chased within 30 days of the sale. This would mean that funds or ETF’s that track the same index and/or have nearly identical holdings within them would not typically be allowed as that would violate the wash sale rule.
However, if you find a portfolio that delivers similar exposure to a par-ticular area of the market or sector that tracks a different index and thereby does not mirror the holdings of your current portfolio, you are able to swap one for the other and capture the gain or loss.
Information represented in this piece does not constitute legal, tax or investment advice. Investors should consult their legal, tax and financial advisors before making any financial decisions.
The Internal Revenue Service has not released a definitive opinion regarding the definition of “substantially identical” securities and its application to the wash-sale rule and the utilization of exchange-traded funds. The information provided is not intended to provide investors with a complete view of the tax law and/or tax loss strategies and tactics that can be implemented through the use of ETFs. Rather, the information presented in this paper has been presented for educational purposes only. You should always consult the advice of a tax attorney or tax advisor before imple-menting any such strategy.
An investor would need to consult carefully with a tax advisor to confirm that the ETF in which he reinvests is sufficiently different from the original investment not to trigger a wash sale.
Before investing, carefully consider the funds’ investment objectives, risks, charges and expenses. To obtain a prospectus which contains this and other information, call 1-888-800-4347 or click here to view or download a prospectus online. Read it carefully.
In addition to the normal risks associated with investing, emerging market investments do involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles, from economic or political instability in other nations or increased volatility and lower trading volume. Concentration Risk. This fund will con-centrate its investments in issuers of one or more particular industries to the same extent that its Underlying Index is so concentrated and to the extent permitted by applicable regulatory guidance. Concentration risk results from maintaining exposure to issuers conducting business in a specific industry.
The Emerging Global Shares Funds ("Funds") are distributed by ALPS Distributors, Inc. ALPS Advisors, Inc. serves as the investment advisor to the Funds. Emerging Global Advisors acts as the sub-advisor to the Funds. ALPS and Emerging Global Advisors are unaf-filiated entities.
“Dow Jones”, and “Titans” are service marks of Dow Jones Indexes and have been licensed for use for certain purposes by EGA. The Funds are not sponsored, endorsed, sold or promoted by Dow Jones Indexes. Dow Jones Indexes makes no representation or war-ranty, express or implied, to the owners of the Funds or any member of the public regarding the advisability of investing in securities generally or in the Funds particularly. Dow Jones Indexes’ only relationship to EGA is the licensing of certain trademarks, trade names and service marks of Dow Jones Indexes and of the Underlying Indices, which are determined, composed and calculated by Dow Jones Indexes without regard to EGA or the Funds. Dow Jones Indexes has no obligation to take the needs of EGA or the shareholders of the Funds into consideration in determining, composing or calculating the Underlying Indices. Dow Jones Indexes is not responsible for and has not participated in the determination of the timing, amount or pricing of the Fund Shares to be issued or in the determination or calculation of the equation by which the Fund Shares are to be converted into cash. Dow Jones Indexes has no obligation or liability in connection with the administration, marketing or trading of the Funds.
Frequent trading of ETFs could significantly increase commissions and other costs such that they may offset any savings from low fees or costs. In general, ETFs can be expected to move up or down in value with the value of the applicable index. Although ETFs may be bought and sold on the exchange through any brokerage account, ETFs are not individually redeemable from the Fund. In-vestors may acquire ETFs and tender them for redemption through the Fund in Creation Unit Aggregations only. Please see the pro-spectus for more details.
This material is for informational purposes only and does not constitute investment or tax advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor’s particu-lar investment objectives, strategies, tax status or investment horizon. There is no representation or warranty as to the current accu-racy of, nor liability for, decisions based on such information. All performance information is historical and not indicative of future re-sults. All investing involves risk. Holdings are subject to change without notice.
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