Individual investors may experience a substantial difference in the taxation of various investment vehicles used to track the price of gold. To detail out these differences, let's assume that an investor wishes to compare the tax implications of investing in the SPDR Gold Trust (an exchange traded fund), DB Powershares Gold Fund (an exchange traded fund), PowerShares DB Gold Double Long ETN (an Exchange Traded Note), and gold bullion.
The SPDR Gold Trust, consistent with Internal Revenue Service Chief Counsel Memorandum , is structured as a grantor trust for federal tax purposes and directly invests in gold. Shareholders are treated as if they own a pro rata share of the underlying assets of the Trust. The Trust's income and expenses flow through to the shareholder. Accordingly, the shareholder is subject to the maximum 28% capital gains tax on collectibles when the investment is held for more than one year. The definition of collectibles is found in Code Section 408(m)(2). If the holding period is short-term, the usual short-term capital gain rules apply. More information about the taxation of this ETF, or any ETF for that matter, can be found in the ETF's prospectus. The SPDR Gold Shares prospectus is located here.
In contrast, the DB Powershares Gold Fund is structured as a partnership for federal tax purposes and invests in actively traded futures contracts. The investor is purchasing a publicly traded partnership. Shareholders are taxed on their pro rata share of income, gain, loss, deduction, and other items. The shareholder will receive a Schedule K-1 each year denoting these amounts.
Because the fund holds futures contracts, six-tenths of the profits will be taxed at long-term capital gains rates and the remaining four-tenths will receive short-term capital gains treatment. This calculation is done at the partnership level and flows through to the Schedule K-1. One may also report interest income from the Schedule K-1 from overnight investments and swap agreements entered into by the partnership. At year-end, regardless of whether gains or losses have been realized, the futures contracts are marked to market. This causes the partnership to report gain or loss even though nothing was sold. The partnership is not required to distribute any of these gains, losses or interest to the investor, so the investor may be paying tax, but not receiving any distributions!
When the investor sell the ETF, he is selling his share of the partnership. Consequently, he will report a capital gain or loss, short-term or long-term depending upon the holding period, equal to the difference between the proceeds and his adjusted basis in the partnership. The adjusted basis will most likely be provided to him on a schedule by the partnership, but not always.
The PowerShares DB Gold Double Long ETN is an exchange traded note. ETN's are long-term, unsecured notes issued by a bank that do not require any interest or principal payments prior to maturity. The ultimate payment at maturity is equal to the value of the principal payments as if it were invested in the underlying benchmark the ETN was designed to track, less any fees.
ETN's are currently taxed as prepaid financial contracts. If one reads the prospectus for this ETN, one will find that "significant aspects of the U.S. federal income tax consequences of an investment in the securities are uncertain." The IRS issued Notice 2008-2 seeking comments on the appropriate tax treatments of instruments decribed as prepaid forward contracts. If the ETN is treated as a prepaid financial contract, then the gain or loss will be subject to long-term or short-term capital gains tax when the ETN is sold just as if one bought a stock. However, the prospectus also provides for two alternative tax treatments detailed here in the prospectus. Until the IRS comes out with definitive guidance, there may be an issue here for investors if the prepaid financial contract position is disallowed by the IRS.
By purchasing gold bullion, one is subject to the maximum capital gains rate on collectibles of 28% if the bullion is held for more than one year and short-term capital gains if held for less than one year. The primary issues with bullion are storage and insurance costs.
It's important to read the prospectus before you invest in Exchange Traded Funds (ETF) and Exchange Traded Notes (ETN) in order to understand the tax implications. The option that is best for one's investment portfolio and tax situation varies by investor. For example, with bullion one can defer gain until one sells it. With the grantor trust (SPDR Gold Trust) or partnership (DB Powershares Gold Fund), it may be harder to defer gain as the SPDR Gold Trust may sell gold to pay trust expenses and one will be taxed on one's share of partnership income on the DB Powershares Gold Fund whether or not one sells one's investment. It's important to read up before you leap for the gold.
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