- A recently published report inaccurately presents potentially negative tax impacts to shareholders of GBTC in the event of cash redemptions, a concept that applies to mutual funds.
- Unlike mutual funds and many other ETFs, substantially all spot commodity ETFs (e.g., gold) are structured to be grantor trusts for tax purposes.
- The taxation of grantor trusts is not the same as the taxation of mutual funds, which may have capital gains or losses that impact shareholders remaining in the fund.
- That means that no such spot commodity ETF that is a grantor trust would be at a disadvantage relative to any other spot commodity ETF because of the carrying value of the ETF’s assets, as explained below.
Recently, Bloomberg Intelligence published an analysis called “Bitcoin ETFs: In-Kind vs. Cash Creation & Redemption.” The piece by ETF Analyst James Seyffart states the following:
“If an ETF uses cash for creations and redemptions, the fund must buy and sell assets -- Bitcoin in this case -- which is a taxable event. This could complicate GBTC's conversion into an ETF because it holds many Bitcoin at a low cost basis that will incur capital gains if sold under a cash-only model, as would be necessary in the event of outflows.”
While the rest of the piece was thoughtful, the preceding statement could be more precise to explain who would experience a taxable event upon a cash redemption in GBTC. On behalf of our investors, Grayscale would respectfully like to correct the record.
To set the stage:
1. What is a creation and redemption mechanism? It’s helpful to think about the creation and redemption dynamic as meeting supply and demand: new shares of the ETF are created when there is investor demand, and existing shares of the ETF are destroyed (or redeemed) when the supply exceeds investor demand.
2. Investors buying shares of the ETF is not the same as authorized participants engaging in the share creation process, and similarly an investor selling shares is not the same as an authorized participant engaging in the ETF share redemption process. Only FINRA-registered broker-dealers, known as Authorized Participants (APs), are able to transact in the primary market to create and redeem ETF shares. Distinctly, non-AP shareholders (e.g., retail investors) are not authorized to create or redeem shares of ETFs, but instead can buy and sell shares of the ETF through a brokerage account on the secondary market. The topic we are addressing in this post only relates to AP creation and redemption transactions on the primary market.
Now, to address the tax considerations from the Bloomberg Intelligence piece, as the Grayscale team has carefully and comprehensively considered this topic:
3. The tax rules for grantor trusts that operate as ETFs are designed so that the value of an asset that the ETF records on its books when it acquires the asset will not impact the ETF’s investors’ taxation. Technically, this is called the “carrying value” of an ETF’s assets.
4. Unlike mutual funds and many other ETFs, substantially all spot commodity ETFs are structured as grantor trusts for tax purposes. The taxation of grantor trusts is not the same as the tax treatment for mutual funds, which may have capital gains or losses based on the mutual fund’s carrying value for sold assets that impact the fund’s shareholders.
5. The tax consequences of asset sales by spot commodity ETFs are determined based on the investor’s cost basis versus cash received – and is *not* impacted by the carrying value of the trust’s assets. Moreover, cash redemptions by grantor trusts are taxable events for the redeeming shareholder only – they are not taxable events for the ETF itself or for non-redeeming shareholders.
6. Therefore, no spot Bitcoin ETF that qualifies as a grantor trust would be at a disadvantage in relation to any other spot Bitcoin ETF with respect to cash redemptions due to the carrying value of the assets in the ETF.
While this is all quite technical, it’s encouraging that there continues to be such detailed interest and engagement around the conversation and mechanics of spot Bitcoin ETFs. At Grayscale, we are happy to be a resource for all those interested in learning more and digging deeper into these topics.
And, to GBTC investors - thank you. We appreciate your continued patience, and we remain committed to keeping you informed throughout this process. For additional information, visit: https://grayscale.com/gbtc-lawsuit/
*We use the generic term “ETF” to refer to exchange-traded investment vehicles, including those that are required to register under the Investment Company Act of 1940, as amended (the “‘40 Act”), as well as other exchange-traded products that are not subject to the registration requirements of the ‘40 Act.