Treasury, IRS target Section 351 ETF conversions in Rev. Rul. 2026-20
Rev. Rul. 2026-20 denies section 351 nonrecognition for pre-planned ETF conversions, while Notice 2026-62 flags partnership, box-spread and tax-aware fund strategies as potentially abusive; comments close October 28, 2026.
On September 28, 2026, Treasury and the IRS issued paired guidance on gain-deferral strategies built around ETFs. Revenue Ruling 2026-20 denies nonrecognition under section 351 where an investor contributes an appreciated, diversified portfolio to a newly formed ETF and, under a common plan, those securities are distributed to an authorized participant in redemption of AP shares under section 852(b)(6). Following Kuper v. Commissioner, the Commissioner treats the arrangement as a taxable exchange under section 1001 — and sets no holding period, so a redemption long after contribution may be recharacterized if both steps implement one plan.
Notice 2026-62 extends that approach to a partnership variation sidestepping section 351(e)(1)(B), box-spread strategies manufacturing Treasury-bill-like returns, dividend record-date switching between index-tracking ETFs, and RIC income-test avoidance under section 851(b)(2). It also targets identified straddles, same-day currency forwards and notional principal contracts used to split capital gain from ordinary loss. Traditional tax-loss harvesting, ETF seedings and heartbeat trades are not questioned.
Fund counsel and banks serving as authorized participants should inventory strategies dependent on a pre-arranged contribution-and-redemption sequence, document genuine arbitrage separately, and consider comments due October 28, 2026; further guidance is flagged as possible and potentially retroactive.