Taxation of ETNs

Treat the tax treatment of an equity- or commodity-linked ETN as unsettled, because it is. The market takes the position that such a note is a prepaid forward contract — an open transaction that distributes nothing, accrues nothing, and produces a single capital gain or loss when you sell, redeem, or hold it to maturity. Held more than twelve months, that becomes one long-term capital gain instead of a decade of annual ordinary-income distributions, which is the entire tax case for the wrapper. But no statute, regulation, or ruling actually blesses that position for equity- and commodity-linked notes. Treasury and the IRS asked for comments on how to tax these instruments in Notice 2008-2, floated current accrual as one of the alternatives under consideration, and have never issued the final guidance. That question has now been open since 2007. Nothing stops it from closing against you.

One category is already settled, and settled badly. Under Rev. Rul. 2008-1, a foreign-currency-linked ETN is debt for federal tax purposes even when you pay and are repaid in dollars — so you accrue OID annually with no cash to pay it with, and IRC §988 converts the entire gain to ordinary income. The ruling expressly declined to address notes linked to equities or commodities, which is why those remain in limbo instead of in the clear. Read the tax section of the prospectus before you buy: the issuer states its own intended treatment there, and also states that the IRS may disagree.