Key Takeaways
- • The IRS and Treasury Department are scrutinizing how crypto ETFs employ in-kind redemption structures to potentially avoid taxable gains, targeting a $7 billion market segment that has rapidly adopted traditional fund mechanics.
- • Treasury's enforcement concern centers on the 90% gross income test required for regulated investment companies (RICs), where fund managers may be attempting to exclude gains from digital assets and commodities from the calculation altogether.
- • The SEC approved in-kind creations and redemptions for spot crypto ETFs in 2025, intended to reduce costs and price slippage, but Treasury now questions whether some funds are exploiting this machinery beyond its intended purpose.
- • Treasury Secretary Scott Bessent framed the crackdown as part of a broader campaign against tax-motivated investment strategies, signaling heightened regulatory scrutiny of structures designed to dodge federal tax obligations.
- • The enforcement action stops short of challenging conventional ETF redemption mechanics themselves, but targets specific structural arrangements using those transactions to achieve tax outcomes with minimal relationship to underlying fund economics.
Summary
The Internal Revenue Service and Treasury Department have launched a scrutiny campaign targeting crypto exchange-traded funds that may be exploiting in-kind redemption structures to minimize tax liability. The action focuses on a $7 billion market that has rapidly adopted the same infrastructure long used by traditional ETF managers, particularly following the SEC's 2025 approval of in-kind creations and redemptions for spot cryptocurrency products.
Treasury's enforcement concern centers on how certain crypto ETFs interpret the 90% gross income test governing regulated investment companies (RICs). Under this rule, RICs must derive at least 90% of annual gross income from qualifying sources—including dividends, interest, and gains from stocks, securities, and certain currencies—to maintain favorable tax treatment. According to the Treasury notice, some fund managers argue they can exclude gains from digital assets or commodities held directly or through grantor trusts from this calculation entirely, thereby artificially inflating the percentage of income from qualifying sources.
Rather than challenging the mechanics of in-kind redemptions themselves, Treasury specifically targets structures that use these transactions to achieve tax outcomes bearing little economic relationship to the fund's underlying holdings. The distinction is important: the SEC's original intent in approving in-kind redemptions was to reduce operational costs and price slippage, not to create tax arbitrage opportunities.
Treasury Secretary Scott Bessent underscored the enforcement priority on social media, characterizing the action as part of Washington's broader crackdown on "transactions designed to dodge taxes or exploit our federal tax code." The timing reflects intensifying regulatory focus on cryptocurrency infrastructure as digital asset adoption accelerates across institutional portfolios.
Treasury's enforcement concern centers on how certain crypto ETFs interpret the 90% gross income test governing regulated investment companies (RICs). Under this rule, RICs must derive at least 90% of annual gross income from qualifying sources—including dividends, interest, and gains from stocks, securities, and certain currencies—to maintain favorable tax treatment. According to the Treasury notice, some fund managers argue they can exclude gains from digital assets or commodities held directly or through grantor trusts from this calculation entirely, thereby artificially inflating the percentage of income from qualifying sources.
Rather than challenging the mechanics of in-kind redemptions themselves, Treasury specifically targets structures that use these transactions to achieve tax outcomes bearing little economic relationship to the fund's underlying holdings. The distinction is important: the SEC's original intent in approving in-kind redemptions was to reduce operational costs and price slippage, not to create tax arbitrage opportunities.
Treasury Secretary Scott Bessent underscored the enforcement priority on social media, characterizing the action as part of Washington's broader crackdown on "transactions designed to dodge taxes or exploit our federal tax code." The timing reflects intensifying regulatory focus on cryptocurrency infrastructure as digital asset adoption accelerates across institutional portfolios.
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