Inflation recently rose to 30-year highs, and that’s generated more interest in inflation hedges, especially investing in gold. Political uncertainty and geopolitical tensions also increase interest in gold.
Gold isn’t a perfect inflation hedge. Its price soared in 2020, but it declined in 2021. In general, the price of gold should increase if inflation remains high and the dollar is weak.
A key to investing in gold successfully is to minimize taxes on your profits. Gold often is taxed differently than other investments, and the tax rules vary based on which of the many different ways to invest in gold you choose.
Before investing, consider the tax effects of the most common ways to invest in gold.
Bullion. The classic gold investment is bullion. But bullion (whether gold or another metal) is designated as a collectible under the tax code, making it ineligible for regular long-term capital gains treatment. Bullion includes both coins and bars.
Long-term gains on bullion are taxed at your ordinary income tax rate, up to a maximum rate of 28%. Short-term gains on bullion, like other investments, are taxed as ordinary income. An asset must be held for more than one year for any gains or losses to be long-term.
In addition, collectibles, including bullion, cannot be owned in either a traditional or Roth IRA. The purchase of a collectible is a prohibited transaction and is treated as a distribution to the IRA owner.
But some forms of bullion and coins are exempt from treatment as collectibles. Coins that are legal tender in the U.S., such as American Eagles, aren’t collectibles. Any coin issued under the laws of any state also is exempt. Bullion of a certain fineness also isn’t a collectible. To qualify for the exemption, the bullion or coins must be in the physical possession of a bank or approved non-bank trustee.
If an IRA purchases a non-exempt collectible, the purchase amount is included in the owner’s gross income when the purchase was made, and there is a penalty for each year the investment stays in the IRA. If the owner is younger than 59½, the amount invested in the collectible also is subject to the 10% early distribution penalty, unless the owner qualifies for an exception.
ETFs. My recommended way to own gold is through exchange-traded funds (ETFs), because they are very liquid and have low costs. When you buy gold as an individual, you have to pay for insurance, storage, and shipping. The ETF is likely to pay much less for these services and is likely to pay a lower bid/ask spread when buying and selling.
A big advantage of the ETFs is liquidity. You can sell the shares any time the markets are open and as quickly as any stock can be sold. The largest ETFs generally trade at very modest premiums or discounts to net asset value.
The IRS issued rulings to the largest ETFs about their tax treatment.
The shares of the ETFs are investments in collectibles for purposes of the capital gains tax rules. They’ll be taxed the same as bullion, discussed above.
But under the IRA rules, shares of the ETFs are not considered prohibited collectibles. Instead, the investor is purchasing shares of a fund, because the shareowner does not have a legal claim on a share of the bullion held by the ETF and cannot force a distribution.
The two largest ETFs that buy and store gold are iShares Gold Trust (ticker: IAU) and SPDR Gold Trust (GLD). These funds are organized as trusts with ownership interests that trade on the stock exchanges. The Private Letter Rulings issued to them are 200732026 and 200732027. The rulings were are discussed in the “Tax Risks” sections of their prospectuses.
But not all gold ETFs are taxed the same way. For example, VanEck Merk Gold (OUNZ) owns gold bullion and stores it in vaults, but it allows investors to redeem their shares for bullion or bullion coins. (There is a fee for redemptions below a minimum level.) Because of the ability to redeem shares for bullion, ownership of OUNZ by an IRA is treated as the direct purchase of a collectible.
Futures. You can trade gold futures yourself or own an ETF that does the trading.
The futures contracts aren’t considered direct ownership of gold, so they aren’t collectibles. Futures are taxed very differently from other investments, and an owner of a futures ETF is taxed just as if the owner held the individual futures contracts.
In futures ownership and trading, all gains are treated as 60% short-term and 40% long-term, regardless of the holding period. In addition, the futures contracts are marked to market at the end of each calendar year, and taxes are computed on the paper gains and losses.
An ETF that trades futures is likely to be organized as a partnership for tax purposes. That means gains and losses of the fund pass through to shareholders’ tax returns each year. Net gains must be included in gross income, even if there weren’t any distributions and the investor didn’t sell any fund shares.
Equities. Instead of investing in bullion or futures, an investor can purchase the shares of companies that mine and produce gold and perhaps other metals.
For tax purposes, shares of gold mining companies are treated the same as other stocks, not as collectibles. Gold miners’ shares can be owned in IRA. When owned in taxable accounts, they qualify for the regular maximum long-term capital gains rate when held for more than one year, not the collectibles tax rate. Shorter holding periods result in short-term capital gains. Losses also are deducted the same as capital losses on other stock shares.
Gold mining company shares can be purchased individually, through open-end mutual funds, or through ETFs.
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