IRS probes $7B crypto ETF in-kind transfers

The Treasury Department and the Internal Revenue Service are examining a tax practice that uses in-kind ETF redemptions to exclude digital-asset gains from the 90% gross income test that regulated investment companies must meet. The agencies raised the issue in Notice 2026-62 after filings showed roughly $7.22 billion of crypto moved in-kind by BlackRock’s iShares Bitcoin and Ethereum trusts in the first half of 2026.

Under rules for regulated investment companies, a fund generally must derive at least 90% of its annual gross income from qualifying sources such as dividends, interest and certain securities gains. Some managers contend that when a fund distributes appreciated property in-kind during an authorized participant redemption, the fund does not recognize the embedded gain under Section 852(b)(6) and therefore can exclude that amount from the RIC income calculation. Treasury has asked for information and expressed skepticism about that interpretation.

The agencies also addressed a separate practice in Revenue Ruling 2026-20. That ruling rejects prearranged transactions that used Section 351 structures in which investors contributed appreciated securities to a fund and quickly redeemed them back out. The IRS described those transactions as recharacterizable as taxable exchanges. Treasury Secretary Scott Bessent wrote on X that regulators are “serious about cracking down on transactions designed to dodge taxes or exploit our federal tax code.” He added that the Section 351 conversions “don’t work under existing law.”

BlackRock’s filings show the volume of in-kind crypto transfers now occurring in the market. The iShares Bitcoin Trust recorded about $5.49 billion of Bitcoin distributed in-kind through June 2026, including roughly $3.85 billion in the second quarter. The iShares Ethereum Trust distributed about $1.72 billion of Ethereum in the same period. The Bitcoin trust also reported about $9.36 billion of in-kind creations during the six months.

Those two BlackRock products are treated as grantor trusts for federal income-tax purposes, which means gains and losses generally pass through to shareholders rather than being tested under the 90% RIC rule. Treasury’s notice targets RICs that acquire crypto exposure directly or through vehicles such as grantor trusts and then use in-kind redemptions to remove appreciated positions that could otherwise affect the RIC income calculation.

Notice 2026-62 lists several possible responses. The agencies could issue regulations, revenue rulings or other guidance. They could label certain arrangements as transactions of interest or listed transactions, triggering additional reporting. Any new guidance could be prospective or, where legally allowed, applied retroactively. The IRS also said it can challenge potentially abusive strategies during routine examinations without waiting for formal new rules.

Fund sponsors using or planning crypto-linked RIC structures may be asked to document the economic purpose of redemption baskets, change how baskets are composed, obtain legal opinions or limit reliance on excluding in-kind distributed gains from the RIC test. Treasury and the IRS have not issued a binding rule on the matter and continue to consider next steps.