Why buying ETFs feels easy, until the tax man comes knocking

News.com.au

7 hours ago

ETFs aren't as simple at tax time
You must report all income, even if reinvested
AMMA statements are essential for getting tax right
For most Aussie investors, ETFs feel like the ultimate set-and-forget play.
Buy a few low-cost funds, reinvest the returns, and let compound interest do the heavy lifting. Too easy, right?
Well… not quite.
Because when it comes to tax time, the ATO doesn't care how chill your strategy is.
If you own ETFs, there's a good chance your return is more complicated than you think.
What the ATO says
Let's start with the basics.
The ATO classifies ETFs as managed investment trusts, meaning you're not buying assets directly, you're buying units in a trust that holds the assets for you.
That trust collects income and passes it on to you in the form of distributions.
These distributions can include all sorts of income: dividends, interest, capital gains, even foreign income.
And yep, you have to declare all of it, even if you never actually see the cash.
That includes when your distribution is reinvested into more ETF units (via DRPs or dividend reinvestment plans), or when the ETF holds some of it back for fees and reserves.
The ATO expects you to declare any income attributed to you in the year it's earned, not when it hits your bank account.
They also expect you to report capital gains when you sell your ETF units, just like shares.
And if your ETF sells assets inside the fund, they can pass those capital gains onto you, even if you didn't touch a thing.
And that is where most DIY investors get blindsided.
'You're probably underreporting your tax'
According to chartered accountant Davie Mach, that's one of the biggest traps ETF investors fall into.
'If you invest in ETFs and you're not across how it works, how capital gains are attributed, or what to do with foreign tax offsets, you're probably underreporting your tax,' he said on his podcast.
'And with the ATO cracking down harder on ETF investors, that's a risk you can't afford to take.'
Mach breaks it down: most Aussie ETFs operate under the AMIT (Attribution Managed Investment Trust) regime, meaning they attribute income to investors whether or not it's paid in full.
So if the ETF says you earned $100, but they only paid you $90, you still have to report the full $100 on your tax return.
The good news is that $10 difference increases your cost base, which decreases your capital gains tax when you eventually sell.
ETF providers send out AMMA statements. In other words, your end-of-year tax roadmap showing how much income was attributed to you, including franking credits, foreign income, offsets and capital gains.
These numbers go into very specific boxes on your return.
If you miss one, or worse, just report what landed in your bank account, you're probably getting it wrong.
'Don't ignore your ETF tax statements'
Tax agent Irene Zhu has seen that mistake too many times.
'The biggest mistake I see, especially from beginners, is this – they completely ignore their ETF tax statements,' Zhu said on her podcast.
'They don't know what it means. They don't use them. And when tax time rolls around, they just enter whatever cash hit their bank account.'
She also warns about foreign ETFs.
If you've got US-listed ETFs in your portfolio, the IRS may have already taken a slice before your money arrives.
You might be eligible to claim that back through a foreign income tax offset. But again, only if you report it correctly.
A few simple fixes that could save you thousands
Both Zhu and Mach agree on a few key rules of thumb for ETF investors:
Wait for your tax statement. Don't lodge early just because you want it done. Your ETF's AMMA statement usually lands around August and has all the info you need.
Use prefill, but don't blindly trust it. Cross-check it with your statement.
Track your cost base. That's your running total of what you paid and all the adjustments over time. If you're not updating it, your capital gains tax could be way off when you sell.
Be careful buying ETFs near the end of the financial year. You might cop a capital gains distribution you weren't expecting.
So... ETFs might seem like the low-maintenance option, but from a tax perspective, they're anything but.
'Taxes are one of those quiet wealth killers. You don't notice at first, but over time, they can eat a big chunk of your returns,'' said Zhu.
Read the fine print, track your numbers, and remember, when it comes to ETFs, the ATO's watching, even if you aren't.