One of the original and longest-standing advantages of exchange-traded funds (ETFs) over mutual funds is their ability to minimize taxable capital gains distributions.
In a mutual fund, portfolio turnover can create realized gains when a manager sells appreciated securities, whether to take profits, rebalance the portfolio or raise cash to meet investor redemptions. Because mutual funds pass those gains through to shareholders, investors can receive a taxable capital gains distribution even if they never sold their own shares.
ETFs sidestep this problem through the in-kind mechanism. Instead of the ETF selling securities to satisfy redemptions, authorized participants can exchange large blocks of ETF shares directly for baskets of underlying securities. This allows the ETF to transfer appreciated securities out of its portfolio to meet outflows without realizing a taxable gain.
The newest generation of ETFs is taking tax efficiency considerably further, in some cases enough to attract scrutiny from federal officials. One increasingly popular strategy is the Section 351 exchange, named after Section 351 of the Internal Revenue Code.
According to Cambria Investment Management, rather than selling a legacy portfolio, paying capital gains taxes and then reinvesting what remains in another ETF, Section 351 exchanges can allow investors with appreciated securities to contribute them to a newly created ETF in exchange for shares. Their embedded gains are effectively carried forward rather than eliminated, allowing the tax liability to remain deferred while the investor transitions from individual securities into a diversified ETF.
There are important restrictions to note. Among other requirements, the contributed portfolio must be sufficiently diversified, with no single position representing more than 25% and the five largest positions collectively accounting for no more than 50% of net asset value. The contributing group must also own at least 80% of the voting power and value immediately following the exchange.
The strategy has attracted considerable attention as its use has expanded. Bloomberg described 351 exchanges as “the latest tax dodge for the ultra-rich” while The Wall Street Journal called it “the tax strategy for people suffering from stock market success.” The U.S. Treasury Department has also indicated that Section 351 transactions are among the tax strategies receiving scrutiny.
That said, Section 351 exchanges are only one example of how ETF structures can improve tax efficiency. Some ETFs generate distributions that can receive more favorable tax treatment than ordinary income, while others are specifically designed to minimize or eliminate distributions altogether.
Here are seven of the best tax-efficient ETFs to buy in 2026:
| ETF | Expense Ratio |
| iShares National Muni Bond ETF (ticker: MUB) | 0.05% |
| F/m Compoundr High Yield Bond ETF (CPHY) | 0.35% |
| Vanguard Dividend Appreciation ETF (VIG) | 0.04% |
| Roundhill S&P 500 No Dividend Target ETF (XDIV) | 0.0849% |
| Alpha Architect 1-3 Month Box ETF (BOXX) | 0.1949% |
| Calamos Tax-Aware Collateral ETF (CBOX) | 0.14% |
| NEOS S&P 500 High Income ETF (SPYI) | 0.68% |
iShares National Muni Bond ETF (MUB)
Bond taxation can be a mixed bag. Treasury interest is generally exempt from state and local income taxes, while corporate bond interest is typically taxed as ordinary income at both the federal and state levels. Investors in higher income tax brackets may therefore find MUB appealing, with its 3.5% 30-day SEC yield translating to an estimated 6% tax-equivalent yield, according to iShares.
MUB’s distributions are generally exempt from federal income tax, although investors can potentially take tax efficiency further with state-specific municipal bond ETFs. For example, iShares offers the iShares New York Muni Bond ETF (NYF) and iShares California Muni Bond ETF (CMF), whose distributions are generally exempt from both federal and respective state income taxes for qualifying residents.
F/m Compoundr High Yield Bond ETF (CPHY)
The total returns of high-yield bond ETFs can diminish considerably because their distributions are generally taxed as ordinary income. Holding them in a Roth IRA can avoid that annual drag, but some investors may have already exhausted their contribution room. CPHY is designed as an alternative, using a fund-of-funds structure that rotates among high-yield bond ETFs before their ex-distribution dates.
This rotation has allowed CPHY to avoid making distributions itself, with positions exchanged in kind where possible to minimize realized capital gains while exiting underlying ETFs before their distributions. Missing the distribution does not inherently sacrifice economic value because an ETF’s share price generally falls by approximately the payout amount on its ex-distribution date.
Vanguard Dividend Appreciation ETF (VIG)
One criticism of dividend strategies is that compounding can be reduced when each distribution creates an immediate tax liability. Investors who still want dividend income can mitigate some of that drag by emphasizing ETFs whose payouts qualify for the lower tax rates applicable to qualified dividend income (QDI), rather than ordinary income. VIG is a good example of this approach in practice.
According to Vanguard, 100% of VIG’s 2025 dividend and net short-term capital gains distributions were eligible for reduced tax rates as QDI. Its benchmark, the S&P U.S. Dividend Growers Index, achieves this by explicitly excluding real estate investment trusts (REITs), whose distributions are generally less tax efficient. VIG charges a low 0.04% expense ratio and currently pays a 1.4% 30-day SEC yield.
Roundhill S&P 500 No Dividend Target ETF (XDIV)
“Even when dividends are reinvested, they still generate a tax liability, which forces investors to keep cash on the sidelines to service it,” says Thomas DiFazio, ETF strategist at Roundhill Investments. “XDIV is actively managed to minimize ETF distributions, which may result in superior after-tax returns for shareholders.” This ETF uses a similar ex-distribution date rotation strategy as CPHY, but for equities.
Unlike much of Roundhill’s lineup, which emphasizes leveraged single-stock products and high-distribution income ETFs, XDIV is relatively affordable with a 0.0849% net expense ratio. So far, the ETF has avoided taxable distributions while closely tracking the S&P 500’s total return. Investors should still expect some tracking error over time, including from the fund’s fees and active implementation.
Alpha Architect 1-3 Month Box ETF (BOXX)
A box spread combines offsetting call and put option positions with the same expiration dates to create a largely predetermined payoff. Depending on how the trade is structured, investors can effectively use a box spread either to borrow money or to earn a return approximating the prevailing risk-free rate. BOXX pursues the latter approach, using ETF FLEX options to target one-to-three-month Treasury bill returns.
Because BOXX is designed to minimize distributions, it does not report a 30-day SEC yield like a conventional Treasury ETF. Instead, Alpha Architect reports an average yield to option expiration, currently around 4%, as a measure of the portfolio’s expected return from its box spreads. BOXX charges a 0.1949% expense ratio. The ETF made only one capital gains distribution, in August 2024.
Calamos Tax-Aware Collateral ETF (CBOX)
CBOX competes directly with BOXX, using a similar box-spread strategy constructed with FLEX options on the SPDR S&P 500 ETF Trust (SPY). The ETF benchmarks itself against the Bloomberg U.S. Treasury Bills 1-3 Months Index and has eked out slight outperformance since inception. Like BOXX, CBOX does not quote a 30-day SEC yield and seeks to minimize taxable capital gains distributions.
CBOX charges a 0.14% expense ratio, making it slightly cheaper than BOXX and still inexpensive even compared with vanilla Treasury bill ETFs. Its role can also extend beyond standalone cash management to institutional use. For example, CBOX is used as collateral supporting swap exposure inside more complex alternative ETFs such as the Calamos Autocallable Income ETF (CAIE).
NEOS S&P 500 High Income ETF (SPYI)
The JPMorgan Equity Premium Income ETF (JEPI) is a covered-call heavyweight with roughly $46 billion in assets under management, but much of its 7.9% 30-day SEC yield can be taxed as ordinary income due partly to its use of equity-linked notes (ELNs). By contrast, SPYI offers a 12% annualized distribution rate, with its July Section 19a-1 notice estimating that 99% of the distribution was return of capital.
Return of capital treatment reduces an investor’s adjusted cost basis and defers capital taxes until shares are sold, making it generally more tax-efficient than ordinary income. SPYI achieves this tax efficiency through tax-loss harvesting and SPX index options treated as Section 1256 contracts, whose gains receive 60% long-term and 40% short-term capital gains treatment regardless of holding period.