ETF vs Managed Fund Tax: What Australian Investors Need to Know

The only certainties in life are death and taxes, as the saying goes. Of course, what can be less certain is exactly how tax is applied to your earnings, particularly those from investments. Depending on the type of investment you have and what type of earnings you receive from it, tax can be affected. 

Unlisted managed funds and ETFs often use a unit trust structure which means they don’t pay tax, but investors in these will pay tax at their marginal tax rate on any distributions from them. 

The tax treatment of these two product types is largely similar – tax may be applicable to capital gains, income in the form of dividends or interest payments and, depending on the underlying investments, there may also be franking credits available for the investor to use within their tax return.  

Where it looks different is the level of control and timing issues for tax implications. 

Paying Tax on Investment Earnings 

Before you dive into paying tax, it’s worth remembering the advantage of using managed investments, be it an ETF or an unlisted managed fund, is that you don’t need to calculate this on your own. The record keeping is done by the product issuer. 

You’ll receive an annual statement that should outline what you specifically need to provide the tax office, using the terms and wording that the ATO uses. If you’ve provided your tax file number to the issuer of your fund, then often as not, you may find this has been prefilled in your online e-tax, you’ll just need to cross-check it for accuracy.  

The types of tax that may apply include: 

• Capital gains:  

Your marginal tax rate applies to gains you’ve made on your investment, if those gains have been crystallised (i.e. an asset was sold in the fund and you made a gain as a result). Currently, if an asset has been held for more than 12 months, investors may be eligible for a 50% discount on the capital gains tax.  For any capital gains made from 1 July 2027, the CGT discount will instead be based on inflation with a minimum tax of 30%. Bear in mind that you can still receive a capital gains distribution from either an unlisted managed fund or an ETF where the gain was realised before your investment date and need to pay relevant tax on this. 

• Income: 

Your marginal tax rate applies to any distributions the fund makes in terms of dividends or interest payments. For dividends that were received from Australian companies, investors may be able to access franking credits to use in their tax returns to offset their tax payments or, in the case of zero-tax investors, claim a refund of tax. You can read more about franking credits here. Income in the form of interest payments or fixed income coupons is treated like standard earnings so your marginal tax rate applies to these. 

• Foreign tax: 

For funds and ETFs with underlying assets held in foreign countries, be it international equities or another asset, you may have paid foreign tax on the earnings within the investment. If this is the case, you may be eligible for a foreign tax offset. This may also be the case if you’ve invested in a managed fund or ETF that isn’t domiciled within Australia. You can find out more at the Australian Taxation Office in terms of how and when it might apply.  

ETF or Unlisted Managed Fund for Tax Implications 

Tax is a given, but where things start to get interesting is that the ETF structure compared to the unlisted managed fund structure can change the timing and level of control investors have over tax implications. 

1. The actions of other investors in an unlisted managed fund could result in capital gains for you 

When an investor redeems some or all of their units from an unlisted managed fund, the fund manager may need to sell some of the holdings to do so. This can result in capital gains or losses that apply to the fund as a whole, leading to tax implications for all investors.  

The structure of an ETF works a bit differently.  

ETFs are highly liquid and tradable as part of a partnership with institutions known as ‘market makers’ who agree to trade parcels of securities and cash for the ETF to accommodate shifting demand on the listed market. More investors want units? The market makers swap baskets of securities with the ETF who gives them cash to create these and vice versa if investors want to sell units. This means the ETF as a whole isn’t having to sell down its holdings and create a capital gain or loss to create liquidity for a redemption and therefore any capital gains or losses are absorbed by the market maker and not all the other investors in the ETF.  

The capital gains or losses experienced by an investor who chooses to sell their ETF units are based on the difference between the price they purchased the ETF units at and the price they sold the ETF at. 

2. The timing of capital gains can vary 

Unlisted managed funds are more likely to be actively managed. This can mean more frequent portfolio activity, such as buying and selling (portfolio turnover) or rebalancing to match planned allocations compared to passive investments. In turn, this can mean more frequent capital gains – or losses – that investors will receive through fund distributions.  

Traditionally, ETFs were largely passive instruments and designed to follow an index, like the S&P/ASX 200, meaning they typically have lower portfolio turnover compared to active funds. The result is that there are usually no significant capital gains to be distributed to investors, though it may crystallise some gains or losses when rebalancing to match the index. Investors therefore may crystallise their gains or losses when they finally sell their units, rather than at ad hoc points in time and have somewhat more control over this. 

ETFs have evolved to be more than simply passive broad-based index trackers so investors may find that they have less control over when they receive capital gains depending on what ETF they choose – for example, actively managed ETFs may be more similar to unlisted managed funds, while ETFs that use more selective styles of index tracking may also have more turnover or rebalance more frequently. 

Tax and Fund Structure 

Paying tax on your investment earnings is largely similar whether you use an unlisted managed fund or an ETF, with the key difference between the two being that an investor redemption in an ETF shouldn’t have tax implications for other unit holders, but it might in an unlisted managed fund if the redemption requires asset sales to create liquidity. 

Depending on the type of ETF you choose can influence how frequently you might experience unplanned capital gains through your investment distributions, though generally a passive index-tracking ETF will have lower portfolio turnover and therefore less crystallisation of gains or losses compared to an actively-managed unlisted fund. 

Whichever you choose, don’t forget to keep on top of the annual statements or check in with your product issuer or fund manager around tax time to ensure you put in the correct information for your tax return. 

Disclaimer: This article is prepared by Sara Allen. It is for educational purposes only. While all reasonable care has been taken by the author in the preparation of this information, the author and InvestmentMarkets (Aust) Pty. Ltd. as publisher take no responsibility for any actions taken based on information contained herein or for any errors or omissions within it. Interested parties should seek independent professional advice prior to acting on any information presented. Please note past performance is not a reliable indicator of future performance.