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Table of Contents
Using Section 351 to Seed New ETFs
How ETF Seeding Works
Core Issues Flagged
Stuffing and Sequential Seeding Risks
Key Takeaways for Investors
The Bigger Picture
Home Financial Advisors The ETF Tax Loophole That Wall Street Is Exploiting The ETF Tax Loophole That Wall Street Is Exploiting Section 351 ETF seeding is gaining traction with wealthy investors, but the practice may invite IRS scrutiny. Imagine you’ve held a single company’s stock for decades. It’s worth millions, but your cost basis is very low. Selling means handing a large check to the IRS. For most investors, that’s just the price of success. But a growing number of wealthy clients—guided by sophisticated wealth managers—are finding a different path rooted in a law that Congress passed more than a century ago to help small business owners incorporate. That law is Internal Revenue Code Section 351. The paper “Managing Concentrated Public Stock Positions by Seeding an Exchange-Traded Fund,” by Brent Sullivan, editor of Tax Alpha Insider, and Elliot Rozner, a New York-based research analyst, provides the most thorough public analysis to date of how this provision is being applied to exchange-traded funds—and where its limits lie. They explain how Section 351 works in this context; why Congress is hostile to tax-free diversification; and how patterns like “stuffing” and “sequential seeding” can turn an otherwise clean transaction into a target for substance‑over‑form attacks. Their practical message for investors and advisors is simple: Get the economics and documentation right, assume communications and timing will be scrutinized, and don’t confuse a wrapper change with a tax-free exit from concentrated risk. The paper analyzes how wealth managers are using Section 351 of the Internal Revenue Code to seed newly launched ETFs with clients’ appreciated securities, especially concentrated, low‑basis stock. In a typical separately-managed-account–to‑ETF transaction, the client contributes securities to the ETF at launch and receives ETF shares without current gain recognition if Section 351 is satisfied. The cost basis of the seeded positions carries over to the received shares of the ETF. The authors assembled a dataset of 39 US ETFs launched between 2021 and 2025, with about $8.7 billion of individual investor seed assets, to show that this is no longer a
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