The next major wave in ETFs won’t come from AI funds or thematic plays. It’s already here—and it’s hiding in the tax code.
Section 351 exchanges—a process using a specific tax rule—are transforming how ETFs launch and scale, and we’re just getting started.
The Problem Worth Trillions
Investors hold trillions (yes, trillions!) in appreciated stocks. Moving that wealth into tax-efficient ETF structures has always meant one thing: selling first, triggering massive capital gains taxes.
How 351 Exchanges Change Everything
Section 351 lets investors swap appreciated stocks directly for ETF shares—no sale, no immediate tax bill.
The mechanics: Under IRS Section 351, you can transfer property to a corporation in exchange for shares without recognizing any gain. Since ETFs are structured as corporations (RICs), the rule applies. Your cost basis transfers over, and you defer taxes until you sell the ETF shares.
Real-world proof: Dozens of ETFs have launches using this funding strategy, and billions have been exchanged tax-deferred, saving potentially hundreds of millions or billions in capital gains taxes already.
Why This Is Just the Beginning
During a recent VettaFi interview, Ben Slavin of BNY Mellon was asked the ETF innovations he is seeing:
“I think 351 exchanges are going to be interesting moving forward. Very early days there. But certainly seeing a lot of client interest in how that can work and how it can be applied across their client base. And I think that is definitely a trend to watch.“
The infrastructure is finally ready. What used to be messy—tracking hundreds of holdings across multiple accounts—is now streamlined. ETF platforms, custodians, and fund accountants can handle complex in-kind transfers with precision.
The timing is perfect. Two converging forces are creating unprecedented demand:
- The great rotation: Trillions continue flowing from mutual funds to ETFs
- Tax awareness: Advisors and investors are laser-focused on minimizing capital gains drag
A 351 exchange bridges both: it enables tax-free transitions into ETF structures at scale.
The Innovation Isn’t What—It’s How
The ETF industry has spent years competing on what goes inside the wrapper: better strategies, lower fees, novel exposures.
The real innovation is how wealth gets into the wrapper in the first place.
Section 351 exchanges unlock a massive pool of capital that was previously trapped by tax consequences. As this capability spreads across the industry, expect:
- More ETFs are designed specifically to accept 351 contributions.
- Advisors repositioning entire client books from SMAs to ETFs
- A fundamental shift in how asset managers think about ETF launches
What Comes Next
We’re in the early innings. Most investors—and many advisors—have never heard of Section 351 exchanges. As awareness grows and more firms build the operational muscle to support them, this quiet tax provision will drive the next phase of ETF growth.
The biggest ETF innovations rarely announce themselves. They just work—solving real problems for real money.
