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Add the 351 Conversion to Your Tax Strategy Quiver

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Taxes. They will forever remain one of the most controversial facets of investing and capital allocation. An inescapable reality of life on earth, taxes can have a huge impact on net returns, and savvy investors have exhibited boundless energy to avoid the reach of Uncle Sam. Look no further than the consistent queue of private jets ready to go “wheels up” from Teterboro at 11:59PM to avoid an extra “New Jersey day” on the path to the almighty 183 days in sunny, tax-free Florida.

Indeed, the desire to preserve (and facilitate) tax-free compounding has helped build the reputation of entire nation states. The UK’s famed non-dom regime, which allows wealthy foreigners to avoid taxation on capital gains and income for their first 15 years in the country, has helped attract well-heeled foreigners in droves. Switzerland has become synonymous with tax perks thanks to its famed “forfeit” system, which involves bespoke negotiation with individual Swiss cantons to work out one’s tax burden, which is calculated based on lifestyle, not income or capital gains.

While few investors are prepared to renounce their citizenship to optimize their tax situation, just about all are interested in improving their after-tax returns within the confines of the law. For financial advisors serving high net worth (HNW) or ultra-high net worth (UHNW) clients, or for those interested in doing so, having a firm grasp on tax law and how it impacts a client’s financial picture has become table stakes.

We had the chance to talk to Jack Vogel from Alpha Architect about the current state of taxation in the US, and the particulars of the §351 conversion, which many advisors have added to their toolkits.

Q: What tactics are you recommending clients take a look at to prepare, especially as there will be a new administration coming into office?

A: For now, it is tough to speculate on future tax policy. There are the tax cuts that are set to expire, which will most likely be negotiated in Congress. However, waiting on Congress to act is not always the best plan. So given that, there’s the basic blocking and tackling that any advisor should have a grasp on. Donating highly appreciated assets to charity. Using tax- advantaged accounts like the 401(k), Roth, 529, to their fullest. But we also see a lot of individuals and advisor partners asking us about §351 Exchanges, which can be a very powerful mechanism.

Q: Sounds compelling. What is a §351 Exchange exactly, and how does it work?

A: This exchange, outlined in the Internal Review code (IRC), section 351, enables individuals to contribute property, such as ownership of stocks or ETFs, into a newly formed corporation. Here at Alpha Architect we routinely answer questions about how to contribute stocks, separately managed accounts (SMAs), ETFs, and other securities into newly formed ETFs to execute this structure. If done following all the rules as outlined in §351 and other various IRC sections, this is a tax-free exchange. It’s similar to a §1031 exchange in real estate.

Q: Has this type of §351 exchange been done before?

A: I think it’s fair to say this tactic is still emerging into the popular consciousness of advisors and clients, but, yes, many have been done before. Our wholly owned subsidiary, ETF Architect, has actually helped to facilitate eight §351 conversions worth over $2 billion as of 1/9/2025. We have also helped to facilitate conversions of mutual funds into ETFs, as well as limited partnerships into ETFs (which fall under a different section of the US tax code).

Q: Tell us about AAUS, and how it changes how an advisor could approach the §351 conversion.

A: Historically, a §351 conversion has been a somewhat cumbersome process. Typically, it’s done by a large advisor group which is set up to sponsor a new ETF and bear all the regulatory complexity and fixed costs that come with it. Not all advisors want to be in the ETF sponsorship game, which is why we are launching the Alpha Architect US Equity ETF, ticker AAUS, which lowers the bar to participate.

Effectively, we are calling it a “syndicated” §351 solution, whereby we will allow numerous advisors’ clients to all contribute into our newly formed AAUS ETF. So as opposed to an advisor having to launch their own ETF, they could “piggy-back” into the AAUS ETF, assuming it is appropriate for their clients.

Q: Sounds very interesting, what types of clients could benefit?

A: Any client with large legacy positions, particularly those with sizable unrealized gains, could be good candidates to consider AAUS. Clients can capture all the benefits of an ETF such as transparency, low fees (tax-deductible fees at that), and liquidity. For advisors dealing with these legacy positions that they cannot trade, perhaps a custom index portfolio built with a former advisor, AAUS can be a way to tidy up a portfolio and simplify the rebalancing exercises you are doing. In the process, an adviser may also increase their “share of wallet” with the client.

Q: So, can an advisor’s clients, and other individuals all just contribute into the AAUS ETF? Are there any restrictions on this?

A: Yes, that’s exactly right. But yes, there are restrictions. We can’t accept illiquid and private securities into AAUS, and we cannot accept mutual funds. Stocks and ETFs will work. One important item within §351 is the diversification requirement—each transferor needs to transfer in a diversified portfolio as outlined in §351. Two main rules are the following. First, no one position can be over 25% of the contribution, and second, the weight of the top 5 positions needs to be under 50%. For these tests, ETFs are assessed on a look-through basis. However, it highlights that one cannot simply transfer in a single stock, like Tesla or Apple. In addition, there will be some client education on the advisor’s side, as well as tedious paperwork to ensure everything is done correctly. So, while a §351 exchange can be helpful for advisors and their clients, it is not as simple as purchasing an ETF or stock.

Q: Okay, and so if one meets these rules and contributes into AAUS, what happens?

A: Essentially, they contribute their stocks and ETFs into the newly formed ETF, AAUS, and in exchange, they receive back shares of the AAUS ETF with the same tax basis as the original positions. Like any other ETF, the fund will be run as dictated by Prospectus.

Q: Okay, so AAUS—what will the fund do, and what are the fees?

A: The management fee on AAUS is 0.15%. The fund seeks long term capital appreciation by investing in a broadly diverse group of US companies. At times, we may attempt to exclude certain dividend-paying stocks within the fund. While we cannot guarantee anything, we believe AAUS may have a lower dividend yield than many other market cap-weighted strategies with similar, or potentially better, returns. 

Q: Thanks, this has been great. So where can advisors learn more about this fund and 351s in general?

A: Absolutely. We’d encourage anyone interested in learning more about a §351 Exchange and the AAUS strategy to register to attend a LIVE webinar on February 13th. If you can’t make it, please contact us with any questions. We’d also encourage anyone interested in AAUS to closely review the fund’s prospectus, which can be found here.

Please note that we plan to launch AAUS via a §351 conversion in the middle of May. So, if you want to be included, we recommend you contact us.

Q: Jack, thanks for joining us today.

A: Thanks for having me on.

This material is accompanied by a prospectus, via the link above. 

While AAUS has an effective prospectus, it will not be traded until sometime in May 2025.

Investing involves risk, including possible loss of principal.

Equity Securities: Equity securities, such as common stocks, are subject to market, economic and business risks that may cause their prices to fluctuate.

Non-Diversification: As a non-diversified fund, the Fund may invest a larger portion of its assets in the securities of one or a few issuers than a diversified fund. A non-diversified fund’s investment in fewer issuers may result in the fund’s shares being more sensitive to the economic results of those issuers. An investment in the Fund could fluctuate in value more than an investment in a diversified fund.

New Fund Risk: The Fund is a recently organized, giving prospective investors a limited track record on which to base their investment decision.

The Funds are distributed by Quasar Distributors, LLC. The Fund investment advisor is Empowered Funds, LLC, doing business as Alpha Architect.