Senator Ron Wyden (D-Oregon), chair of the Senate Finance Committee, released on September 9, 2021, draft tax legislation (find links to the text here and a summary here) that would directly impact the tax treatment of mutual funds, exchange-traded funds (“ETFs”) and publicly-traded partnerships (“PTPs”) and their investors.

The proposed legislation would require mutual funds and ETFs, which are taxed as regulated investment companies, to recognize gain when redeeming in-kind appreciated portfolio investments. ETFs in particular rely on the current tax-free nature of such in-kind redemptions in their routine day-to-day operations.

The proposed legislation would also eliminate the pass-through tax treatment applicable to certain PTPs including master limited partnerships (“MLPs”). Currently, PTPs that earn certain types of investment or passive income are taxed as flow through entities for income tax purposes. This proposal would eliminate the pass-through treatment for such entities and impose a corporate income tax at the entity level.

Both proposals as drafted would be effective for tax years beginning after December 31, 2022.

The draft tax legislation includes certain other provisions, most of which would affect the income tax rules for partnerships more generally.