Why do people like to invest in precious metals? One reason is that the owner is in charge of it 100%. It can be owned in the physical form, like gold bars and coins, it can be owned digitally, and it can be owned via an exchange-traded platform. In these situations, the investor owns the gold outright.
Compare that with gold futures and certificates. These contracts on paper are not secured by physical gold. The owners of these contracts have no title to the actual precious metal, so they cannot trade it for the tangible precious metal. If the issuer of these contracts defaults, the holders of these contracts are considered unsecured creditors.
So, the lesson here is to invest in precious metals in a way that will grant you the direct title of ownership of the physical metal, or in exchange-traded offerings that are secured by the physical metal which allow you to redeem for the real precious metal.
What Does It Mean When A Precious Metal is Allocated or Unallocated?
It is important to understand how allocated metals differ from unallocated metals. Owners of an allocated precious metal own a certain amount of the metal outright. The metal belongs to the owner and is free of debt. A third party cannot borrow or lease it. From an investment standpoint, it offers the highest level of safety for precious metal investors. On the other hand, unallocated metals present some risks. The investor’s holdings do not give him the title of owning a certain amount of the actual metal. Sometimes these issuers will issue more than the actual amount of the physical metal backing it because no portion of the physical metal is allocated to any investor. If the issuer even becomes insolvent ( https://www.thebalance.com/what-is-insolvency-5190931)or files for bankruptcy, these investors will be considered unsecured creditors.
Therefore, only invest in allocated precious metal because the physical metal does not have any liability against it, and each owner owns an actual portion of the physical metal that only the owner can claim. The value of the total number of claims will never be greater than the total value of the actual metal.
The best most tax efficient way to invest is to open a precious metals IRA, this way your money gets to grow without the onerous weight of paying taxes on it.
Mark-Ups To Spot Prices
When buying gold in the form of bars or coins, the buyer usually pays a premium over the current spot price. The mark-up is usually two to eight percent. For instance, the spot price for gold at the year-end of 2020 was a couple of dollars below $1,900 an ounce. The market price of a one-ounce gold coin sovereign was about five to ten percent above the spot price. The premium was determined by the dealer’s inventory, quantity in the market, and the purity and rarity of the coin.
ETFs, or exchange-traded funds, for precious metals are usually traded near the metal’s spot price. However, you have to factor in the yearly management fee that is tacked on. The fee covers expenses incurred for the metal’s storage, insurance, trading, and other administrative duties required to manage the holdings. This contributes to the fund manager’s profits. An investment similar to ETFs is closed-end funds. These can be traded at a price lower than the metal’s spot price unless there’s an option for the owners to redeem their shares for the actual metal.
If you plan to contact a dealer to purchase coins and bars, contact several dealers and compare how much premium they charge and how much they mark down if you sell it back. If you do not plan to hold on to the physical metal for long, find out what the management fee is if you were to purchase an ETF or a closed-end fund instead. Then, compare the cost between these two investment approaches. For instance, buying an American Buffalo and selling it back will cost you about 13 percent of your investment. If you were to invest in a similar ETF, the cost you pay to the dealer will equal about 20 years of ETF management fees.
Where Do They Store My Precious Metal?
People like to own precious metals because it is a safety net in times of volatility. So, the physical metal needs to be kept by a reputable storage company. These providers usually offer insurance. ETFs for precious metals store the metal at bullion banks like JP Morgan or HSBC. However, even the most well-known banks can be subject to volatile markets, as seen in the financial crises in 2008. In addition, some bullion institutions are allowed to subcontract the storage to a third party, which adds a layer of risk.
To reduce these risks, always make sure your precious metal is stored at facilities with the best reputation. If investing in ETFs and closed-end metal funds, stay away from storage custodians that are part of a financial institution that is highly leveraged.
Am I Allowed to Take Possession of My Precious Metal?
You can take possession of your bars and coins, but there are things to consider. You have to take into account the mark-ups, you have to go to the dealer to get it, and you have to decide where you will store your precious metal after you have it in your possession, like a safety deposit box. A lot of the bigger bullion ETFs only permit certain investors to take delivery of their precious metal. These special investors are called Authorized Participants, and they are usually bullion banks that the ETF chose to help them create new units. They often do not offer this permission to the average investor. However, there are closed-end funds that do let the average investor retrieve their precious metal.
When deciding on which bullion investment to purchase, consider whether or not you want the option to take delivery of the physical precious metal. Then make the appropriate choice.
What Are Some Of The Recurring Costs?
The expenses associated with owning physical coins and bars include the cost to store and to insure them. For ETFs and closed-end funds, the cost is charged every year in the management fee, which is where the management company makes its profits.
You should factor in all of these costs when you are deciding whether you want to invest in ETFs, closed-end funds, bars, or coins. Look at the features offered by each type of ETF and closed-end funds, evaluate the risks, compare the fees, and choose the one that gives you the best value for your investment.
What Does Liquidity Look Like?
A lot of people invest in precious metals because they are in them for the long haul. However, sometimes unexpected events in a person’s life necessitate liquidation of the metal earlier. It is not that simple to sell bars and coins quickly, but ETFs and closed-end funds offer more flexibility. These are traded on the stock exchange daily, so it is easy to buy and sell when the markets are open.
It is convenient to sell your investment in your ETF or closed-end fund. After you execute your order to sell, you will get your cash proceeds (your settlement) in three business days.
What Taxes Are Paid On Precious Metals?
In the U.S., the Internal Revenues Service includes precious metals in the classification of collectibles like fine wine, rare books, and art. If you held on to your precious metal for more than one year and sell it for a gain, the long-term collectibles tax rate on your capital gains will be 28%. This is higher than the long-term capital gains tax rate of 15% to 20% for other types of investments. The exact rate will depend on your filing status and your adjusted gross income. If you held on to your precious metal for less than a year and sell it for a profit, this will be taxed as ordinary income. Precious metal ETFs are taxed the same way as owning bars and coins.
The IRS defines certain closed-end funds as PFICs or Passive Foreign Investment Corporations. These are subject to special federal income tax laws. A non-corporate shareholder of PFICs in the U.S. can file IRS form 8621 when filing the federal income tax return and treat the PFIC like a qualified electing fund, or QEF. The strategy behind this is to avoid the higher tax rate of owning bars, coins, or ETFs. The capital gains tax rate for this is 15% to 20%, based on the tax filer’s filing status and AGI.
For individual investors in the U.S., owning precious metals via closed-end funds that are considered PFICs will reduce their tax liability when compared to holding precious metals in physical form or through ETFs.