The Internal Revenue Service and Treasury Department opened a new front this week against tax-motivated maneuvers in crypto exchange-traded funds, with BlackRock's iShares Bitcoin Trust and iShares Ethereum Trust having moved $7.22 billion through in-kind redemptions in the first half of 2026.

Notice 2026-62 puts digital-asset fund sponsors on alert that regulators are watching how ETFs manage tax bills via redemption mechanics. Treasury Secretary Scott Bessent framed the action as part of a broader Wall Street crackdown, writing on X that the agencies are "serious about cracking down on transactions designed to dodge taxes or exploit our federal tax code."

What is the in-kind redemption issue?

The dispute centers on Section 852(b)(6), which lets regulated investment companies distribute appreciated property without recognizing embedded gains. Some funds have argued the gain should likewise be excluded when calculating whether the fund passes the 90% income test required of a regulated investment company.

Treasury rejected that reading. It warned the approach could let a fund cap the income counted toward the threshold regardless of what its portfolio actually earned. The government requested more information rather than issuing an outright ban, leaving the door open.

How did the agency treat Section 351 conversions?

A separate maneuver drew a sharper response. Revenue Ruling 2026-20 rejects prearranged transactions in which investors contribute appreciated securities into an ETF and then pull assets back out through redemptions, effectively swapping portfolios while avoiding recognition of built-in gain.

These arrangements, known as Section 351 conversions, "don't work under existing law," Bessent said. The IRS can recharacterize them as taxable exchanges, putting that category at a more advanced enforcement stage than the digital-asset in-kind question raised in the accompanying notice.

Why are crypto ETFs now in regulators' sights?

The SEC last year authorized in-kind creations and redemptions for spot crypto exchange-traded products, arguing the change would lower costs and minimize slippage against the cash-only approach that had applied since launch. That approval opened the door for authorized participants to exchange baskets of actual Bitcoin or Ethereum for ETF shares.

BlackRock's most recent quarterly filing shows IBIT distributed roughly $5.49 billion of Bitcoin via in-kind redemptions in H1 2026, with about $3.85 billion in the second quarter alone. ETHA distributed an additional $1.72 billion of Ethereum in kind through June. Over the same window, IBIT also received about $9.36 billion of Bitcoin through in-kind creations.

Are BlackRock's products directly exposed?

IBIT and ETHA are structured as grantor trusts for federal income-tax purposes, meaning gains and losses pass straight through to shareholders rather than running through the RIC income test at the heart of the IRS notice. The filings do not indicate BlackRock is using the strategy Treasury flagged.

Treasury's actual target is a different category: regulated investment companies that gain digital-asset exposure directly or through vehicles like grantor trusts, then use redemptions to strip out appreciated positions whose gains could otherwise threaten the 90% income test. That distinction matters as asset managers fold digital-asset exposure into multi-asset and actively managed ETFs.

What should fund sponsors watch next?

Notice 2026-62 outlines several paths regulators could take, including new regulations, revenue rulings, or labeling some arrangements as transactions of interest or listed — designations that trigger heightened reporting obligations. Whatever action is taken could apply retroactively where legal authority permits.

Combined with the IRS's caution that it can already contest abusive strategies under existing law, fund managers cannot simply wait for clarity. Sponsors crafting the next generation of crypto-linked ETFs face altered portfolio designs, fresh legal opinions, and a wider margin of safety before reaching investors, since the mechanics of these products are no longer solely an SEC matter.

Treasury is expected to weigh public comment before settling its final approach, with the next revenue ruling or formal regulation likely arriving before the end of fiscal 2027.