Why ETFs are more tax efficient

Many ETFs are considered relatively tax-efficient because of how shares are created and redeemed. When large investors redeem shares, the ETF can often hand out securities "in kind" rather than selling them for cash, which can reduce realized capital gains inside the fund.

That doesn't make ETFs tax-free. You can still owe taxes on dividends/interest distributions, and you'll owe capital gains tax when you sell ETF shares for a profit in a taxable account.

Tax efficiency also varies by asset class and structure. Broad U.S. equity index ETFs tend to be among the most tax-efficient. Bond ETFs and some commodity/derivative-based products can generate more taxable income. The best approach is matching assets to account types and minimizing unnecessary turnover.