High Income ETFs from NEOS Investments such as the NEOS S&P 500 High Income ETF (SPYI) aim to offer investors high monthly income, tax efficiency, and long-term capital appreciation.
When evaluating the tax efficiency of income-focused ETFs – particularly ones that utilize option writing – investors should understand the distinction between Return of Capital (ROC) and Return of Principal. While these terms may sound similar, their implications for investment performance and tax efficiency are vastly different.
Return of Capital (ROC): Aiming to offer a high degree of tax efficiency
While some mistakenly associate ROC with poor fund performance, in reality, it is a tax classification that may allow investors to defer tax liabilities on current income distributions:
- Tax Deferral: ROC distributions are not immediately taxable as income. Instead, they reduce the investor’s cost basis, deferring taxation until the investment is sold, potentially allowing for long-term capital gains tax treatment rather than ordinary income tax rates, as long as fund shares are held for a period greater than 1 year.
- May Enhance After-Tax Returns: Because ROC distributions lower taxable income in the short term, they can potentially provide investors with greater flexibility in managing tax liabilities while still seeking a steady income stream.
- Reduction of Cost Basis: Return of capital distributions lower an investor’s cost basis in exchange for current, tax-deferred income. If Fund shares are held for more than one year, the difference between the reduced cost basis and the share price at the time of sale may be taxed as a long-term capital gain.
A critical takeaway is that ROC may not be an indication of poor fund performance, it is a tax designation. Many actively managed funds, like SPYI, aim to generate strong total returns while offering ROC distributions that enhance the tax efficiency of monthly income distributions.
Let’s look at SPYI’s 2024 performance – both from a distribution and total return standpoint – where you’ll also see close to 94% of its income distributions were classified as a return of capital.
SPYI Delivered Tax-Efficient Monthly Income and Price Appreciation in 2024
In 2024, SPYI generated a total return of 19.04%, significantly exceeding its trailing 12-month distribution rate of 11.76%. This demonstrates that in 2024 SPYI offered a tax-efficient income strategy as well as principal appreciation.
| Trailing 12-Month Distribution Rate | 2024 NAV Total Return | 30-Day SEC Yield (as of 12/31/2024) | Total 2024 Distribution | Ordinary Dividends | Long-term Capital Gains | Return of Capital |
|---|---|---|---|---|---|---|
| 11.76% | 19.04% | 0.68% | $6.1182 | 6.09% | — | 93.91% |
Average annual returns as of 3/31/2025 since SPYI’s inception on 8/30/2025
| 1-Month | 3-Month | 6-Month | Year-To-Date | Inception (cumulative) | 1-Year | Inception (annualized) | |
|---|---|---|---|---|---|---|---|
| NAV | -4.60% | -2.85% | -0.73% | -2.85% | 31.79% | 7.37% | 11.26% |
| NAV (after tax on distributions held) | -5.01% | -4.04% | -1.99% | -4.04% | 28.25% | 5.92% | 10.10% |
| NAV (after tax on distributions sold) | -2.72% | -1.66% | -0.37% | -1.66% | 23.16% | 4.49% | 8.39% |
| Market | -4.57% | -2.84% | -0.68% | -2.84% | 31.82% | 7.42% | 11.27% |
| Market (after tax on distributions held) | -4.98% | -4.04% | -1.95% | -4.04% | 28.27% | 5.96% | 10.11% |
| Market (after tax on distributions sold) | -2.71% | -1.66% | -0.35% | -1.66% | 23.17% | 4.52% | 8.39% |
This material must be preceded or accompanied by a prospectus. Investors should carefully consider the investment objectives, risks, charges and expenses of Exchange Traded Funds (ETFs) before investing. To obtain an ETF’s prospectus containing this and other important information, please call (866) 498-5677 or view/download a prospectus here. Please read the prospectus carefully before you invest. SPYI expense ratio = 0.68%
There is no guarantee the NEOS ETFs will make monthly distributions, and the amounts may fluctuate from month to month. Distributions made by the Fund have been classified as a return of capital and may be comprised of option premiums, dividends, capital gains, and interest payments. Please see the 19a-1 notices for a more comprehensive breakdown of each month’s distributions.
Past performance is no guarantee of future results. The performance data quoted here represents past performance. Current performance may be lower or higher than the performance data quoted above. Investment return and principal value will fluctuate, so that shares, when redeemed, may be worth more or less than their original cost. For performance data current to the most recent month end, please call (866) 498-5677 or visit https://neosfunds.com/spyi.
All references to tax matters are provided for informational purposes only and should not be considered tax advice and cannot be used for the purpose of avoiding tax penalties. Investors seeking tax advice should consult an independent tax advisor. After-tax returns are calculated using the highest individual federal income tax rates in effect at the time of each distribution, and do not reflect the impact of state and local taxes. After-tax returns for most funds are calculated using the tax liability implied by each of their respective declared distributions. However, the exact tax characteristics of many distributions aren’t known until after the close of the calendar year. When accounting for the return of capital, the system uses the pro-rata method to reduce cost basis. The pre-liquidation return is identical to a standard rate of return except when reinvesting the distributions, we must first reduce the reinvestment amount of each component of the distribution by the appropriate tax rate. Post-liquidation returns may be adversely impacted by an investor’s deferred tax liabilities.
Source: US Bank Fund Administrators, YCharts.
On the other hand, Return of Principal can have negative consequences…
Return of Principal occurs when a fund distributes more than its underlying investments generate in returns, effectively depleting investor capital. This can lead to:
- Erosion of Investment Value: When a fund continually returns principal rather than income, it may be an indication that the investment strategy is underperforming and unsustainable in the long run.
- Investor Confusion: Many investors mistakenly assume that all ROC distributions fall into this category. However, in the case of an ETF like SPYI, return of capital can potentially be a tax efficiency tool rather than a sign of capital erosion.
The NEOS Advantage: Options-Based ETF Pioneers
What sets NEOS Investments apart from other ETF issuers is its leadership team’s unparalleled expertise in the options-based ETF space. Garrett Paolella and Troy Cates, the Co-Founders and Managing Partners of NEOS Investments, are pioneers in this segment, having previously created and managed some of the largest options-based ETFs still on the market today.
Unlike many ETF issuers that have only recently launched options-based funds to capitalize on a growing trend, the NEOS team has dedicated much of their careers to this highly specialized segment of the ETF market.
Conclusion
Understanding the difference between Return of Capital and Return of Principal is essential when evaluating income-focused ETFs, especially those utilizing options strategies.
In 2024, SPYI exemplified how a well-managed fund can generate strong total returns while offering tax-efficient income distributions classified as ROC – which is not an indication of capital depletion, but rather a tax efficient classification of income distributions.
With a leadership team that has been at the forefront of the options-based ETF market for years, we believe NEOS Investments stands out from competitors who have only recently entered this space.
