The tax advantages of SPYI come from two features working together: the fund earns its income by trading options on the S&P 500 Index, which qualifies for a 60/40 long-term/short-term tax split under Section 1256, and roughly 94% of its 2024 distributions were classified as return of capital, meaning shareholders owed no federal income tax on those payments in the year they received them.1NEOS Investments. A Look at SPYI’s 2024 Distribution Classifications These benefits only apply in a taxable brokerage account, and the details below explain why.
The 60/40 Split Under Section 1256
SPYI writes and buys call options on the S&P 500 Index rather than on individual stocks. Index options qualify as “nonequity options” under Internal Revenue Code Section 1256, and any gain on those contracts is automatically taxed 60% at long-term capital gains rates and 40% at short-term rates, no matter how briefly the fund held the position.2Office of the Law Revision Counsel. 26 U.S. Code 1256 – Section 1256 Contracts Marked to Market
For a top-bracket taxpayer in 2026, short-term capital gains are taxed at 37% and long-term gains max out at 20%.3Tax Foundation. 2026 Tax Brackets and Federal Income Tax Rates Blend those under the 60/40 rule and the effective rate on Section 1256 gains for someone in the highest bracket comes to about 26.8%, well below the 37% those same gains would carry if treated entirely as short-term. A covered-call fund that writes options on individual stocks like Apple or Microsoft doesn’t get this treatment; if it closes those positions inside a year, the full gain is short-term at the shareholder’s ordinary rate.
Section 1256 also carries a mark-to-market rule. Any index option positions still open on December 31 are treated as if sold at fair market value on the last business day of the year, so the fund can’t defer gains indefinitely inside its options book.4Internal Revenue Service. Form 6781 – Gains and Losses From Section 1256 Contracts and Straddles The 60/40 split still applies to the recognized gain, so the mark-to-market timing doesn’t undo the rate advantage.
Return of Capital Is the Bigger Benefit
The 60/40 headline is real, but return of capital does more of the work. Approximately 94% of SPYI’s 2024 distributions were classified as return of capital, and the fund’s most recent 19(a) notice for fiscal year 2025 showed roughly 95% of cumulative distributions falling in the same bucket.5NEOS Investments. NEOS S&P 500 High Income ETF 19a-1 Notice
Return of capital is treated by the IRS as a return of your own invested money rather than as earnings, so you owe no federal income tax on those distributions in the year you receive them.6Internal Revenue Service. Topic No. 404, Dividends and Other Corporate Distributions Compare that to a traditional high-dividend fund where qualified dividends are taxed at 15% or 20% and ordinary dividends hit your full marginal rate. On a distribution rate above 12% annually, the difference in after-tax yield is meaningful.
This classification isn’t a discretionary label. It’s a structural consequence of how index options are taxed at the fund level: the accounting treatment of the fund’s option transactions, combined with the mark-to-market rules, can produce distributable cash that exceeds the fund’s taxable earnings and profits, and the excess is classified as return of capital.
How Return of Capital Adjusts Your Cost Basis
The trade-off for tax-free income today is a lower cost basis tomorrow. Every dollar of return of capital reduces the price you’re treated as having paid for your shares. Buy SPYI at $50, receive $2 in return of capital, and your adjusted basis drops to $48. When you eventually sell, the capital gain will be larger (or the loss smaller) because your starting point is lower.7Internal Revenue Service. Mutual Funds (Costs, Distributions, Etc.)
This is tax deferral, not tax elimination. Deferral still has real value. Money that would have gone to the IRS in April stays invested and compounds, and when you sell after more than a year, the eventual gain is taxed at long-term capital gains rates of 0%, 15%, or 20% depending on your income.8Internal Revenue Service. Topic No. 409, Capital Gains and Losses
One boundary matters here. If your basis reaches zero through years of return-of-capital distributions and you keep holding, any further nondividend distributions become taxable as capital gains in the year you receive them.7Internal Revenue Service. Mutual Funds (Costs, Distributions, Etc.) For most investors that point is many years away, but it’s worth planning for, especially if you reinvest distributions rather than spend them.
Wash Sale Rule Exemption
Section 1256 contracts are exempt from the wash sale rule.9Internal Revenue Service. Form 6781 – Gains and Losses From Section 1256 Contracts and Straddles Normally, selling a security at a loss and repurchasing a substantially identical one within 30 days causes the IRS to disallow the loss. Because SPYI’s options portfolio falls under Section 1256, the fund can close losing positions and immediately reopen similar ones without losing the tax benefit of those losses. It isn’t forced into 30-day waiting periods that would interfere with its income strategy.
The 3.8% Net Investment Income Tax
Higher-income investors have to account for one added layer. The Net Investment Income Tax adds 3.8% on top of regular capital gains rates when modified adjusted gross income exceeds $200,000 for single filers or $250,000 for married joint filers.10Office of the Law Revision Counsel. 26 U.S. Code 1411 – Imposition of Tax These thresholds aren’t indexed for inflation.
The NIIT applies to the lesser of net investment income or the MAGI excess over the threshold. Because return-of-capital distributions aren’t income for tax purposes, they don’t count toward net investment income. Only the taxable slice of distributions and any capital gains realized on sale factor into the calculation, so SPYI’s distribution structure again produces a smaller tax base than a fully taxable dividend fund would.
Why Holding SPYI in an IRA Wastes the Benefit
Every advantage above assumes a taxable brokerage account. Inside a traditional IRA or 401(k), every withdrawal is taxed as ordinary income regardless of how the fund generated the money, and cost basis adjustments don’t matter because there’s no capital gain to compute on sale. The 60/40 split and return-of-capital deferral do nothing for you there.
In a Roth IRA, qualified withdrawals are tax-free either way, so SPYI’s distribution character doesn’t add anything you wouldn’t get from a plain S&P 500 fund held in the same account. Meanwhile, SPYI charges a 0.68% expense ratio,11NEOS Investments. SPYI – NEOS S&P 500 High Income ETF noticeably more than a plain index fund. Buying SPYI for tax efficiency and then holding it in a tax-advantaged account leaves you paying the higher fee without collecting the benefit that justifies it.
What Your Tax Forms Will Show
Your brokerage issues a Form 1099-DIV after each calendar year that breaks down how the distributions were characterized. Return of capital appears in Box 3, “Nondividend Distributions.” Ordinary dividends are in Box 1a and qualified dividends in Box 1b.12Internal Revenue Service. Instructions for Form 1099-DIV The Box 3 figure is the amount you subtract from your cost basis for the year.
Most brokerages track basis adjustments automatically, but verify the numbers yourself, particularly if you’ve transferred shares between brokers or hold SPYI in more than one account. Section 1256 gains passed through to you are reported on Form 6781 and flow onto Schedule D with the 60/40 split already applied.4Internal Revenue Service. Form 6781 – Gains and Losses From Section 1256 Contracts and Straddles Confirm that the long-term and short-term portions on your return match that 60/40 ratio. One more thing worth checking: not every state follows the federal 60/40 treatment for Section 1256 contracts, so review your state’s rules before assuming the full benefit carries over.