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Crypto IRA: The What, the Why & the How of Crypto IRA Investments

What is a Crypto IRA?

Also referred to as Bitcoin IRA, Crypto IRA is a self-directed IRA, which allows you to invest in Cryptocurrency and other asset classes such as real estate and precious metals – the alternative assets that are not available with traditional IRAs.

Cryptocurrency is a digital asset. It has rapidly become a legitimate asset as financial institutions all over the world have warmed up to the idea of Cryptocurrency as a valid part of the overall financial system.

Investing in Cryptocurrency for retirement may not only give you a better return on investment but also provide broader diversification to your investment portfolio. However, not many investors are aware that it is possible to hold these digital assets in a self-directed IRA. Read on to know more about Crypto IRA, how it works, the benefits of Crypto IRA, its potential risks, and much more.

 

What are the Benefits of a Crypto IRA?

The IRS considers Cryptocurrency as property. Hence, it taxes Cryptocurrency as it would tax bonds, stocks, and other assets. When you invest in digital currency with a self-directed IRA, the capital gains grow tax-free. If your investment was with a Traditional IRA, your gains are tax-deferred until you take a distribution. In a Roth IRA, your gains grow tax-free, and your distributions at retirement are not taxable. Some benefits of Crypto IRA include:

  1. Diversification: Investing in Crypto adds diversification to your retirement portfolio. In case of a major market downturn or other tumultuous activity in the future, diversification can protect your retirement accounts.
  2. Future of Investing: Cryptocurrencies will become more popular and accessible in the future. It has a long-term outlook, and therefore IRAs can be an excellent investment vehicles to hold their potential on for decades.
  3. TaxBenefits: The IRS considers Cryptocurrencies as property for tax purposes. But if you use Traditional IRA or Roth IRA for Cryptocurrency investing, it can grow either tax-deferred or tax-free.

How Does a Crypto IRA Work?

A Crypto IRA works like a normal IRA. The only difference is that you are investing in Cryptocurrency instead of mutual funds or bonds. You can choose between traditional and Roth IRA to take advantage of their associated tax benefits. You can also rollover funds from a regular IRA to a self-directed IRA.

How to Invest in a Crypto IRA?

To hold Cryptocurrency in a retirement account, you must make the investment through an LLC. Here are the steps:

  1. Set up a self-directed IRA.
    You need a custodian to establish a self-directed IRA and fund it. The custodian is responsible for its safekeeping and ensures that your account adheres to the rules set by the IRS and government.
  2. Form and register an IRA LLC.
    The LLC will be 100% owned by the IRA. The income and expenses related to the asset must flow through the IRA LLC. Since the Cryptocurrency is owned by the IRA, the gains are tax-advantaged.
  3. The IRA LLC opens a business checking account.
    The IRA LLC opens a checking account. You, as the account owner, will have check book control over all the transactions. You can use the funds in the IRA LLC’s checking account to invest in assets through self-direction.
  4. Open a Cryptocurrency exchange account in the name of the IRA LLC.
    You can purchase or trade digital assets on exchange platforms. You can also purchase them by investing in a fund that holds various digital currencies or through brokers.

Potential Risks of a Crypto IRA

It’s important that you conduct full due diligence before investing in Cryptocurrency with an IRA. In addition to doing your research, it’s recommended to partner with a reputable and experienced self-directed IRA administrator to open your account and fund it. Some of the potential risks of Crypto IRA include:

  • High Volatility:
    Investments in digital currencies are lucrative, but they are highly volatile. The market is unregulated, and the values fluctuate erratically at times. Therefore, as with other investments, it’s best to diversify your investment portfolio to withstand the ups and downs that come with Crypto. Putting all your eggs in one basket can spell serious trouble.
  • High Fees:
    Normally most IRAs allow you to invest for free. For Crypto trading, you have to pay fees during the investment process – the initial setup fees to custody and trading fees to yearly maintenance fees. The custody and maintenance fees are recurring, and each Crypto trade has its own set of fees. These fees can potentially negate the tax advantages of the IRA accounts.

How do Crypto IRA Taxes Work?

  • With Traditional Crypto IRA, your contributions are tax-deductible, but your earnings are tax-free until you withdraw your funds.
  • With a Roth Crypto IRA, your contributions are not tax-deductible, your earnings are not taxed, and your distributions at retirement are tax-free.

Crypto Investments in an IRA: Rules and Things to Consider

Some of the things you need to be aware of before making Crypto investments in an IRA include:

  • As with other asset classes, you cannot personally purchase Cryptocurrency and sell it to your IRA.
  • The IRS treats Cryptocurrency as personal property for tax purposes.
  • Your Cryptocurrency trading platform’s procedures must meet the IRS rules.
  • Digital currencies in your IRA receive the same tax benefits as any other IRA investment.
  • Your Cryptocurrency can be stored via a cold wallet or cloud wallet. However, if you are investing in Crypto with an IRA, your cold wallet must be held by a non-bank custodian. If you are using the LLC method to invest, you can open a safe deposit box in the name of your LLC and use it to store your cold wallet.

Invest in Your Future With a Crypto IRA

Investing in and trading Crypto is a lucrative way to diversify your retirement investment portfolio. Many people set up self-directed IRA to invest in Cryptocurrency. While Crypto is a riskier investment because of its high volatility, it has a promising future and tax advantages. If you are looking to capitalize on your income now and enjoy it later in retirement, Crypto IRA is a great choice. It is always wise to use the advice of a tax professional before setting out on your own.