As cryptocurrency grows in popularity, we are seeing that trend grow in self-directed IRAs as well. Investors look at crypto as a way to diversify their retirement accounts. This article discusses what a cryptocurrency IRA is, self-directed investing options, and concerns that investors have with cryptocurrency.
What is Cryptocurrency?
Cryptocurrency (or “crypto”) is a digital currency. It’s a form of payment that can be exchanged for goods and services online. Cryptocurrency is decentralized, not generally issued by any central authority. This makes crypto immune to government manipulation or interference.
Key Terms to Know
A system in which a record of transactions made in a cryptocurrency is maintained. This system includes several computers linked in a peer-to-peer network.
When you first buy cryptocurrency, you receive two keys. The first is a public key that identifies your crypto (like your bank account number). The second is a private key that unlocks the use of your crypto (like your online banking password).
Storage for your private keys that keep your cryptocurrency safe and accessible. Wallets also allow you to send, receive, and spend cryptocurrencies. There are three main types of wallets for crypto.
- Paper wallets in which your keys are written on paper and stored safely.
- Hardware wallets in which your keys are safely stored on a thumb drive.
- Online wallets in which your keys are stored in an app or other software.
Online wallets are the best way to store your cryptocurrency as it makes sending, receiving, and using crypto easy. For cryptocurrency held in an IRA, you must have an online wallet.
A firm or individual that acts as an intermediary between the cryptocurrency markets. They facilitate the buying and selling of cryptocurrencies.
An online platform for buyers and sellers who trade crypto.
Benefits of Investing With a Cryptocurrency IRA
Cryptocurrency is an investment that allows investors to diversify their retirement portfolios. A truly diversified portfolio includes traditional assets (stocks and bonds, for example) and alternative assets (precious metals, private placements, real estate, etc.). We are seeing IRA investors use crypto as an extra way to diversify their portfolios.
Investments held within a retirement plan’s gains grow tax-advantaged. If you have a Traditional IRA, SEP IRA, or SIMPLE IRA, your gains grow tax-deferred. With a Roth IRA, your gains grow tax-free.
Investments made within an IRA are sheltered from taxable events.
Easier Tax Reporting
Once you reach the age of 59 ½, you only pay income taxes when you withdraw from a Traditional, SEP, or SIMPLE IRA. With a Roth IRA held for five years or more, you never pay capital gains taxes or income tax.
By investing in cryptocurrency with an IRA, you are not required to report crypto transactions on your annual taxes. You simply provide contributions made to the account to the IRS. Your IRA custodian helps with other tax reporting.
Disadvantages of Investing With a Cryptocurrency IRA
Cryptocurrency is highly volatile. Their values can vary wildly, and the market is still not fully regulated. Most investors take a long-term investment approach to this investment type.
You cannot withdraw gains before you turn 59 ½ without paying a tax penalty.
You Can’t Consolidate
Moving existing non-IRA cryptocurrency investments into an IRA is not permitted.
Cryptocurrency IRA Investing Options
There are a couple of ways in which you can invest in cryptocurrency with an IRA.
Option 1.1: Invest Directly With Your IRA
The first investment option you have is to directly invest in cryptocurrency by setting up a trading profile in the name of your IRA account. You can do this with any crypto broker that accepts deposits from an IRA. You will use the IRA account number to establish the broker account.
With this investment option, only the IRA custodian has access to the crypto keys. As the IRA owner, you need to instruct the custodian on which crypto investments you would like to buy, sell, and trade.
The steps for this investment option are illustrated below.
Option 1.2: Invest in a Bitcoin ETF Directly With Your IRA
Another investment option you have is to invest in a Bitcoin ETF. This provides the opportunity to follow the Bitcoin futures market without directly holding Bitcoin. There are no keys or storage to worry about with this option. You would invest in a Bitcoin ETF by opening a trading account with a cryptocurrency broker.
As of now, Bitcoin is the only cryptocurrency with an ETF. Learn more about Bitcoin ETF here.
Option 2: Set Up an LLC (Checkbook IRA)
The second investment option you have is to open an LLC owned by your IRA. The LLC must be a newly formed entity owned solely by your IRA. The LLC will need a business checking account funded by your IRA.
With the LLC’s checking account, you will then establish a wallet with which to buy, sell, and store crypto. With this structure, you as the LLC manager are responsible for storing your crypto securely through cold storage or a third party. You may not personally store the cryptocurrency.
You are also responsible for the funds in the LLC’s checking account. The LLC’s checking account is for investing in crypto and other investments held within the LLC. Income and expenses related to the cryptocurrency investments flow through the LLC.
Because the IRA owns 100% of the LLC, the LLC receives the same tax-advantaged status as the IRA.
The steps for this investment option are illustrated below.
Benefits of Investing With an LLC
As the LLC manager, you have access to your cryptocurrency’s private keys. With access to your private keys, you may buy, sell, and trade crypto at your convenience.
Concerns and Roadblocks With Cryptocurrency IRAs
While cryptocurrency can be a lucrative investment, it is also volatile. Just like all self-directed investments within an IRA, it is up to the account owner to perform due diligence on crypto assets they want to add to their portfolio. It is also the responsibility of the account owner to conduct due diligence on the crypto broker, exchange, or private placement they invest with.
Rules to Consider
- You cannot buy cryptocurrency personally and sell it to your IRA.
- The trading platform’s procedures must meet IRS rules and regulations.
- You cannot use cryptocurrency held by your IRA or IRA LLC to buy goods or services.
- The IRS considers cryptocurrency personal property for tax purposes.
- Storing a hard drive at your home may be a prohibited transaction. This could risk penalties or fines, causing your IRA to lose its tax-advantaged status.
Cryptocurrency IRA FAQs
Can I use my existing Midland account to trade cryptocurrency?
Yes. You can add cryptocurrency to an existing self-directed Midland IRA account.
Can I hold other self-directed investments in my IRA along with cryptocurrency?
Yes. You can use the same IRA account to invest in crypto and any permissible alternative asset.
Do I have access to my private keys?
If you invest directly with your IRA, no. But, if you use the IRA LLC structure to invest in cryptocurrency, then yes you do.
How long does it take to start investing in crypto after funds reach my account?
Once Midland receives funds in your IRA account, you can direct those funds immediately. Midland will wire those funds the next business day.
If I open an LLC in my IRA to invest in cryptocurrency, can I use the same LLC to invest in other assets?
Yes, you can use the IRA LLC to invest in any asset that is allowable in an IRA.
What are Midland’s fees?
If you choose to invest directly through your Midland IRA account, your annual asset fee will be $325 per year. There is also a one-time account setup fee of $50. Transaction fees to withdraw or add funds to the account are $25 each.
If you choose to invest with an IRA LLC at Midland, your annual asset fee is $325 per year. There is a one-time account setup fee of $50 and a $100 initial transaction fee. Check fees are $5 and wire fees are $30 for additional funds sent to the LLC. Midland Forms can establish your LLC for $695 + state filing fee.
You can open a crypto IRA account at Midland Trust today. Invest in Bitcoin and other cryptocurrencies to diversify your portfolio and maximize your retirement savings. For questions about opening an IRA, please don’t hesitate to contact us at (239) 333-1032.