The Complete Guide to Crypto IRAs

(DeFi Rate) - Retirement can be seemingly far and thus easily put off, especially if you are still young. However, life is unexpected and often does not go according to plan. This makes it pertinent to have an appropriate retirement plan.

• Crypto IRAs allow investors to add direct exposure to cryptocurrencies within their retirement accounts.
• Some benefits of crypto IRAs include portfolio diversification and tax-sheltered gains.
• Investors must use a self-directed retirement account to invest in cryptocurrencies as traditional IRAs do not permit access to digital assets.

Unsurprisingly, many people interested in planning their retirement would most likely consider traditional retirement investment options. Some available conventional retirement plans include individual retirement accounts (IRA) plans, solo 401(k) plans, traditional pensions, and guaranteed income annuities (GIAs).

However, the advent and growing adoption of cryptocurrencies is creating a new retirement option. As more retail investors and corporate entities turn to virtual assets, crypto-based individual retirement accounts (IRA) continue to gain prominence.

Earlier this year, retirement giant Fidelity announced it would offer Bitcoin to 401(k) retirement account holders. The Fidelity Digital Assets Account (DAA) allows individuals to invest a portion of their retirement savings (up to 20%) in Bitcoin. Microstrategy has also committed to adding Bitcoin to its 401(K) retirement plan.

Companies like Fidelity have managed to propel crypto IRAs into mainstream consciousness, but it is not the only company offering these services. Several other major platforms also offer the same investment vehicle, providing digital asset trading through self-directed IRAs.

Many crypto enthusiasts have turned to crypto IRAs to tap into their massive potential for long-term gains. The nascent nature and growing adoption of cryptocurrencies give it a huge potential as an asset class. Therefore, crypto IRAs have the potential to provide significant retirement returns.

However, before investing in a crypto IRA, investors must understand what it is and if it is the right retirement plan for them. It is equally important to know the possible risks and benefits of investing in digital assets and comprehend the various types of IRAs. This will ensure that investors can choose the best retirement plan that suits their needs.

How To Invest Your IRA In Crypto

Having understood what crypto IRAs are and how beneficial they are, knowing how to invest in them is critical. Recently, crypto IRA custodians have started to gain more popularity, and finding the right one would make investing in crypto easier.

When considering a crypto IRA custodian, several factors should be considered before making a choice. These factors include fees and pricing, supported cryptos, IRA options, and account minimums. Below is an analysis of three top Crypto IRA providers.

Bitcoin IRA

• Account minimum: $3,000
• Tokens supported: Over 60 tokens, including Bitcoin, and Ethereum.
• IRA options: Bitcoin IRA, Bitcoin 401k, Bitcoin Roth IRA, Saver IRA
• Fees and pricing: Fees vary on the initial deposit. New customers will discover the charged costs when speaking to a company representative during registration.
• Custodial type: Offline custody in segregated cold storage accounts at BitGo Trust.

Why it stands out: Bitcoin IRA is a market leader in crypto IRA services that enable Americans to add cryptocurrencies to their retirement accounts safely and tax-effectively. Over 150,000 users have been able to put Bitcoin and other cryptocurrencies into their retirement plans since the Los Angeles-based startup was founded in 2015.

It offers an easy-to-use platform and allows customers to roll over their existing IRAs. Signing up takes only a few minutes, and users can trade over 60 cryptocurrencies round-the-clock online or through the Bitcoin IRA mobile app.

What to know: There is no maximum investment limit but a $3,000 minimum investment requirement. Additionally, customers can open IRA EarnTM interest accounts with a minimum investment of $10,000 and earn up to 6% interest on Bitcoin, Ether, and US dollars. Finally, there is not much pricing information available, but a chat with a company representative would provide more insight into that.

Uphold

• Account minimum: $10.
• Tokens supported:  Over 200 tokens, including Bitcoin, and Ethereum.
• IRA options: No data
• Fees and pricing: 0.8%-1.2% per crypto transaction.
• Custodial type: No data

Why it stands out: Uphold, a reputable cryptocurrency exchange with users in over 184 countries, was founded in 2015. Uphold offers a unique financial experience that distinguishes it from other crypto exchanges. Users can acquire precious metals, U.S. equities, and cryptocurrencies. The platform also enables cross-currency trading without requiring you to convert your assets back to cash first.

What to know: Uphold offers all-inclusive pricing with no hidden charges. Although Uphold guarantees 0% trading commissions, consumers who use the platform to buy or sell cryptocurrencies are subject to spread costs. These spread costs can vary from 0.8% to 1.2% for popular cryptocurrencies and even higher for coins with lower liquidity

Public.com

• Account minimum: $0
• Tokens supported: Over 30 cryptocurrencies, including Bitcoin, and Ethereum.
• IRA options: No data
• Fees and pricing: 1%-2% markup on crypto transactions.
• Custodial type: No data

Why it stands out: Public.com is a user-friendly, commission-free stock trading smartphone app geared toward novice investors. The broker was once known as Matador and changed its name to Public in 2018. Public distinguishes out for its social component, which enables you to connect and follow friends and local experts.

What to know: Public has an excellent pricing structure and doesn't charge trading fees or commissions despite having a relatively small variety of account kinds. It also allows users to purchase fractional shares or slices rather than a total share of stocks.

What Are Crypto IRAs, And How Do They Work?

A crypto IRA is a type of individual retirement account that includes digital assets amongst its holdings. They are self-directed IRAs that allow investments in alternative asset classes not available in traditional IRAs. These assets include digital assets, precious metals, cryptocurrencies, and real estate.

Generally, a crypto IRA functions like a regular IRA, except that you invest your money in cryptocurrencies rather than mutual fund shares, stocks, and equities. There are also other distinctions.

For instance, with a crypto IRA, investors might need to be more self-sufficient in creating and managing their accounts. This is unlike traditional IRAs, where brokerage firms provide a one-stop platform for investors to set up an IRA and trade stocks in one spot.

Crypto IRA Options

As per the Internal Revenue Service’s (IRS) ruling in 2014, digital currencies are classified as personal property for tax purposes. Consequently, digital assets are now compatible with digital IRA accounts.

Additionally, the IRS offers you legal authorization to invest in a broad range of alternative investments beyond cryptocurrencies by accepting full responsibility for your investing decisions. Users can create their IRA plan by selecting from the available IRA options below.

Traditional IRA

Traditional IRAs are commonly referred to as the "elder statesman of IRAs" and are offered by several large financial institutions.

This IRA offers tax-sheltered trading within accounts, tax-sheltered contributions from your yearly income, and tax deductions for contributions in most cases.

Many people choose to start a traditional IRA because it allows them to buy assets while deferring taxes and saving for retirement.

Advantages of a Traditional IRA

• Eligibility: Unlike other IRAs, the only requirement for opening a traditional IRA is to have taxable income to make contributions. Also, 2020 marked the end of age restrictions to opening an account.
   
• Catch-Up Provision: Traditional IRAs don't have the most significant contribution caps available, but they provide a greater cap for investors over 50. Investors can "catch up" on contributions they may have missed earlier in life. This is great, especially if they were paying for their children, a mortgage, and other expenses.
• Tax- Deductions: Investors can deduct a specific amount of their traditional IRA contributions from their yearly taxes.
• Options for Loose Rollover: Traditional IRAs give a certain level of flexibility to change specifics for a retirement account. Understandably, circumstances vary during one's life, and so do financial goals and saving techniques for retirement. With a traditional IRA, investors can change their retirement plan as they deem appropriate.

Traditional IRA Rules

• Annual Contribution Cap: For individuals under 50, the annual contribution cap for Traditional IRAs is $6,000. The limit goes up to $7,000 for people over 50.
• Limited Tax Deductions: The tax deduction for contributions is restricted to individuals with a Traditional IRA and a 401(k) account. For investors with both plans earning less than $65,000 annually or $104,000, if married, there are no limits to deductions under the contribution limits noted above. When it comes to tax season, those who earn above certain thresholds can only deduct a specific percentage of their contribution. If their income is high enough, they may also choose to withdraw none at all.
• Early Withdrawal Penalty: Any withdrawal made before the investor turns 59½ attracts a 10% penalty from the IRS. However, this can be avoided if the individual meets a specific hardship allowance stipulated by the IRS. It is important to remember that, with very few exceptions, this penalty applies to all retirement funds.
• Required Minimum Distributions (RMDs): Investors must start drawing distributions from their Traditional IRA at 72. Previously, 70½ was the stipulated age to start making withdrawals. The mandatory distribution amount also changes in size, but the IRS provides instructions on this.

SEP IRA

The Simplified Employee Pension (SEP) IRA allows employers to contribute to their retirement accounts and those of their employees. This type of IRA suits small business owners and freelancers.

Contributions made to this IRA option qualify for tax deductions. However, taxes are deferred until the employee withdraws the funds from the investments, often at retirement. At that point, distributions from the SEP IRA are subject to income tax.

Advantages of SEP IRA

• Higher annual contribution limits: A SEP IRA's primary benefit is its higher yearly contribution limitations. The maximum contribution from an employer (or self-employed person) is the lesser of $61,000 in 2022, or 25% of wages. This is especially helpful when an employer cannot match an investor's contributions.
• No filing or reporting: A SEP IRA is simple to establish and maintain. It also has no filing or reporting requirements, which significantly benefits businesses.
• Flexible annual contributions: A SEP IRA is a smart option if cash flow is a concern for a small business or if revenue is cyclical. This is because yearly payments are flexible, and thus no employer is required to make annual contributions, making it more straightforward for small enterprises to participate.
• 100% vested employees: Employees are always 100% vested in the entire amount of their SEP IRA, which is not usually the case with other retirement plans. In other words, the SEP IRA funds are always wholly owned by the employee.

SEP IRA Rules

• Contribution Cap: When it comes to contribution caps, an employee's SEP IRA cannot exceed one of these criteria: 25% of the employee’s compensation, or $61,000 (2022).
• Eligibility: To be eligible for a SEP IRA, employees must have attained the age of 21 and worked for the business for at least three years. Finally, they must have received a minimum of $600 in compensation in the business year.
• No Catch-up: Catch-up contributions are not allowed with this IRA option.

SIMPLE IRA

Savings Incentive Match Plan for Employees (SIMPLE) IRA is ideal for businesses with less than 100 employees. This option is a tax-deferred employer-provided retirement plan that enables employees to accumulate retirement savings.

SIMPLE IRAs are less expensive, simpler, and require less paperwork than 401(k)s and other comparable retirement plans that employers can provide for their employees. This makes them appealing to small business owners who can use it as a compelling incentive to retain top personnel and maintain good employee morale.

A SIMPLE IRA allows both the small business owner and the employee to make contributions, unlike a SEP IRA, which only enables business owners to do so. This can be done using two available matching contribution plans mentioned below;

• The employer matches the employees’ contributions at up to three percent of their salary.
• The employer makes flat two percent-of-salary contributions for employees who choose not to contribute.

Advantages of Simple IRA

• Low start-up and operating costs: Starting and running costs are pretty cheap and more uncomplicated to manage for employers than other retirement plans. When compared to other plans, SIMPLE IRAs don't need nearly as much documentation to demonstrate compliance with nondiscrimination rules, vesting schedules, and even plan-level tax reporting.
• Tax credit for employers: Employers are entitled to a tax credit of up to $500 per year for the first three years, equal to 50% of the qualified startup expenditures.
• Mandatory employer contributions: Employees gain a compulsory contribution to their accounts from their employers. And if their company opts for the two-percent-of-income mandatory contribution option, they don't have to enroll in salary deferrals to receive that payment. The matched employer contribution is instantly the property of the employees and is transferable in the event of employment termination.
• Easy qualification: There are not many standards to meet. Employees can enroll in a SIMPLE IRA plan if they have earned at least $5,000 in salary during any two prior fiscal years and anticipate doing so during the calendar year of eligibility.

Rules for SIMPLE IRA

• Contribution limits: Compared to many other retirement vehicles, a SIMPLE IRA has a more flexible contribution cap. Employees can contribute up to $13,500 of their income to a SIMPLE IRA, with an additional $3,000 in catch-up contributions.
• Opening a SIMPLE IRA: To open a SIMPLE IRA, employers must complete separate IRS forms depending on who chooses the financial institution to open the account. If the employer decides, then a Form 5305-SIMPLE is used. However, if the employee selects the broker, then IRS Form 5304-SIMPLE is used. Subsequently, the employee must complete a SIMPLE IRA adoption agreement to open these accounts.
• Maintaining A SIMPLE IRA: Employers must make annual contributions to the SIMPLE IRA plan after it is established unless it is terminated. They can use either of the contribution plans mentioned above.

Roth IRA

A Roth IRA allows for tax-free growth and tax-free withdrawals in retirement. According to Roth IRA regulations, you can withdraw your money without paying federal taxes. However, investors must have held the account for five years and be aged 59½ or older to do so.

Advantages of Roth IRA

• No RMDs: There are no minimum RMDs (required minimum distributions) for Roth IRA.
• Eligibility: There is no age limit to Roth accounts. As long as you have earned income that qualifies, you are free to deposit funds into your account for as many years as you like.
• Employer-plan restrictions: It doesn’t matter if employees are covered by 401(k) or 403(b) plans through their work. They can still make the maximum annual contribution to a Roth IRA. This is as long as the employees' income stays within the IRS's permitted range.
• Tax benefits: Roth IRA offers tax-free gains from investment growth within a retirement account. It can also be left to beneficiaries, and any withdrawals they make will be tax-free.

Rules of Roth IRA

With Roth IRAs, there are several things to consider. Firstly, it differs from traditional IRAs because donations are not tax deductible. Additionally, unlike Traditional IRAs, Roth IRAs have income eligibility limits stipulated by the IRS.

Self-directed IRAs And Crypto

Some investors believe the best way to invest in digital assets is through their retirement accounts. The potential for significant returns combined with considerable tax benefits makes this option appealing. However, traditional IRAs do not provide access to digital assets. Instead, investors require a self-directed retirement account to invest in cryptocurrencies.

As the name implies, a self-directed IRA (SDIRA) is an individual retirement account entirely managed by the account holder. Compared to conventional IRAs, investors with an SDIRA have a far more extensive range of assets to which they can allocate funds.

The main distinction between the SDIRA and conventional IRA is the choice of assets and investment options available within the account. Traditional IRAs restrict what assets are available for investors to invest in. However, an SDIRA offers access to mutual funds, ETFs, equities, and bonds in addition to a wider variety of alternative assets. The assets include gold, silver, commodities, real estate, private placement securities, and digital currencies.

It is important to note that the IRS mandates that all SDIRA accounts be protected and managed by a custodian or a financial organization. This is to protect investors by ensuring the safety of their contributions. However, unlike a financial advisor or wealth manager, a custodian only manages all the paperwork and administrative duties associated with the retirement account.

Crypto SDIRA Vs. Conventional IRA

Several differences exist between SDIRA and conventional IRAs. However, investors can roll over their contributions from their traditional IRAs into an SDIRA to allow them to invest in digital assets. It is essential to note the following when rolling over into any type of SDIRA.

• Tax implications: A Traditional SDIRA allows for pre-tax contributions deducted from income before taxes are calculated. Profits from this pre-tax investment are consequently taxed at the withdrawal time.

Contrarily, contributions to Crypto SDIRAs are made with after-tax money. The advantage of a Roth is that any earnings grow tax-free within the account, meaning withdrawals made at retirement are likewise tax-free.

• Contribution limit: No matter your salary, contributions into traditional IRAs remain the same or are capped. However, the contribution limit schedule for crypto SDIRAs is graded based on income for the specific tax year. For instance, your contribution maximum would be lowered if you filed your taxes in 2021 as a single individual earning more than $125,000. You won't be allowed to contribute to your crypto SDIRA if your income exceeds $140,000. This is a crucial factor to consider, particularly for high-income employees.

• Early withdrawals: Investors can withdraw their contributions from a crypto SDIRA without being penalized because the money is put in after taxes. This is advantageous for folks who might require access to this money before retirement.
• Required minimum distributions (RMDs): RMDs begin to accrue in a Traditional IRA at age 72. Therefore, deductions are made for IRA holders, and they don’t have a choice. A crypto SDIRA, on the other hand, does not require RMDs, allowing investors to keep growing their account balance for as long as they like.

Risks Attached To Crypto SDIRAs

• Fees: Crypto SDIRAs usually have high costs. A fee may be charged to open, close, or even execute a trade in addition to management costs. Custodians may use asset-based or flat-fee models to determine the management charge structure. With the former, the fees charged depend on the value of assets in the account at the given time. For the latter, a single price is charged irrespective of asset value.
• Volatility: Cryptocurrencies are usually more volatile than traditional IRA holdings containing stocks and bonds. Due to this volatility, the value of a crypto SDIRA portfolio may change daily. It is, therefore, necessary to invest in several assets within the SDIRA to reduce overall volatility and boost returns. For short-term investors, volatility may be a problem, but long-term holders would not have an issue with it.
• Fraud: Investors must be wary of fraud which unfortunately is rampant with digital assets which make up crypto SDIRA. According to the SEC, fraudsters may utilize the appeal of cryptocurrencies to mislead self-directed IRA participants with the promise of huge returns. However, crypto SDIRA providers thoroughly investigate their digital currency investment options before offering them.

Token Options For Crypto IRAs

Investors are often overwhelmed when deciding on a digital asset to add to their IRA plan. With thousands of available options, making the right choice is critical to meeting the desired goals and long-term investment strategies. Token options available for crypto IRAs include;

• Bitcoin (BTC): Bitcoin is the pioneering token of the crypto industry. The digital asset has grown since its inception to become the most valuable digital asset by market capitalization. It is ranked amongst the most valuable assets globally, with many now considering it a hedge against inflation.
• Ethereum (ETH): This is considered Bitcoin’s primary challenger and the second largest cryptocurrency by market capitalization. Ethereum is designed on a unique blockchain network that allows developers to build applications and smart contracts. Despite also being a blockchain like Bitcoin, its inner mechanics differ significantly. This gives its native token (Ether) an incredible long-term potential as more people adopt it.
• Other digital assets available for crypto IRAs include Bitcoin Cash, Ethereum Classic, Chainlink, Litecoin, Zcash, Stellar Lumens, Aave, Basic Attention Token, The Graph, Livepeer, Maker, yearn.finance, Decentraland, Dai, Uniswap.

Tax Advantages Of A Crypto IRA

Virtual currencies are classified as property for federal tax reasons, much like stocks or real estate, according to IRS Notice 2014-21. Cryptocurrency transactions are subject to the general tax laws that apply to real estate transactions. The notice also made it clear that digital assets  should not be regarded as a currency for taxation.

Consequently, IRA investors find crypto IRAs appealing due to their favorable tax climate. Generally, IRAs do not pay taxes on transactions involving income or gains from purchasing and selling capital assets like stocks, mutual funds, real estate, etc. This is regardless of whether the gain was short-term or long-term (held for more than a year).

Instead, any taxes would be deferred until the IRA holder takes a distribution. Hence, using retirement funds to buy cryptocurrencies like Bitcoin could enable the investor to postpone or even altogether avoid any tax owed on the investment, like in the case of Roth IRAs.

The different IRA types have various tax advantages, which are explained below.

Traditional IRA

Contributions to a Traditional Crypto IRA are frequently tax deductible. This means that annual payments are deductible from taxable income. Investors are exempt from paying income taxes on their earnings until they take a distribution.

Premature withdrawals or withdrawals made before retirement age may incur fees and taxes on the value of the withdrawn funds. Annual contribution caps are available depending on your filing status and annual income.

SIMPLE IRA

Employees can contribute a percentage of their wages to SIMPLE IRAs, just like other kinds of IRAs and employer-sponsored retirement plans. Until retirement payouts are taken, the money grows tax-deferred, allowing savings to compound faster.

Employers can receive a tax credit equal to 50% of initial costs for SIMPLE IRA set up, up to a maximum of $500 per year for three years. They also benefit from tax breaks when they contribute to employee retirement plans.

SEP IRA

A SEP IRA will lower taxes for the company but not the employee. SEP IRA contributions are tax-deductible and have a cap of 25% of an employee's total compensation or $61,000 in 2022.

For the self-employed making SEP contributions, the self-employment tax will go down. The increased business expenses will result in a lower net profit and a reduced self-employment tax and income tax.

Roth IRA

All contributions to a Roth IRA have already been taxed, allowing you to withdraw the entire balance tax-free at retirement age.

Final Thoughts On Crypto IRAs

Putting some retirement money into alternative investments like cryptocurrencies could  significantly increase returns while preventing losses in traditional investments.

However, choosing digital assets that align with an overall investment goal is necessary due to varying risk tolerance. Investors looking to invest in a crypto IRA should do due diligence on the crypto IRA provider and the digital assets to invest in.

Overall, adding digital assets to a retirement saving account would help diversify and potentially grow the investments over time.

By Ruholamin Haqshanas
September 11, 2022