Pros and Cons of Investing in a Crypto IRA — Should You Invest in One? (2024)

Crypto IRA can help you save some taxes and diversify your portfolio. But is it right for you? Know about the Pros and Cons of Investing in a Crypto IRA.

The Internal Revenue Service (IRS) does not recognize a distinct Individual Retirement Account (IRA) made for cryptocurrencies. Therefore, when someone talks about a “crypto IRA” or “Bitcoin IRA,” they are talking about an IRA that includes digital currencies within its portfolio.

According to the IRS 2014-21 Notice, cryptocurrencies are taxed as property. This means they are taxed the same as bonds, stocks, and other investment types. However, cryptocurrencies cannot be placed in an IRA by the retirement account holder. This indicates that an account holder needs a custodian if they want to place crypto in their IRA. And finding a custodian can be a challenging task.

Luckily, self-directed IRAs (SDIRAs) allow alternative assets such as cryptocurrencies. Custodians are designed to aid investors to include crypto in their IRAs, which are becoming increasingly popular. While investing in a crypto IRA has its benefits, we cannot ignore the volatility of the crypto market, making it a risky investment.

So, to help you decide whether to invest in a crypto IRA or not, let’s first understand the pros and cons of investing in a crypto IRA.

Cryptocurrency IRA: What Really Is A Crypto IRA?

Individual retirement accounts, or IRAs, make it easy to save for retirement with tax-free growth or on a tax-deferred basis. While many people save through employer-sponsored plans, such as 401(k)s, IRAs tend to have more flexibility and provide supplemental savings. These IRAs are available through banks, brokers, and even robo-advisors.

There are two main types of IRAs:

• Traditional IRAs: You make contributions with money that you can deduct on your tax return and any earnings grow tax-deferred until you withdraw them in retirement. Since many retirees are in a lower tax bracket than they were prior to retirement, deferring taxes often translates to a lower tax bill.
• Roth IRAs: You make contributions with money that you already paid taxes on and the money grows tax-free rather than tax-deferred. The subsequent withdrawals are also completely tax-free. While Roth IRAs involve more upfront cost, the long-term tax savings can be significant, particularly if assets appreciate in value.

SEP and SIMPLE IRA Accounts

If you are self-employed or work for a small business, SEP and SIMPLE IRAs are two other types of IRA accounts. Both of these accounts are similar to traditional IRAs in that contributions are tax-deductible, but unlike traditional IRAs, there are higher contribution limits, and small businesses may have to contribute a match to the employee’s contribution.

There are many different rules associated with IRA, including limitations on the types of assets that can be held. For instance, most IRAs don’t allow cryptocurrency investments and primarily focus on stocks, bonds, and funds. The notable exceptions with regards to cryptocurrency IRA are crypto-focused funds that provide exposure to cryptocurrencies through a conventional fund structure.

How Does Cryptocurrency IRA Work

As the name implies, it is a self-directed retirement account that allows you to invest in cryptocurrencies.

The minimum requirement to set up a new crypto IRA account is between $250 and $395. This setup fee is further deductible from the amount that you transfer over to your new IRA. Additionally, since it is a retirement account, you’ll be subjected to tax penalties if you withdraw funds early. If you withdraw money before you reach 59 ½, you’ll have to pay an early withdrawal fee, which is usually 10 percent, and income tax.

The Pros of Cryptocurrency IRAs

The Outweighing Growth

Investors willing to add crypto to their IRAs believe that cryptocurrencies will keep increasing in value, popularity, and accessibility. With the ability to provide value in the long term, IRAs are excellent investment vehicles. The potential of growth coexists with the risk of losses, but many investors believe that the growth potential outweighs the risks.

Access

Investing in a crypto retirement account is still a new idea and it’s only offered by a few specialty providers such as Bitcoin IRA, iTrustCapital, Coin IRA, and more. However, you can add crypto to your investment strategy for retirement with a crypto IRA as traditional IRAs only focus on standalone mutual funds or target funds. One thing to remember is that all IRAs are not crypto IRAs. Traditional IRAs are not yet equipped to offer direct investments in cryptocurrencies.

Diversification

By adding crypto holdings to your retirement portfolio, you diversify it. This diversification protects your retirement account when a particular cryptocurrency tanks or other ups and downs in the future.

Tax-Deferred Crypto Investing

Including cryptocurrencies in retirement accounts is a brilliant way to avoid hefty capital gains taxes. For instance, if you put crypto in a Roth IRA, it allows you to realize capital gains without taxes because you already paid taxes on the funds in your account.

When you put cryptocurrencies in a regular IRA, you are liable to pay income taxes upon withdrawal of funds. It could benefit from a tax perspective if your income is lowered after withdrawals from the IRA.

Next on the list of pros and cons of investing in a crypto IRA are the cons.

The Cons of Cryptocurrency IRAs

The Price Instability

Crypto-day traders thrive on the volatility of the market, but for retirement investors, the same volatility puts crypto at a disadvantage. For instance, Bitcoin, the first ever cryptocurrency, experiences significant price fluctuations regularly. From $69,000 last year, it came down to $20,000 this year. This extreme volatility makes it unsuitable for many investors to include it in their IRA.

Risk

Volatility brings the risk of loss. For instance, if you invest $1,000 in a cryptocurrency, its value could drop by 80 percent and never recover. Here, you’d lose $800. Similarly, a larger investment would amplify the losses.

A lot of cryptocurrencies aren’t backed by assets or businesses. So, investors or the public may lose interest in them after your purchase. Also, a lot of crypto tokens run on faith that they are worth something. If this faith waivers, crypto tokens could collapse completely.

The Fees Involved

One of the cons in our list of pros and cons of investing in a crypto IRA is the fees. There are several charges you might have to pay during the investment process such as initial setup fees, annual maintenance fees, and custody and trading fees, among others.

For instance, if you want to set up a $50,000 self-directed IRA for trading, you may end up paying several thousand dollars in fees for an initial setup depending on the provider. These service providers may also charge you recurring custody and maintenance fees.

Notable Considerations

Crypto investments have unique requirements such as custody and security, which increase the fees for services offered by IRA accounts. IRA investors may also pay for the additional reporting duties done by the IRA custodians to the IRS.

Should I Invest in Crypto With An IRA?

There are many different ways to invest in cryptocurrencies. While purchasing them outright is a popular option—and SDIRAs provide a tax advantage when doing so, there are also several conventional funds that make it possible to hold crypto assets without worrying about buying and selling the actual cryptocurrencies—although there’s a fee involved.

Don’t forget to download our Checklist of Crypto IRA Providers to find some options to consider for your retirement portfolio.

It’s also important to keep the tax implications of cryptocurrency investing in mind. The International Revenues Service (IRS) treats cryptocurrencies as property, which means that they are subject to capital gains tax when exchanged or sold. When investing in crypto with IRAs, the tax treatment depends on whether the account is a traditional or Roth IRA.

Traditional IRAs let you deduct the amount that you contribute to the IRA from your taxes in the current year, but you owe taxes on the amount when you withdraw the cryptocurrency in retirement. On the other hand, Roth IRAs involve paying taxes on the contributions in the current year and then not worrying about any taxes when withdrawing in retirement.

One interesting feature of cryptocurrencies is that they aren’t subject to the same wash-sale rules as equities. If a cryptocurrency falls in value, an investor can sell the asset to realize the loss in the current tax year and immediately repurchase it to maintain their portfolio allocations. These tax loss harvesting strategies can significantly improve after-tax returns.

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Final Thoughts on Pros and Cons of Investing in a Crypto IRA

Crypto IRA is one of the best ways to save some taxes and diversify your retirement portfolio. But it comes with a set of pros and cons, which we discussed in this guide. For investing in a crypto IRA, we recommend consulting a certified financial advisor well-versed in cryptocurrency to make sure your money is put to its best use.

Crypto IRA FAQs