Investors are jumping for joy about the incredible explosion of wealth they can gain from cryptocurrencies. However, many remain blithely unaware of the elephant in the room: the tax collector.
Have you already profited from your investments, but you’re hazy about the tax implications? If so, speak to your accountant.
Moving forward, you can shield your gains from taxes. You can even create tax-free (not just tax-deferred) wealth, and do it all with the backing of the US government. If you’re serious about investing in cryptocurrency, then it pays to take advantage of all the legal options that are available.
Here are five important points that the standard investor may not know about, but can really make a difference:
1. The Self-Directed IRA
If you’ve never heard of a self-directed IRA, you’re not alone. Americans have invested over $20 trillion in retirement assets, and 98% of it can be found in regular accounts that are not directed at themselves.
These accounts are usually set up with the big brokerages (e.g., Schwab, Fidelity, eTrade, and TD Ameritrade). Once there, they can buy stocks, bonds, and a variety of mutual funds. In other words, they stay on Wall Street.
But what happens if you find a great investment that’s not offered by Wall Street? How can your retirement plan profit from that investment? Enter a self-directed plan. This plan can be established as either an IRA or a 401k, and it gives you the ability to put your investing dollars in assets that make sense to you.
The few investors who have (until now) utilized self-directed plans typically invest in “alternative assets,” such as real estate or precious metals. Other popular investments include tax liens, private companies, hedge funds, and IPOs. In fact, the IRS permits just about any kind of asset in a retirement plan. The only two exceptions are collectibles and life insurance.
But recently, retirement plans have swung in a new direction. Cryptocurrency is the newest, most explosive asset that people have been placing their self-directed IRAs in. It includes Bitcoin, Ethereum, and all other altcoins.
If you know about self-directed IRAs, great. If you don’t, you can get yourself up-to-speed with a book I’ve written called The Ultimate Self-Directed IRA. Either way, a self-directed plan is the best approach to building tax-sheltered cryptocurrency wealth.
2. A Flat Rate Plan
There are two fundamentally different types of self-directed IRAs: a custodial IRA and a checkbook IRA. In the custodial model, the custodian holds your money and uses that advantage to collect (and often amp up) the fees. They may include transaction fees for everything your IRA does, as well as asset-based fees, which take a percentage of all the money held in the account.
For instance, if you want to invest $100,000 into crypto, a custodial plan may charge 15%, just for holding your money. Per year, that comes out to a whopping $15,000!
In a checkbook IRA, the fee is structured as a flat rate. In that case, you pay a one-time setup fee (typically ranging from $1,200 to$1,800) and a small yearly fee (usually under $200). The checkbook IRA can provide these savings because of its unique, client-centered structure. With a flat fee, it doesn’t matter if you’re investing $100, $100,000, or $100 million. Flat is flat.
And that’s really what you want to do when you’re investing in cryptos. You don’t want to keep paying ever-growing dollar amounts to some third party, just because you’re investments are successful. (Asset-based plans typically charge a percentage as a setup cost, as well as any money you decide to add later.) For active investors who deal with high transactional investments, such as cryptocurrency, a flat rate is the only way to go.
3. Full Investment Control
“Checkbook control” is a feature that naturally comes with a checkbook IRA. This control is essential, in that it gives you absolute control over the investments of your funds.
For instance, custodial plans limit your choice of investments. Typically, they only offer a handful of cryptos. But with a checkbook plan, you are not limited. You can invest in all the cryptocurrencies, as well as those that haven’t even been created!
Moreover, if you want to invest in real estate (or any of the other almost-limitless asset classes), you can do so with a checkbook plan.
The other big advantage of checkbook control is that you hold the wallet and the keys. But in a custodial self-directed IRA, you do not. You have to rely on the security option that the custodian chooses for you. In a checkbook plan, the entire range of security options are open to you. You are never restricted to—or dependent upon—the storage of an exchange. You can move your cryptos into any wallet, including hot or cold storage. You can even move them into several different ones, as often as you wish.
4. The Power of the Roth
There are two types of IRAs:
The first is a traditional IRA. In this plan, the tax payments are deferred. You will have to pay the taxes, but you get to do so at an age when you’ll likely be in a much lower tax bracket. Hence, you’ll have more money in your pocket.
The second is a Roth IRA. It also offers a tax benefit. But the returns are tax-free, not just tax-deferred. In a Roth, the investor pays all taxes now, not later. This difference results in one of the great secrets of wealth-building: Both the principle and the profits come back tax-free. Cryptocurrencies have the potential to produce landfall returns, so a tax-free structure can’t be beat. (The same is true for a Roth 401k.)
5. The Power of a Traditional IRA
There are a couple of reasons why people don’t have a Roth IRA:
The first is that if you make too much, the IRS doesn’t allow you to make Roth contributions.
Note: Even if your income is too high to make new yearly contributions, you can always convert existing traditional funds into Roths.
Another reason is that it might just be too hard to pay the taxes right now—which can take a bite out of the budget, and may not be economically feasible. The result is that many turn to the traditional IRA as the platform of choice.
For cryptocurrencies, it’s still a big win, because investing via an IRA/401k allows you to avoid capital gains taxes. A capital gains tax is the money the government collects for investments that show a profit. When cryptocurrency investors use non-retirement funds to invest, they incur this tax. (Short-term capital gains taxes are especially high.)
However, inside an IRA or 401k, profits are not subject to capital gains. When you take the money out (presumably, years later), it is treated as income, not capital gains. It’s a huge win, especially for an active investor.
1. The Self-Directed IRA (or 401k)
It allows you to invest in cryptocurrencies (and all types of “alternative investments”) as part of your retirement plan.
2.The Flat Rate
It is the most cost-efficient fee structure, because you are not paying exorbitant asset-based fees.
3. Checkbook Control
This feature of the Self-Directed IRA (or 401k) allows you to invest in any kind of cryptocurrency (even the ones that haven’t invented yet). In addition, as you hold the wallet yourself, you give yourself more choices, in terms of security and investing flexibility.
4. The Roth IRA (or 401k)
This type of retirement plan allows your profits to grow tax-free, not just tax-deferred.
5. The Traditional IRA (or 401k)
This type of retirement plan allows you to make profits. Then you can potentially defer the taxes for decades, as well as avoid capital gains taxes.
Watch a two-minute Bitcoin IRA video, which gives a quick overview of the process.