Should You Invest in Cryptocurrencies with a Self-Directed IRA?

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Written By Mark

Mark is the co-owner of and has many years of experience in financial markets. 

Many individuals have or plan to save up for their retirement years using some type of an individual retirement account often plans provided by their employers. This is a longer-term savings plan that can save the investor money due to tax breaks and other advantages.

There are penalties, usually in the form of taxes and additional fees, if you withdraw money out of these accounts before the designated retirement age.

Some Investors Are Turning Towards Self-Directed IRAs to Avoid Taxes

More investors are finding out new ways to avoid high taxes and other hidden fees by investing in a self-directed individual retirement account or SDIRA.

These savings plans allow a greater number of alternative investment options that the typical traditional IRA will not allow, refer to our guide about the differences between them to know more. This is proving to be an enticing offer that many individuals are taking advantage of these days.

Some wonder though, should you invest in cryptocurrencies with a self-directed IRA?

Understanding the Complex Processes of Self-Directed IRAs & Cryptocurrency

Financial experts do caution that cryptocurrency investments were designed for more experienced investors due to the complex processes that self-directed IRAs tend to involve.

Understanding the digital related currency options is also something difficult to grasp fully if you are new to these sorts of investments.

What Are Cryptocurrencies & Why Are They Popular with Some Investors?

The definition of cryptocurrencies refers to a digital type of currency. This currency form does not rely on a centralized authority to properly maintain it in the way that traditional paper or other forms of lucrative currency usually do.

Instead, cryptocurrencies, digital currency, relies on a decentralized authority where transactions and other important cryptocurrency data regarding its ownership is stored or divided among many investors using a blockchain technology where everything is kept out in the open in a digital format.

Advantages of Investing in Cryptocurrencies Over Traditional Investment Types

It is possible to buy cryptocurrencies using or through a self-directed IRA. One huge advantage of this is that a self-directed IRA is considered a tax advantage or benefit retirement account that differs from traditional IRAs that only allow a set amount of investment type options.

Owning Digital Assets, Like Cryptocurrency, in SDIRAs Allow Non-Taxed Transactions

In traditional IRA asset situations, if the asset owner wishes to sell all or a portion of their assets while still held in the IRA, the government IRS office will tax those transactions.

Cryptocurrency owners that have their digital assets invested in a SDIRA may sell portions of their held assets without having to pay those IRS taxes until they withdraw the assets from their SDIRA in certain cases.

It is important to note that other platforms that allow digital assets, such as cryptocurrencies, do have tax rules that subject the digital asset transactions to taxes related to short- and long-term capital gains tax.

Those other platforms include broker type platforms, like Robinhood, along with other cryptocurrency exchanges.

Types of Assets & Investments That May Be Held in a Self-Directed IRA

In traditional IRAs, there are limits to the type and form of assets and investments that may be held in these accounts. These allowable IRA investments include mutual funds, bonds and stocks.

In a self-directed IRA, account holders may invest a more diverse range of assets or investments. These include precious metals, commodities, real estate, business franchises, limited liability partnerships and digital based assets like Bitcoin and other types of cryptocurrencies.

How Bitcoin & Other Newer Cryptocurrency Types Work Using Blockchain Technology

Unlike the more familiar currency or investment assets, a blockchain technology operates without the use of an intermediary meaning that it is a decentralized financial type.

There are no banks, other financial facilities or government entity involved in these financial transactions and investments.

Common Types of Digital Currencies

Bitcoin is considered the first large digital currency type that was produced by means of blockchain technology. Newer forms of digital currencies include, Litecoin, Polkadot, Monero, Ether, Binance Coin, USD Coin and Tether among others.

Cryptocurrencies Use a Peer-to-Peer Setup When Completing Financial Transactions

Digital forms of currency tend to use a peer-to-peer approach when completing financial transactions using these forms of currency.

The platform relies on a distributed ledger network where a long chain network of computers located worldwide is responsible for digitally mining the currencies with each individual transaction is termed a block.

The Differences Between Crypto IRAs & Most Other SDIRAs Explained

There are a few financial services that are known to specialize in cryptocurrencies that provide a wider range of available cryptocurrency digital assets to be invested in these accounts.

However, these specialized financial services, or Crypto IRAs, tend to only deal with crypto related assets on their trading and investment platforms.

This means that the investor may only be able to deposit and invest in approved cryptocurrencies alone and will not be able to invest in other commodities and assets allowed by the newer self-directed IRAs that allow a more diverse range of assets like precious metals, real estate and others.

Another possible limitation to keep in mind is that many self-directed IRA companies only allow each investor a limited amount of cryptocurrencies to be deposited into these IRAs, and some companies that deal with alternate forms of investments in a SDIRA do not allow cryptocurrency investments at all.

Is It Legal or Permissible to Invest Cryptocurrency in a Self-Directed IRA?

Yes, investors may legally invest certain types of digital assets, like Bitcoin and other related cryptocurrencies, in a self-directed IRA provided that the chosen company offers this investment option.

Some businesses that allow these digital assets in an IRA format will also offer the holder to earn interest on their digital currencies which is a huge advantage.

It should be noted here that many of these self-directed IRA companies that allow digital investments have limits on the amount of cryptocurrency allowed or only provide these services for a larger amount of cryptocurrencies making this option only available to those that have the means for serious investing.

Do All Financial Experts Recommend Investing Digital Currencies into a SDIRA?

No, many financial experts caution less experienced investors to avoid investing digital currencies into a self-directed IRA for several different reasons. Most new or inexperienced investors will find the process too difficult and challenging to fully understand.

Inexperienced Investors May Want to Proceed with Caution on Digital Currency SDIRA Investments

Not understanding how these investments work can result in poor investment and financial savings strategies that can cost the investor money and higher tax and other fees making the investments less than profitable or not worth the risk.

Most investment experts recommend that first-time investors wait a bit and study the investment markets a while before making larger investments using digital currency.

This can help to avoid costly IRS tax penalties and SDIRA company hidden fees for certain transactions.

Even the average investor may not realize the full benefits of this type of SDIRA plan if they have not done their homework before making the investment plunge.

Overview of the Two Types of SDIRA Cryptocurrency Involving a Custodian

There are currently two main types of SDIRA cryptocurrency investment opportunities that investors should consider before making a final investment decision.

Both investment methods do require the services of a custodian or a qualified third-party entity to handle various processes like transactions, trading and storage of any physically tangible assets.

The main difference between these two self-directed IRA using digital currency is related to the different services that the custodian will provide. These two investment types are termed checkbook control SDIRA and custodian controlled SDIRA.

Checkbook Control SDIRA Overview

The checkbook control SDIRA option means that the investor is fully responsible for remaining in compliance with current IRS related rules and regulations.

The huge advantage of this investment SDIRA option is that it gives the investor more control over their investments.

The disadvantage of this SDIRA type is that it can be quite overwhelming and requires knowledge of investing at a much higher level. This is because the entire process is more detailed and complex.

There are more required documents that will need to be filed on time that have to contain precise details regarding your investments and the methods that you use.

The investor is required to set up a limited liability company or LLC to handle these digital asset investments. The assets and funds in this sort of IRA must be kept separate from your personal finances.

A major drawback to choosing this checkbook control SDIRA is that if you are not careful in following all related IRS and other investment rules and requirements, you could end up paying steep IRS related taxes and other fines and/or fees that can end up being a huge stressful financial disaster.

Custodian Controlled SDIRA Overview

In a custodian controlled SDIRA, the appointed custodian takes care of more processes leaving the investor less involvement in this arduous investment process.

This can be the right choice if an investor does not want to worry about ensuring that IRS related requirements are completed properly and filed on time through the years.

The custodian will take charge of the IRS and tax related details giving the investor a sense of deep relief that could be well-worth the higher costs of these services generally required.

Another benefit of using a custodian backed SDIRA for your cryptocurrency investments is that they are able to store your cryptocurrency along with other potential investment assets like gold, silver or other precious metals that are not allowed to be stored in the investors home.

In this type of SDIRA, the custodian will handle all the details related to storage as needed in each unique case.

Many of the companies that provide cryptocurrency investments in a self-directed IRA also provide a user-friendly investing experience.

Some provide a one-stop-suits-all investment SDIRA process that gives the investor 24/7 access to their held funds and assets along with access to an exchange trading platform for cryptocurrency for added convenience.

These custodial SDIRA companies often assist with IRA or other fund rollovers and transfers in a quick and simple format that will even store cryptocurrency assets in one location called a digital wallet.

Some Potential Risks of Opening a Cryptocurrency Self-Directed IRA

The main potential risks of holding cryptocurrency in a SDIRA involves more responsibility to the account holder to abide by all IRS regulations and other rules.

In addition, it is more expensive to open an LLC and keep track of all fast-changing requirements that involve trading or investing in cryptocurrencies.

Cryptocurrencies, or digital currencies, are less tangible so come with lots of speculation that may drive the value up or down swiftly depending on public knowledge and trust in these asset types.

Digital related currency tends to change rapidly, so this kind of investment will require a lot of attention to details on the part of the investor.

When Is Investing in Digital Currencies Using a SDIRA Useful & Recommended?

Financial and investment professionals generally advise clients who are already familiar and experienced in investing alternative assets could benefit form investing in digital currencies using a SDIRA that allows this investment type.

This is a terrific way to create a cushioned barrier for your investment portfolio much like investing in precious metals. These investments are also how wealthier investors save money by avoiding taxes over a longer timeframe.

Newer investors with some background in alternate investments may want to begin with smaller cryptocurrency amounts to gain more experience and help to diversify their savings at the same time.

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