Cryptocurrency is everywhere. From being used for charitable donations and even on our TV screens during the Superbowl commercials. But when it comes to the future of retirement planning, how do these new world assets come into play?
With the popularity of cryptocurrency on the rise, everyone is eager to invest in it or invest it for retirement. Because crypto is so new, there are still rules and stipulations being crafted to be able to save it for retirement.
The IRS has rules in place stating you cannot contribute cryptocurrency directly into your Roth IRA, but there are currently no rules about adding crypto to your Roth IRA via purchase.
Here’s a look at digital currency and how planning for retirement could change.
Crypto & Roth IRA
Bitcoin IRA’s are retirement accounts designed to let you invest in cryptocurrencies. It's important to be aware of the risk you are taking if you're considering investing in crypto. Because crypto is so volatile, it would be considered unsuitable for somebody approaching retirement who cannot afford to ride out a downturn.
In 2014, the IRS considered Bitcoin and other cryptocurrencies in retirement accounts as property, so that coins are taxed in the same fashion as stocks and bonds. Thus, cryptocurrency held in a Roth IRA has an income tax basis for purposes of measuring gain or loss upon occurrence of a taxable sale or exchange.
Even though you can’t add cryptocurrency directly to your Roth IRA because of Section 408(a)(1). This section requires that contributions to IRAs need to be made in cash. You can however, add cryptocurrency to a Roth IRA by purchase, because cryptocurrency is considered a property.
Bitcoin IRAs
For those who are committed to include Bitcoin in their IRAs, self-directed IRAs (SDIRAs) allow for an alternative asset like cryptocurrencies. Recently, there have been companies designed to help investors include Bitcoin in their IRAs. Some of these companies include BitIRA, Equity Trust, and Bitcoin IRA.
One of the positives of adding crypto to your portfolio is that it can add further diversification to Roth IRAs, and others that cryptocurrencies which will continue to increase in popularity and price into the long-term future. However, one of the negatives is that crypto is characterized by being volatile, and this represents a huge risk for those investors approaching retirement who cannot wait out a downturn.
You should also be aware that fees for crypto IRAs are typically much higher than for “traditional” IRAs. There are also recurring custody and maintenance fees charged by providers of such services, and fees associated with individual cryptocurrency trades. A typical provider may charge 3.5% per transaction for each purchase and 1% or a flat fee for each sale. Cumulatively, those fees could negate the tax advantages offered by IRA accounts
Crypto & Charitable Donations
For charitably minded individuals, cryptocurrency investments held for more than a year could provide a unique opportunity to leverage highly appreciated assets to achieve maximum impact with charitable giving. Bitcoin and other cryptocurrencies can be donated to charity, just like stocks and other property. Donating cryptocurrency can, however, be a little more complicated.
Some benefits of using Crypto for charitable donations include avoiding Capital Gains taxes. Taxpayers can avoid having to pay capital gains taxes yet still claim the full donation as a charitable deduction if they donate the Bitcoin directly to the charity. If a taxpayer sells Bitcoin and donates the after-tax cash to a charity, the capital gains will be subject to short-term or long-term capital gains taxes, depending on how long they held the Bitcoin before selling it.
What's more, if you itemize deductions on your tax return instead of taking the standard deduction, you may claim a fair market value charitable deduction for the tax year in which the gift is made and may choose to pass on that savings in the form of more giving. Donor-advised funds, which are 501(c)(3) public charities, can be a tax-efficient solution for accepting contributions of cryptocurrency, as the funds typically have the resources and expertise for evaluating, receiving, processing, and liquidating non-cash assets.
To substantiate your charitable income tax deduction, you are required to complete Form 8283 and obtain a qualified appraisal from a qualified appraiser for contributions of cryptocurrency valued at more than $5,000.
Final Thoughts
Investing in crypto is a tricky topic to say the least. Since there's no one size fits all plan for everyone, it's important to look at the risk and see if it's something you believe you can take on. While holding crypto in your IRA can increase diversification, the extreme volatility of crypto makes it a poor choice for a retirement investment.
The good thing is that there are alternatives: crypto IRAs, which allow you to invest in crypto for your retirement accounts. Whatever your retirement strategy, there are risks to identify and manage as you navigate retired life. But one key factor remains the same: the more you prepare, the less nasty surprises you'll face along the way. Plus using crypto for charitable donations could save you on Capital Gainss taxes and also may increase the amount available for charity by up to 20%.
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