3 Benefits of Holding Digital Currency in an IRA
1. Potential Tax Advantages of Using a Self-Directed IRA to Invest in Digital Currency
Government-sponsored retirement accounts, such as IRAs, were established to help individuals save for retirement in a tax-advantaged environment. Investments within the accounts grow tax-deferred or tax-free (depending on the account type and as long as IRS guidelines are followed). It is also possible to qualify for tax deductions, depending on the type of retirement account.
Equity Trust offers the ability to invest in digital currency with both a Traditional IRA and Roth IRA. Both account types offer unique tax benefits.
In a Traditional IRA, contributions/rollovers are made pre-tax, and offers the account holder the ability to take a tax deduction prior to contributing to the account. This means that all funds in the account are tax-deferred, and the account holder does not pay taxes until funds are withdrawn.
In a Roth IRA, contributions/rollovers are made after taxes are paid. The account holder does not get a tax deduction on the contributions; however, when funds are withdrawn from the account (if all rules are followed), the account holder does not pay taxes on the cash/assets withdrawn from the account.
Purchasing Bitcoin Outside of an IRA vs. Inside an IRA: A Hypothetical
If you purchased 10 Bitcoins on December 1, 2016 the price was $7461 per Bitcoin for a total cost of $7,460. One year later, you sold those 10 Bitcoins on December 1, 2017 the price was $10,198 for a total return of $101,980. In this example, there would be a profit of $94,520, which would be taxable on your 2017 tax return.
In this hypothetical, let’s assume that profit will be taxed at 20% (the long-term capital gains rate for 2017). At that rate, you would be responsible for $18,904, leaving you with a total gain of $75,616.
If this same transaction was in a Traditional or Roth IRA, and all the money was kept in the account, the profit would be tax-deferred, and you would still have $101,980.
2. Short-Term/Long-Term Capital Gains and Cost Basis Calculation
Normally, purchases and sales of assets such as stocks, bonds, mutual funds, etc. are subject to short-term and long-term gains tax. Digital currency is no exception to this rule, unless you hold the assets in your IRA account.
Since all IRA funds are either tax-deferred or tax-free, individual purchases/sales within the account do not require reporting to the IRS for short-term or long-term gains tax. This eliminates the need for you to track cost basis for your individual transactions.
In 2014, the IRS issued Notice 2014-21, which set its position on digital currencies, stating “virtual currency is to be treated as property for US Federal tax purposes.”
This means that income made from the sale of Bitcoin or any digital currency is subject to short-term taxation or long-term capital gains tax rates, just as any property investment would be. Significant gains in the value of the investment could result in accompanying taxation by the IRS.
3. Portfolio Diversification
In a Self-Directed IRA at Equity Trust, we offer the ability to invest in almost limitless asset categories, all within one account.
From real estate, private entities, promissory notes, precious metals, foreign currency, and now digital currency (just to name a few), Equity Trust provides an investment vehicle to comprehensively diversify your retirement portfolio.