It’s almost impossible to not be curious about cryptocurrency – even if you’re the most ardent index fund investor. As the crypto ecosystem has evolved over the past decade, we’re now seeing an increase in investor interest in crypto as a retirement investing option and also, retirement accounts that offer crypto as an investment option.
Since it’s unlikely that your 401(k) provider offers digital assets, your best bet for crypto investing is through an IRA, or Individual Retirement Arrangement. Recall that IRAs are opened outside of your employment relationship, and you’ll need to do the work when it comes to identifying your optimal IRA provider and opening the account.
Here, we’ll first walk through the basics of how a crypto IRA works, and then outline the process of rolling over your old employer 401(k) to a crypto IRA.
What is a crypto IRA, and what makes it different?
A crypto IRA is not that different from a standard IRA when it comes to tax laws and rules, but it is substantially different in terms of the investment types it allows.
Inside a crypto IRA, you’re able to buy and sell a variety of cryptocurrencies, like Bitcoin, Ethereum, and Litecoin – and some providers will also allow access to more exotic alternative coins (“alt-coins”). Here it is important to note that crypto investments are significantly more volatile and high-risk, and you should be thoughtful about the amount of retirement money you invest in crypto.
Tax advantages of investing in crypto through an IRA vs a taxable account
One of the major issues with holding crypto in a regular, taxable account (or wallet) – either by directly holding the underlying currency or by holding it indirectly through an ETF – is that you’ll pay tax on any realized gains. In other words, if you buy Bitcoin at a certain price and it rises in value, you’ll be liable for capital gains taxes on the rise in value when you sell it. This is the same experience you’ll have when buying and selling stocks.
In a crypto IRA, however, you won’t be taxed on any gains you incur while trading inside the account. Regardless of the type of crypto IRA you have, you won’t have to worry about the burden of paying capital gains taxes immediately on your gains. However depending on whether you have a Traditional crypto IRA or a Roth crypto IRA, there will be different tax implications when you withdraw the money.
Another important feature of crypto IRAs is that you may have the option to “stake” your crypto for either interest or rewards, and avoid paying taxes at the time you earn them. In many ways, staking crypto is like earning interest at a bank, or collecting interest on any loan you’ve granted
In the context of a crypto IRA, you can earn different staking rewards without incurring any tax at the time you earn them. But, much like a traditional or Roth IRA, you’ll either need to pay ordinary income tax on money you withdraw (like a traditional IRA), or you’ll need to have paid tax already on the money going in (like a Roth IRA).
Rolling your 401(k) to a crypto IRA: the pre-work
Before you start, there’s some key pre-work that will make your life quite a bit easier once you actually begin moving money. This includes:
- Choosing a crypto IRA provider. You’ll need to pick one of the various firms to hold your IRA, and if storing crypto is important to you, you’ll need to ensure that the firm you choose allows this.
- Deciding between a Traditional or Roth IRA. As mentioned earlier, a traditional IRA is meant to hold “pre-tax” money – or money that has yet to be taxed. Over time, money in a traditional IRA grows tax-deferred until you decide to withdraw it, when it is then taxed at ordinary income rates. A Roth IRA, on the other hand, is meant to hold money that’s already been taxed, and once you deposit money to a Roth, it’s eligible to grow entirely tax-free for the rest of your life. In choosing between the two, you’ll need to evaluate your entire financial picture, ideally in consultation with a fiduciary tax advisor or financial planner.
- Having an old 401(k). You won’t be able to move your 401(k) unless it’s from a former employer, so make sure that you’ve moved on to your next chapter before attempting a rollover!
Rolling your 401(k) to a crypto IRA: the process
- Check the tax status of your old 401(k). Is your old 401(k) a traditional 401(k) or a Roth 401(k)? You’ll want to make sure that the IRA you open matches the tax status of your old 401(k). This helps ensure you don’t fall into easily avoidable (and often quite expensive!) tax traps.
- Open a crypto IRA at a provider of your choice. You’ll need to look a little bit harder than you would for a run-of-the-mill IRA, but there are various options. Among them:
- Contact your former employer’s 401(k) plan administrator. Since it’s highly unlikely that your old 401(k) plan offered crypto as an investment option, you’ll probably need to request a full liquidation of your existing 401(k) investments – or at least the portion of your 401(k) you plan to transfer to a crypto IRA. Once that’s complete, you’ll need to request a check made out to your new provider, for your benefit (or “FBO”). This is a tax- and penalty-saving measure that makes the process a bit easier to manage.
- Request that the check be sent to your new crypto IRA provider. If this is an option, it’s best to avoid having the check sent directly to you, but if it is sent to you, it’ll be your responsibility to forward it along to your crypto IRA provider.
- Confirm that your crypto IRA is funded and ready to trade. This is purely administrative, but it’s an essential step.
- Allocate the funds to cryptocurrency as you see fit. If you see your 401(k) money in your new crypto IRA, you’ve completed the process – almost. You’ll need to make sure you actually invest the money by buying crypto!
If all this seems too much, Capitalize is a free service that allows you to seamlessly roll over your 401(k) into any IRA of your choice – including a crypto IRA. From filling out forms to staying on hold with your old 401k provider, we do all the work on your behalf.
