Many investors, such as Millennials, see cryptocurrency as the future of money with the potential of being a profitable investment asset (although risky and highly volatile). To date, Bitcoin is the most well-known and popular cryptocurrency. It is also the oldest, having emerged in 2009 by an unknown developer who went under the pseudonym ‘Satoshi Nakamoto.’
The taxation of cryptocurrency may not be favorable for investors, but the use of a retirement account to purchase crypto is. When investors make any type of investment with a retirement account, such as the Self-Directed IRA or Solo 401(k), tax is deferred to a later date. In the case of a Roth Self-Directed IRA or Roth Solo 401(k), the income generated by the investment is tax-free. But before we go further into cryptocurrency taxation, let’s take a look at cryptocurrency itself, and where it stands in the alternative investment market.
Bitcoin & Altcoins 2019 Resuregence
Many investors remember 2018 well, when the price of Bitcoin dropped more than 80 percent. Altcoins, such as Litecoin and Ethereum were not far behind. However, Bitcoin and the cryptocurrency market is making a comeback in 2019. At the time of writing this article, the price of Bitcoin has exceeded $11,000, an increase of approximately 200 percent since the start of the year. While the crypto market is still a rollercoaster ride (recently, Federal Reserve Chairman, Jerome Powell shared cold words about Libra, which caused a drop in cryptocurrency), experts believe cryptocurrency is starting to be taken more seriously. This may lead to a very successful future for all types of digital currency.
Still, purchasing cryptocurrency is a process many individuals don’t quite understand. After all, it isn’t currency from an IRS standpoint, and it isn’t stock. Most investors in the U.S. have found Coinbase to be the easiest way to purchase crypto, as it creates a simple, straightforward approach. On the Coinbase site, simply add a payment method, enter the desired amount, complete the purchase and the cryptocurrency will be delivered to the wallet you selected in minutes.
IRS Position on the Taxation of Cryptocurrency
From a federal and tax standpoint, cryptocurrency is not considered “currency.” The IRS set forth its position on cryptocurrency for the first time in a 2014 statement. The IRS stated that virtual currency will be treated as property for U.S. federal tax purposes. Therefore, general tax principles that apply to property also apply to cryptocurrency. All income or gains from the sale of cryptocurrency will be treated like a capital asset and will be subject to short-term and long-term capital gains tax rates (short term being ordinary income tax rates and long-term being 15% or 20% based on income). In creating this type of taxation of cryptocurrency, the IRS is imposing extensive record-keeping rules and significant taxes on its use.
However, if investors use a retirement account to purchase cryptocurrency, they can defer tax from the income/gains the investment generates. Again, in the case of a Roth IRA, they can eliminate tax altogether. There is the subject of Unrelated Business Taxable Income (UBTI) tax, which may be applied to investors who are interested in mining cryptocurrency rather than trading them. Investors will be subject to the UBTI only if the mining is considered an active trade or business.
Keep in mind that cryptocurrency is very volatile, thus, a risky investment. If you are interested in using the Self-Directed IRA or Solo 401(k) to purchase cryptocurrency, it is highly advised that you do your due diligence and understand the crypto market and the cryptocurrency technology. When you feel confident that you can make cryptocurrency investments, start investing on the IRA Financial app, which allows you to establish and maintain your account, fund it, make investments and perform transfers/rollovers.