A process for adding digital currencies to a self-directed retirement plan may still materialize.
Over the last few decades, the internet has redefined commerce. As a result, brick-and-mortar businesses increasingly are going the way of VHS. Goods from entire markets, from books and toys to cars and houses, are available from the comfort of one’s living room, at the stroke of a key.
A Still-Elusive Option
So why, when purely digital offerings like Bitcoin, Ethereum and Ripple are more accessible than ever, and IRA providers are optimizing their online investment platforms, does the concept of a safe and user-friendly cryptocurrency IRA still seem so elusive?
Decentralized transactions and ease of online access (not to mention exploding prices) have fueled the romance behind cryptocurrencies, but IRA providers are charged with oversight involving any assets under their custodial umbrellas. In other words, a measure of control and structure must be applied to an asset class characterized by egalitarian exchange. This has presented IRA providers with a challenge in these early stages.
Coupled with their 2014 designation as property, the rise of digital currencies has spurred demand among investors to put these fascinating yet volatile assets to work in their retirement plans. Property and similar commodities, like real estate and precious metals, have drawn increased intrigue among retirement investors as word has spread about the permissibility of such assets in self-directed IRAs, 401(k)s, and health savings accounts (HSAs). Now, with cryptocurrencies falling under the same category, and having already made millionaires out of early investors, the race is on to bridge the gap between retirement plan holders and the bull run on cryptocurrencies.
Amid the price-fueled frenzy, the convenience and security of cryptocurrency transactions have remained in focus. Investors seek near-instantaneous transactions as dramatic daily price swings—sometimes in the thousands of dollars— dictate the tides of significant gains and losses. The integration of IRA technology into alternative asset marketplaces has certainly boosted transaction efficiency and is trending toward the lightning pace required in the hectic arena of cryptocurrency exchanges. Platforms that offer expedited trades may be taken with a grain of salt, as they would appear to offer their prompt services at the expense of security. Online “wallets” that store digital currencies have become popular targets among hackers looking to make a quick and fraudulent buck.
Incorporating Cryptocurrencies Into Retirement Plans
A variety of procedures have emerged for incorporating cryptocurrencies into self-directed retirement plans:
Multiple Key Verification // Under this system, separate individuals or entities possess one of three keys associated with a given cryptocurrency account. For a transaction to transpire, two of the three keys must be applied (“turned”) as a means of providing final authorization.
Depending on the policies of the entities involved and the method of storage, the keys may be disbursed among the IRA provider, the exchange platform, the intermediary company that brokers the trade or another storage facility. Utilizing multiple entities for each transaction can prevent any one of them from maliciously manipulating one’s retirement holdings, but processing times may suffer as a result of the added coordination between parties. Finding a suitable balance has been an ongoing process for IRA providers.
Hardware Storage // Hardware wallets provide a hedge against hackers. Access to these cold storage devices can occur only by plugging them in to a computer or entering a complex recovery password on a similar device. Therefore, as long as the device and recovery password are kept safe, the cryptocurrencies stored therein should be equally safe. However, hardware storage will likely involve slower processing times and won’t be completely devoid of third-party interaction.
Because retirement investors may not retain personal possession of assets owned by their plans, any cold storage devices would have to be deposited at an appropriate facility. Depository staff would then personally facilitate any cryptocurrency transfers, or the device would physically travel between the storage facility and the asset provider.
Limited Liability Company
The LLC approach affords plan holders a high degree of control over their retirement investments. Instead of acquiring and storing cryptocurrencies directly, a private entity like an LLC can be established as the plan-held asset. Once funded, the plan holder can execute investments on behalf of the LLC for the ultimate benefit of his or her retirement plan. This allows investors to purchase and store cryptocurrencies using the platforms that meet their individual preferences regarding speed and security, all while yielding the tax benefits provided by their retirement plans.
The LLC route bears other considerations, regardless of the held asset type. The IRS requires annual valuations of any self directed investments that don’t feature a consistently accepted market value. Account holders may also draw IRS scrutiny and put themselves at risk of an audit, as self-dealing activities—intentional and unintentional alike—are strictly prohibited and far more common with plan-owned entities given the hands-on nature of this investment model. As such, accurate and comprehensive documentation of all investment activity is absolutely essential.
Any improprieties among LLC holdings may result in the full distribution of the LLC itself, complete with any applicable tax and penalty burdens to the account holder. For example, a prohibited real estate transaction within an IRA-owned LLC would jeopardize the tax advantages of cryptocurrencies, precious metals or any other assets owned by the same entity.
Furthermore, IRA providers are required to exercise a certain level of control over the plan-held assets they administer, even if that asset is an LLC and its holdings. If the IRS demands that a plan holder’s assets be frozen or that relevant investment documentation be turned over, it may be difficult to comply in the case of LLC-owned cryptocurrency. Accordingly, IRA providers may be hesitant to propose the LLC option to their clients as the potential ire of the IRS looms large under these circumstances.
What Does the Future Hold?
As providers wrestle with these factors in pursuit of the ideal crypto-IRA experience, investors are chomping at the bit to tap the ever-evolving market of digital currencies with their tax-advantaged savings vehicles. Much like the internet in its fledgling stages, struggles among emerging technology, economic opportunity, personal security and overall efficiency may continue to epitomize cryptocurrency IRAs in the immediate term. Even so, today’s technological landscape allows barriers to crumble just as quickly as they rise, so there’s every reason to believe that a fast and secure process for adding digital currencies to a self-directed retirement plan is right around the corner.