In recent years, Bitcoin, the decentralized digital currency, has gained notoriety worldwide. The reason behind this is many, with the most obvious 97% year-to-date and vast out gain of the S & P 500 in years.
Having said that, with great gains there often comes, the but-obvious high taxes, therefore, it becomes even more important to be well aware of the accounts that are best suited for holding the popular cryptocurrency.
To help you out with this battle of holding Bitcoin, we have curated this quick, easy-to-read guide on the tax-related pros and cons of owning Bitcoin with accounts in different tax treatments.
Let’s straight away get to the juice.
Top 4 Tax-Friendly Ways To Hold Bitcoin. Your Cheat-Sheet!
Here is everything you need to know about holding a Bitcoin for your benefit – the 2021 edition: Bitcoin and taxes!
1. The 401(k)
Still, the most common way amongst employers to help keep Bitcoin off their investment menus. Nevertheless, as of the tax-deferred 401(k) or 403(b), there are a few benefits attached to holding Bitcoin, that is if you are capable of purchasing it.
- You won’t be paying taxes until and unless you withdraw money in retirement, the tax-deferred growth
- The 401(k)s enjoy special bankruptcy protection which is generally shielded from the creditors
- It relatively has a large contribution limit that allows large purchases, as opposed to the others
- The value of Bitcoin is derived from growth and not income. Therefore, tax deferral has limited applicability
- Many employers do not allow Bitcoin, the cryptocurrency in their 401(k) sponsors
- The long-term capital gains tax treatment is not available
- Everyone does not have a 401(k)
2. Taxable Brokerage Account
This simply refers to an account that an individual virtually opens and receives no special tax advantages. Mostly known as the “run-of-the-mill,” with a standard investment account one is allowed to nearly open a brokerage website.
- It is accessible to all people irrespective of their employment status
- No tax addition upon withdrawal
- It offers long-term favorable capital gains tax treatment, that is if held over one year
- It pays no dividend, so it does not increase the taxable income
- There is the flexibility offered for withdrawals
- There is no shield available, this means, gains will still be taxed
- The short-term gains can significantly be taxed
3. The Roth IRA
These are popular tax-free retirement accounts that only accept after-tax deposits, this is the money that is already taxed. Adding to this, these are usually ideal for high-growth investments since one is capable of locking and withdrawing the gains which are entirely tax-free.
- Once you deposit funds, it is fully tax-exempted
- It is best for the highest-growth investments
- A valuable estate planning tool
- It is a relatively small annual contribution with a limit of $6,000 for those under 50 and $7,000 for those over 50
- A valuable investment space can be lost, if at all Bitcoin crashes
- Might be unavailable for the high-income earners in 2022, that is if the new legislation passes
- A risky investment way for retirement
- Can’t access earnings without penalty, until and unless the account is five years old
4. The HSA
Also known as the Health Savings Account, HSA is an unlikely candidate for the next Bitcoin investment, however, a possible theory of holding crypto. For this, you might have to buy a security that tracks Bitcoin, such as Grayscale Bitcoin Trust.
- A fully tax-exempt investing account may come with an employer deposit
- Can be accessed through a brokerage account, provided it is attached to HSA
- Can be viewed as an extension of the Roth IRA
- Has offered with limited contributions: $3,600 in 2021 for an individual, and $7,200 for a family
- These HSA funds are best to help cover the medical expenses
- Could be a little too risky of an investment for an HSA
- Not everyone has the access to an HSA through the employer
Note: Overall, in popular opinion, the best bets of investing in Bitcoin can be seen through a Roth IRA and a regular taxable account, for the reasons mentioned above.
The taxable accounts tend to be a lot more flexible as compared to the standard retirement accounts, however, you’ll need to be aware of the higher short-term taxation if you choose to sell out of the winning crypto positions early.
On the other hand, the Roth IRAs offer long-term and tax-free investing, which comes at a cost of rules and lower contribution limits.
To Conclude: Becoming Aware Of The Tax Consequences Of Bitcoin
Irrespective of the account you choose upon, make sure to choose the one you feel is the best and will serve you as you expect it to. Make sure to know the consequences of taxes upon holding Bitcoin to help make a better and known decision.
The mileage can vary, especially when it comes to investing in Bitcoin: where, when, and how – matter the most.
Our recommendation, take time to study the details and you’d be able to become a seasoned crypto investor, with ease and knowledge.
FAQs: The Most Tax-Friendly Way To Hold Bitcoin: Your Ultimate Easy-To-Read Guide!
1. How to avoid the payment of tax in Bitcoin?
The easiest and the best way to avoid or eliminate the payment of tax in Bitcoin is by purchasing an IRA, 401-k, defined benefit, or any other retirement plan.
In simple words, if you choose to buy cryptocurrency inside an IRA, it is easy to defer tax on the gains, until and unless you begin with distributions.
2. How can an individual avoid capital gains crypto?
Simple answer – hold onto the crypto for the long term.
To do so, make sure that the crypto you’ve held for more than a year. If yes, the cryptocurrency sale is qualified for lower long-term capital gains tax rates that could help save a handsome amount on your tax bill.
3. Do you pay taxes on crypto, if not sold?
If you acquired Bitcoin from mining, then the value is taxable; there is no need to sell the currency in order to make it tax liable. This is also true at either short-term or long-term rates.