Over the past few years, interest in cryptocurrencies among retail investors has grown considerably - especially with all of the hype surrounding popular digital currencies like Bitcoin. Therefore, with all of the hype, you might be wondering whether it's possible - and a good idea - to invest in cryptocurrencies in your IRA (Individual Retirement Account).
While it's possible to invest in digital currencies like Bitcoin in a self-directed IRA, which investors can use to make alternative investments not permitted in traditional IRAs, most financial experts warn average investors against doing it.
Here are the three biggest reasons why you should not invest in cryptocurrencies for your retirement.
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Strict Rules to Follow
As mentioned, if you want to hold alternative investments - like cryptocurrencies - in a retirement account, then you will have to open a self-directed IRA. Unfortunately, they aren't very widely available - because the Internal Revenue Service places stringent rules on the kinds of investments permitted in retirement accounts.
However, when it comes to a self-directed IRA, you are also personally accountable if any rules get broken since you are responsible for managing your investments. Therefore, if you fail to follow all of the rules, your retirement account can end up losing its tax-deferred status. That means you could end up paying steep penalties and taxes if you cannot abide by the strict rules.
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Higher Fees
Since self-directed IRAs are not as widely available, you will most likely have to open one through a specialized financial firm or custodian. Unfortunately, due to the extra compliance and IRA requirements, opening a self-directed IRA account can be much more expensive than a traditional retirement. For example, most custodians will charge a few hundred dollars just for a setup fee. Furthermore, you can pay steep yearly fees related to renewing your account. Those higher fees can end up significantly cutting into your investments.
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Greater Risks
Finally, cryptocurrencies and self-directed IRAs both come with bigger investing risks. For example, since you are in charge of selecting and managing your investments, you are at greater risk of falling victim to fraud and investing schemes. Think about it: When you invest in a professional fund in a traditional retirement account, the fund has a team to analyze its risk and returns. However, in your case, you will be all on your own. Therefore, you can stand to lose a lot of money if you don't understand your investments well.
Furthermore, cryptocurrencies are highly volatile - much more so than stocks and bonds. For instance, after the price of bitcoin hit record highs in April 2021, it crashed - and many investors lost vast sums of money. You don't want that to happen to your retirement savings.
In short, it's best to avoid investing in cryptocurrencies for retirement because the potential gains are not always worth the strict rules, higher fees, and more significant risks involved with opening a self-directed IRA and managing your investments. Instead, you are likely better off financially by sticking with traditional investments in a traditional retirement account.