Is Now the Right Time to Convert Cryptocurrency to a Roth IRA or Roth 401(k)?

By Jordan Sheppherd

Life Settlements in a Retirement Account? Think Again.

As many of you know, cryptocurrencies (especially Bitcoin) have been on a bit of a tear over the last year or so.  Bitcoin peaked at a little over $40,000 a few weeks ago, and has settled down at $31,000 or so.

We’ve seen a huge increase in interest in cryptocurrencies over the last six months or so, and more and more clients are asking about the possibility of converting cryptocurrencies to a Roth IRA or Roth 401(k).

Converting to a Roth IRA or Roth 401(k) triggers a taxable event, and requires that you declare as ordinary income, the converted amount.  Whether you should do this or not is a personal question, and one you should talk with your tax advisor about, so you have an idea of what kind of tax bill you will end up paying.

It is possible to convert cryptocurrencies in-kind to a Roth account, and if done with some foresight and planning, you can even reduce your tax hit. 

Notice I said that you can convert cryptocurrencies “in-kind” to a Roth account.  That means you do not have to sell the crypto, convert the cash, then buy the crypto again through the new Roth account.  You are able to convert the actual cryptocurrency as it is, or “in-kind”, to the Roth account.  That’s good news, since you probably don’t want to go through the hassle of cashing out the crypto, only to have to buy it at a later date, and possibly at a higher price.

The idea of converting cryptocurrency to a Roth account is generally driven by the idea that cryptocurrencies have a large upside potential.  Since Roth accounts are “after-tax” accounts, any gains are tax-free to you and your beneficiary(ies).  So, if you think Bitcoin is going to swing up to $100,000 or more, the idea is to capture that gain in an after-tax account.  Of course, you have to pay tax to get the crypto into the Roth account, and that’s where you’ll have to make a decision as to whether or not a conversion makes sense for you, tax-wise. 

As I mentioned earlier, it is possible to structure conversions, so that you reduce your tax hit.  We work with a company, owned by my father Steve, that specializes in structuring conversions to Roth IRAs and Roth 401(k)s.  He’s been busy talking with clients about the different structuring options and running figures as to what type of tax reduction they can expect from such structuring.

Given the headlines crypto has generated in the last few months, and the increased interest, I thought it might be helpful to send out this note, mentioning that not only can crypto be converted, but that it might be worth a conversation about doing a little structuring on the front-end to reduce the tax liability on the conversion.

How the conversion is processed and the options available, depend on what type of structure you have.  IRA LLC clients have to run the conversion through their IRA Custodian, so the conversion is recorded and the IRA Custodian can issue a 1099-R to report the conversion.  Clients with a Solo 401(k) have an easier time of it, and a few more options available, given that they are the Trustee of their own plan, and can process the Roth 401(k) conversion internally.

Most of the time, conversions can be structured to spread out over a number of years, which allows you to convert a larger amount, without getting hammered in taxes in one year.  It also gives you the flexibility of structuring the conversion so that from a timing standpoint, you can convert when it best suits you, and not the IRS. 

If you’re interested in doing a conversion of crypto, or any other asset, send us an email, and we’ll be happy to give you some information on the basics, and put you in touch with Steve.

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    1. David Rourk

      Hi Jordan,
      Our solo401k opened an account with Gemini Exchange several years ago and invested solo401k money into different cryptos. I was under the impression that those investments would grow similar to any of the other solo401k sponsored investments (taxed on removal from the solo401k…not on the removal from the individual investment). Did I misunderstand?

      An example. If I cash out a bitcoin from the Gemini exchange (and have a profit) and move the proceeds to the solo401k’s bank account, from which the original investment came, I don’t believe that’s taxable until i withdraw some of that money from the bank account as all transactions occurred under the solo401k accounts (bank and Gemini). Correct or incorrect? Thanks, Dave

      • Jordan Sheppherd

        Hi Dave – yes, you are correct. The gemini account merely holds the crypto the 401(k) purchased. If you decide to pull that off the exchange and into another account, or some other form of storage, that is not a distribution. The same if you were to cash out of the crypto and move the cash back to the 401(k)’s bank or other accounts. You must process a distribution and remove the cash or assets from the plan to yourself in order for it to be a taxable distribution.