Bitcoin ETFs vs Bitcoin IRAs: Which Should You Invest In?

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Last Updated on: 7th March 2024, 05:48 pm

There’s been considerable interest in Bitcoin investing as of late—and for good reason. In January 2024, federal regulators approved the first wave of spot Bitcoin ETFs, making it easier for investors to buy “shares” in the cryptocurrency without taking custody of the coin itself. 

It’s no surprise, then, that investors have rushed into the asset class. In March of that year, Bitcoin surpassed its all-time high price of about $69,200 per token, marking a +50% appreciation in a single month.  

So far, Bitcoin ETFs have taken the spotlight. Recently, Bitcoin ETFs hit a record $10 billion in trading volume, while BlackRock’s iShares Bitcoin ETF, for instance, reached $10 billion in assets under management (AUM) in just seven weeks. This rapid growth has led some to predict that Bitcoin is entering a “high growth institutional adoption phase”.

On the other hand, Bitcoin IRAs offer a unique advantage for those looking to build wealth while avoiding capital gains taxes. Small wonder why a recent survey revealed that 40% of millennial investors want to add cryptocurrencies to their retirement plans. Today, companies like My Digital Money and BitcoinIRA have introduced hundreds of thousands of customers to Bitcoin IRA investing on a tax-advantaged basis. 

Both Bitcoin ETFs and Bitcoin IRAs offer unique benefits and drawbacks. In the following sections, we’ll dive deeper into these two investment methods, comparing their costs and benefits to help you make an informed decision about your financial future. 

Bitcoin ETFs vs. Bitcoin IRAs: A Brief Overview

When it comes to investing in Bitcoin, both ETFs and IRAs have their own unique advantages and disadvantages. Let’s break them down:

Bitcoin ETFs:

  • Pros:
    • Liquidity: Bitcoin ETFs are traded on traditional stock exchanges, providing high liquidity and the ability to buy or sell shares at any time during market hours.
    • Accessibility: They are accessible to most investors, including those with traditional brokerage accounts.
    • Diversification: Some Bitcoin ETFs invest in a basket of cryptocurrencies, offering diversification benefits.
  • Cons:
    • Fees: ETFs come with management fees that can eat into your returns.
    • Potential for Tracking Error: There can be a discrepancy between the performance of the ETF and the underlying asset.
    • Lack of Ownership and Control: Unlike purchasing Bitcoin tokens in an IRA, owning shares in an ETF does not give you ownership of the underlying Bitcoin assets. You do not possess cryptocurrencies in a controllable wallet, unlike investing in them directly. Instead, you merely own shares in a fund that owns and manages the Bitcoin on your behalf. This presents counterparty risk.

Bitcoin IRAs:

  • Pros:
    • Tax Advantages: Bitcoin IRAs offer tax-free growth and tax-free withdrawals if it’s a Roth IRA.
    • Control: You have more control over your investment choices.
  • Cons:
    • Limited Access: You can’t access your funds until you reach 59.5 years old without incurring penalties.
    • Complexity: The rules and regulations for Bitcoin IRAs can be complex and difficult to navigate.

Now, let's take a closer look into these factors and discuss why, despite the higher complexity, Bitcoin IRAs could be a more beneficial investment for your retirement portfolio. 

Why Bitcoin IRAs Could Be a More Beneficial Investment

While Bitcoin ETFs offer a straightforward and accessible way to invest in Bitcoin, they may not be the most advantageous for long-term investors, especially those planning for retirement. Here’s why:

1. Tax Advantages: Bitcoin IRAs, particularly Roth IRAs, offer significant tax advantages. With a Roth IRA, you make contributions with after-tax dollars. While you don’t get a tax deduction for your contributions, your investments grow tax-free, and you can make tax-free withdrawals in retirement. 

2. Control Of Your Assets: With a Bitcoin IRA, you take full ownership of your assets. Your Bitcoin tokens are yours to keep, sell, or trade as you please, will full control of your wallet. This level of control is typically not available with Bitcoin ETFs, which are managed by fund managers.

3. Potential for Higher Returns: Given the potential for high returns on Bitcoin and other cryptocurrencies, the tax-free growth offered by Bitcoin IRAs could result in a significantly larger nest egg in retirement compared to investing in a Bitcoin ETF in a taxable account.

However, Bitcoin IRAs are not without their challenges. They can be complex to set up and manage, and there are penalties for early withdrawals. However, the top-rated Bitcoin IRA providers can help simply this setup process. 

A Bitcoin IRA could potentially offer greater benefits for those planning for retirement. As always, it’s important to do your own research and consider seeking advice from a financial advisor before making investment decisions.

Can You Invest in Bitcoin ETFs Through a Bitcoin IRA?

The short answer is yes, you can invest in Bitcoin ETFs through a Bitcoin IRA. Here’s how it works:

  • Bitcoin IRA: A Bitcoin IRA is a self-directed individual retirement account that allows you to invest in Bitcoin directly. You can buy Bitcoin within the IRA, and any growth in its value is tax-deferred or tax-free (in the case of Roth IRAs).
  • Bitcoin ETFs: A Bitcoin ETF, on the other hand, is a fund that tracks the price of Bitcoin. It trades on traditional stock exchanges, just like shares of a company.
  • Investing in Bitcoin ETFs through a Bitcoin IRA: If you have a self-directed IRA, you can choose to invest in Bitcoin ETFs. This allows you to gain exposure to Bitcoin without having to buy and hold the cryptocurrency directly. 

Bitcoin IRAs: Roth vs. Traditional

When it comes to Bitcoin IRAs, you have two main options: Roth IRAs and Traditional IRAs. Here’s a comparison of the two:

Roth Bitcoin IRATraditional Bitcoin IRA
ContributionsMade with after-tax dollars.Made with pre-tax dollars.
Tax BenefitsInvestments grow tax-free, and withdrawals in retirement are also tax-free.Investments grow tax-deferred, meaning you don't pay taxes on the growth of your investments until you start taking distributions in retirement.
Withdrawal RulesYou can withdraw your contributions (but not any earnings) at any time, for any reason, without penalty. However, to withdraw earnings without penalty, you must be at least 59.5 years old and the account must be at least five years old.Distributions are taxed as ordinary income. If you take distributions before age 59.5, you may also be subject to a 10% early withdrawal penalty.

Young investors in the early stages of their careers are often in a lower tax bracket than they expect to be in during retirement. Therefore, younger investors are usually better off opting for a Roth IRA given that paying taxes now, at a lower rate, would typically be preferable to deterring them until retirement. 

Both Roth and Traditional Bitcoin IRAs offer unique advantages, and the best choice depends on your individual circumstances and retirement goals. As always, consult with a financial advisor before making investment decisions—including the decision to invest in either a Bitcoin Roth IRA or Traditional IRA.

Bitcoin Investing: Tax-Free vs. Taxable Gains

When investing in Bitcoin, the impact of taxes on investment returns can be substantial. Let's consider an example where an investor puts $20,000 into Bitcoin, and it grows at an average annual rate of 20% over 15 years

In reality, Bitcoin has returned an average of +671% per year. However, we’ll take a much more conservative figure to illustrate potential future gains. 

Let’s compare the outcomes of investing in a tax-free Roth IRA versus a taxable account. For the taxable account, we'll assume a capital gains tax rate of 20%, applied only at the end of the 15-year period when the gains are realized.

YearInvestment in Roth IRA (Tax-Free)Investment in Taxable Account (Pre-Tax)Investment in Taxable Account (After-Tax)

Above, the “Investment in Roth IRA (Tax-Free)” column shows the growth of the investment in a Roth IRA, where the gains are not taxed. The “Taxable Account (After-Tax)” column accounts for the 20% capital gains tax applied to the total growth at the end of 15 years.

The investor's return in a Roth IRA significantly outstrips what they would net in a taxable account. After 15 years, the Roth IRA investment grows to $155,040, whereas the after-tax value of the taxable investment is only $124,032

This leaves the Roth IRA investor with an additional $31,008 simply by choosing a tax-advantaged investment vehicle.  

By choosing a Bitcoin Roth IRA, investors can maximize their returns and keep a larger portion of their investment gains.

Bitcoin ETFs Are Here to Stay: Invest In Them the Right Way

The SEC's approval of spot Bitcoin ETFs in January 2024 marks a pivotal moment, enhancing Bitcoin's legitimacy and attracting a surge in investor interest. These ETFs provide a regulated, accessible way to invest in Bitcoin, integrating it into the mainstream financial landscape.

Investing in Bitcoin ETFs through a Roth IRA is, for many, a strategic choice, offering superior returns due to its tax-free growth and withdrawal benefits. This approach leverages the potential high growth rates of Bitcoin while optimizing tax efficiency.

As Bitcoin ETFs solidify their presence in the investment world, investors need to consider not just the allure of Bitcoin but also the most advantageous method of investment. Utilizing a self-directed IRA to invest in Bitcoin ETFs may be a savvy strategy, aligning with prudent financial planning and maximizing the returns of Bitcoin.

Liam Hunt
Liam Hunt

Liam Hunt, M.A., is a financial writer and analyst covering global finance, commodities, and millennial investing. His coverage has been featured in publications such as the New York Post, Forbes, and Barron's.

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