What are the biggest mistakes new investors make in cryptocurrencies? Is it possible for a former burger-flipper to join the ranks of tech titans Mark Zuckerberg of Facebook and Larry Page and Sergei Brin of Google?
We’re talking about Changpeng Zhao, the founder and CEO of Binance, the largest cryptocurrency exchange. Today, his net worth is estimated to be at $96 billion, making him one of the richest people in the world.
Decades ago, it would have been inconceivable for entrepreneurs investing in crypto to make the elite cut of the wealthiest people globally. Yet, massive fortunes have been built on crypto, growing from $135 billion three years ago to $2.09 trillion on Jan.7, 2022.
Yet, because of crypto volatility and high-security risks in the platform, the zero-to-hero scenario could as easily shift to the reverse, with mind-boggling amounts of money lost in the blink of an eye. If you want to invest in crypto but you’re not sure how to proceed, we’ve come up with several watch-outs so you can avoid some of the most common pitfalls.
What not to do in crypto investing
1.Not researching thoroughly
“Don’t sink money into what you don’t understand” is one of the most commonsensical rules in investing. However, many people throw caution to the wind. And are encouraged to jump in when they learn about anyone making it big in any investment scheme. In his book The Art of Thinking Clearly, author Rolf Dobelli calls this the “Survivorship Bias.” This clouded judgment makes you overestimate your chances of success by only looking at stories of triumph, not realizing the countless failures alongside it.
Whatever the reason, be it impatience, aggressiveness, or an abundance of trust, jumping into something without careful thought and planning is a sure formula for financial disaster. Researching thoroughly before investing in crypto (or any investment scheme, for that matter) can help you minimize the risks (such as security threats!) and better preserve the value of your financial assets.
2.Not diversifying
Regretful stories of investors going all in and losing everything in one fell swoop continue to abound. Unfortunately, they may have failed to heed this sage investment advice: Never put all your eggs in one basket. Portfolio diversification is one of the hedging techniques that savvy investors use to protect themselves over the long term. Instead of a high-risk approach, they’d rather have a moderate-risk strategy with steadier returns.
When your portfolio is diversified, you allocate your investments across several financial instruments, perhaps a combination of stocks, bonds, and crypto. Should you apply this technique, ensure that your assets have minimal price correlation, meaning their valuations respond differently to the same event or scenario. This way, your losses are averaged out and kept to a minimum. Also, be deliberate about the share of crypto in your overall investments. Because it’s highly volatile, a higher cryptocurrency share can significantly increase—or decrease—the overall value of your portfolio.
3.Not having a crypto tax strategy
You won’t need to pay taxes if you simply purchase crypto with your dollars and keep it in your virtual wallet. But crypto owners tend to move their digital currencies around to gain profit. So it has come to be that government and other regulatory agencies treat virtual currencies as digital assets. This means that tax policies also cover crypto like they do other investment types like stocks, property, and gold.
The Internal Revenue Service or IRS considers it a digital asset when you exchange crypto for something else, such as another type of cryptocurrency, or use it to purchase goods and services. The appropriate capital gains or income taxes will then apply if you gain from the exchange or receive revenue from it.
The thing is, the amount you may need to pay in taxes for your crypto can be quite considerable.
Reduced capital gains rates apply to long-term gains, varying from 0%, 15%, or 20% depending on your income. If you happen to be in the higher income tax bracket, you may need to shell out an additional 3.8% as net investment income tax. Regular income tax rates on short-term crypto gains are even higher, ranging from 10% to 37%.
Thus, having a viable strategy is necessary to help you reduce taxes on your crypto assets. One legally savvy move you can make is to take advantage of a loophole in the Wash-Sale rule. This rule was crafted to deter people from selling their securities at a loss to claim a tax benefit. Only to buy identical securities (normally within 30 days from the time of sale). Currently, digital assets are not covered by the Wash-Sale policy. Which means you can lawfully minimize your losses and even profit off them. You may want to call your financial advisor today to determine what crypto tax strategies can work best for you.
4. Not using a charitable remainder trust
Many investors commonly make the mistake of basing decisions on today’s market conditions. However, no one knows what the future holds. So to help preserve your wealth and protect your financial future and that of your loved ones, consider putting your digital assets in a charitable remainder trust.
A charitable remainder trust or CRT is an irrevocable gift of cash (in this case, crypto). Or property to a charitable institution or agency. Through a CRT, the donor or the chosen non-charitable beneficiary will receive a regular income stream until the trust’s term is over. At the end of the life of the CRT. The remaining assets in the trust will be turned over to the donor’s choice of charity.
Using a CRT can help protect you from cryptocurrency volatility in several ways. For instance, if you use your appreciated crypto to fund the trust. You can apply a charitable income tax deduction not exceeding 30% of your AGI or Adjusted Gross Income. You can also benefit from a CRT by choosing to defer payments on your capital gains taxes. This way, you can spread out your tax burden over a considerable length of time.
Parting Thoughts
Like with any critical decision in life, due diligence is vital to help ensure success and minimize regrets. Knowing the common mistakes that investors make, such as what we’ve shared, can help you navigate your crypto journey better. So put in the necessary effort and time to understand the world of digital assets. Lastly, carefully create your investment strategy, and always be on the lookout for both opportunities and pitfalls.
