Financial Advisers Pitch Bitcoin to Investors to Offset Portfolio Losses

Cryptocurrencies have surged this year, as investors, many flush with cash from government stimulus checks, have chased the potential for gains. Bitcoin breached $63,000 in the spring, a 2,000% increase since the end of December.

Big losses can follow big gains in investing, and cryptocurrencies are no different. Bitcoin shed half of its peak value through July but remains up 50% for the year. Ether, another popular cryptocurrency, has held up better, rising threefold in 2021. But rather than stomaching crypto losses, financial advisers are pitching investors a way to use them to offset investment profits elsewhere.

Here’s the pitch: Investors can buy bitcoin, ether and other cryptocurrencies through their broker. If cryptocurrencies fall by a certain amount, the accounts are set to automatically sell the digital coins, generating a taxable loss that can be used to offset other investment gains. The accounts then buy the coins back in a short time for around the same price or even less.

Doing this is a no-no with stocks, bonds, options and many other securities, thanks to the “wash sale” rules that restrict capital-loss deductions when investors purchase an asset within 30 days of selling it for a loss. Cryptocurrencies evade the rules because they are considered property by the Internal Revenue Service. But that is likely to change soon. The House Ways and Means Committee approved a proposal to treat cryptos like other securities that, if enacted, would kick in Jan. 1. Lawmakers project that the proposal, which is part of a package of proposed tax increases to help pay for the $3.5 trillion budget bill still being negotiated, will raise $17 billion over a decade.

Michael Durso, co-founder of ShoreHaven Wealth Partners, said he started offering managed crypto accounts to clients earlier this year. He held a webinar with the product’s creator, crypto asset firm Eaglebrook Advisors, in early spring, where nearly 250 people of all ages signed up to hear how they could buy digital coins through their brokerage accounts. A handful put between 1% and 2% of their assets into cryptocurrencies, he said.

“I say to clients you have to be comfortable losing all of it,” Mr. Durso said of crypto investing. “You have to believe in it long term to make sense, but if you invest long term, you might as well benefit from the volatility.”

Mr. Durso is part of a growing class of crypto-savvy wealth managers. A survey of 529 financial advisers conducted by the Journal of Financial Planning and the Financial Planning Association earlier this year found that 14% were currently using or recommending cryptocurrencies, up from less than 1% in 2020. More than a quarter said they plan to increase their use of cryptocurrencies over the next 12 months.

Anyone can buy digital currencies by creating a trading account with a crypto exchange such as Coinbase or Gemini. But a big selling point of the managed accounts is the automatic tax-loss harvesting feature, Mr. Durso and other advisers said. They added that the savings from the feature usually more than cover the product’s 1.3% annual fee (which doesn’t include what a financial adviser also charges). Investors trading on their own on Gemini have to manually sell and buy back cryptocurrencies to create the same effect.

Mr. Durso said that one of his clients bought $100,000 of bitcoin and ether this year and set the account to harvest losses whenever either slid at least 5%. Since doing that, the client has racked up $30,000 in losses, which he will use to offset big gains in some stocks. Meanwhile, he has gained 10% on his crypto investment.

Many wealth managers have said they don’t handle direct investments in crypto. For some advisers, the only option they offer crypto-hungry clients are funds such as the Grayscale Bitcoin Trust, which goes by the ticker GBTC. But Grayscale requires investors to meet metrics to be considered accredited, a minimum $50,000 investment for entry and an agreement to hold shares for more than a year—all barriers that don’t exist with Eaglebrook’s managed crypto accounts. Besides that, trusts like Grayscale have struggled to trade in line with the value of their bitcoin holdings.

“The biggest problem with GBTC is you don’t actually hold the coins,” said Ahmie Baum, who runs Interchange Capital Partners, a wealth-management firm loosely affiliated with Mr. Durso’s through a confederation of independent practices under Dynasty Financial Partners.

He started moving some of his clients out of Grayscale’s fund and into managed accounts earlier this year. For new clients, Mr. Baum said he recommends they put a small allocation of money into the Eaglebrook product unless they object.

“If I can save capital-gains taxes by taking advantage of the volatility in crypto, I can increase returns in the portfolio,” Mr. Baum added.

More than 400 financial advisers have put over $100 million into Eaglebrook’s managed crypto accounts, said Christopher King, chief executive at the firm. Most of those advisers work independently like Messrs. Durso and Baum, but he wants to eventually get his product used by major brokerage firms. It competes with a few other firms in the nascent managed-crypto-accounts business, including Blockchange Inc. and Willow Crypto.

Mr. King expect inflows to take a hit if lawmakers on Capitol Hill end up applying the wash-sales rule to cryptocurrencies.

“The tax optimization might go away. It most likely will, but a decent amount of people will still want to own cryptocurrencies,” Mr. Baum said.

Write to Michael Wursthorn at [email protected]