Picking an Exchange

Before you buy any kind of crypto, you need to make sure the exchange you’re using is safe and reputable. 

Crypto exchanges are not subject to the same rules as banks and stock brokerages, so recovering lost funds may be harder or impossible. There are also many scammers that look legitimate but can take everything. Exchanges are also often targeted by hackers.

Check sites including the Financial Crimes Enforcement Network, FINRA BrokerCheck, and the Federal Financial Institutions Examination Council National Information Center to see if an exchange is registered.

Red flags to look out for include:

• A site that’s located outside of the U.S.
• Little information from the exchange about what it does with your assets
• Typos or misspellings on the site, or a web address that looks like a legit site’s, but it’s off by a letter or two
• An abundance of news stories or user reviews that spotlight problems on the exchange

Once you’ve done your research and found an exchange that checks out, then you can start trading.

How Does a Crypto Exchange Work?

When you place an order, the exchange shows a running list of every offer to buy and sell a coin at a given price. When a buyer's price meets a seller's price, the exchange matches them and the trade goes through in seconds.

 Your trades may also be subject to charges such as:

• Trading Fees:  It’s usually charged as a percentage of each trade to cover the exchange’s operating costs.
• The Spread: This is the gap between the price you pay to buy and the price you’d get if you sold at the same moment.
• Withdrawal Fees: Moving coins off the exchange to another wallet can cost a flat fee that varies by coin. This matters most if you’re moving small amounts.

Here’s how a first purchase might look. You link your checking account to the crypto exchange you’ve chosen and deposit $500. You place an order for $500 of bitcoin when one bitcoin costs $80,000. 

The exchange charges a 1% fee, or $5. The remaining $495 buys you about 0.0062 bitcoin, because you can buy a fraction of a coin instead of a whole one.

If bitcoin rises to $90,000, your slice is worth about $557, and if it falls to $70,000, it’s  worth about $433.

The Main Types of Crypto Exchanges

Centralized Exchanges

Coinbase, Kraken, and Gemini are centralized exchanges, meaning a single business owns and runs the platform, verifies your identity, and holds customers' coins.

A centralized exchange may be the easiest and safest starting point for beginners. The larger ones are registered and may have better security. It also may be easier to withdraw your crypto from them whenever you want.

Even big exchanges are subject to hacks, however, so you need to remember that you’re trusting them to keep your assets safe and accessible.

Decentralized Exchanges

A decentralized exchange, called a DEX for short, lets users trade directly from their own crypto wallets. It uses software on a blockchain with no company holding the funds.

You keep control of your coins with more anonymity, but there’s no customer support, and many listed coins are thinly traded or outright scams.

Decentralized exchanges may be better for more advanced traders of cryptocurrency

Brokerage Apps That Sell Crypto

Apps such as Robinhood and PayPal let you buy crypto alongside other products, which is convenient if you already have an account with them.

They typically offer fewer coins than a dedicated exchange, so check their selection and fees before assuming it’s the cheapest route.

Is Your Crypto Insured Like a Bank Account?

The Federal Deposit Insurance Corporation insures money in a bank savings account up to $250,000 if the bank fails. The Securities Investor Protection Corporation protects up to $500,000 per account if your brokerage fails and your investments go missing.

No government agency insures your crypto holdings, however. 

If a crypto exchange collapses, you could lose access to your assets or recover only a portion of their value. It depends on how the exchange handled your funds and the outcome of bankruptcy proceedings.

How Do You Keep Your Crypto Safe?

A few smart choices can lower your risk: 

Use a U.S.-Regulated Exchange

Larger exchanges based in the United States  generally operate under the oversight of regulators, which can bring a higher level of scrutiny and compliance. 

It’s not a guarantee of safety, but it gives you an exchange that can be held accountable under U.S. law.

Turn On Two-Factor Authentication

Two-factor authentication requires an extra code in addition to your password that blocks many attempts to break into an individual account.

Use an authenticator app instead of text messages, because phone numbers can be hijacked.

Hold Your Own Coins

You can move crypto off an exchange into a wallet you control. It can be a hot wallet, which connects to the internet through an app, or a cold wallet, which is a small device that keeps your private keys offline.

It’s important to note that many centralized exchanges hold your private keys for you. A private key is a long secret code that proves the crypto is yours. If you lose access to your account, the exchange may be able to help you recover it.

If you keep your crypto in your own wallet and lose your private keys, however, no one can help you recover them.

How Are Crypto Exchange Trades Taxed?

The IRS treats crypto as property rather than currency. Selling, trading, or spending it can trigger a taxable gain or loss. If you buy $1,000 of bitcoin and later sell it for $1,500, you owe tax on the $500 profit.

Holding crypto for more than a year before selling usually qualifies for lower long-term capital gains rates, while selling sooner is taxed at your regular income tax rate.

But keep in mind that paying for a coffee with crypto counts as selling it, so small purchases can create tax paperwork too.