Bitcoin has gone in value from less than one cent in 2010 to a high of $20,000 in 2017, to a value at the end of July 2020 of nearly $11,000. Now the U.S. Congress is holding hearings on the digitization of the dollar so cryptocurrency has become an increasingly important financial tool for individuals and businesses. Planning for cryptocurrency however, has been neglected and cryptocurrency lost. This has generated tales of people, who discarded their computer hard drives containing thousands of bitcoins now worth millions, sifting through mountains of garbage. To avoid having your heirs, who are perhaps less knowledgeable than you, from making this mistake, integrate cryptocurrency into your estate plan to preserve the benefits and avoid the risks of cryptocurrency.
First, preserve the benefits of cryptocurrency. Cryptocurrency is highly secure, but that security is in jeopardy if the private key or seed phrase is carelessly recorded. With the right private key or seed phrase, anyone can access the cryptocurrency, so planning and procedures have to include how to secure this information. Also, like cash, cryptocurrency is not traceable. There is no electronic or paper trail linking the parties together in a transaction involving cryptocurrency. To preserve that privacy, you will need to plan that other documentation in the transaction does not reveal these identities, or at least that information is privileged. Also, unlike hard currency, transferring cryptocurrency takes only moments and there are few, if any, transfer costs. Care needs to be taken that the entities that are used in planning do not end up re-creating the delays and costs of hard currency.
Second, avoid the risks of cryptocurrency. Since cryptocurrency, like precious metals and other commodities, can fluctuate wildly even during the course of a day so cryptocurrency should be treated like stock in a private company and other assets that are volatile in nature. Also, since cryptocurrency exist outside of government regulation, no government is responsible for losses incurred by scams, theft or other malfeasance. Other sources of security are needed to insure against loses like those incurred in the Mt. Gox bankruptcy resulting from the theft of 850,000 bitcoins worth approximately $450 million.
Trusts and other planning devices have a hard time owning cryptocurrency, especially if the Prudent Investor Rule applies. Without specific language, the trust will not be able to hold cryptocurrency, but if that language is written too broadly, the trustee may be exempt from damages due to willful neglect. Also cryptocurrency is tax as property rather than as currency by the IRS for tax purposes. This means that the fair market value is set by conversion into U.S. dollars at “a reasonable exchange rate” and transactions involving cryptocurrency are subject to the capital gains tax regulations. This requires specific tax provisions to be drafted into trusts, partnerships, LLCs and other entities.
So, if you, or your business, own bitcoin or any other cryptocurrency, your estate, business succession and financial plans need to reflect that.