With the rise in popularity for investing in and holding on to various forms of cryptocurrency, it is important to understand how to incorporate these types of assets into your estate plan. Over 1000 different versions exist, the most popular of which being Bitcoin. Cryptocurrencies are a type of digital or virtual currency that uses cryptography for security. The enhanced security makes it difficult to counterfeit and the currencies are not issued by any central authority which provides immunity from government interference or outside manipulation.
Estate Plans with Cryptocurrencies
These cryptocurrencies are considered assets and should be included in your estate plan; however, cryptocurrencies are not treated the same as funds you hold in a traditional bank. Virtual currency according to the IRS will be treated as personal property for federal tax purposes. There is still relatively little authority on tax treatment of these assets, but the IRS is beginning to monitor these assets more closely.
When creating an estate plan or administering an estate, cryptocurrency is treated as property rather than currency and this means that the transfer of cryptocurrency into another type of currency can result in losses or gains. Cryptocurrency increases or decreases in value like real estate but it does not accrue interest or pay dividends. The exchange or sell of cryptocurrency can lead to capital gains or losses. These capital gains or losses must be reported to the IRS on timely filed income tax returns. In addition to the IRS, the SEC is also starting to regulate some types of cryptocurrency (currently not Bitcoin) as securities.
Understanding how these cryptocurrencies are treated impacts how they are included in estate planning, administered during probate and consequences of gifting them. Like other assets, cryptocurrency may be gifted in order to reduce estate taxes or they may be donated to qualified charities in order to receive a charitable deduction on income taxes. When gifting cryptocurrency, it is important to properly track the basis of the gift. Best practice would be to include an appraisal of the fair market value of the cryptocurrency being gifted along with the date of the transfer and the donor’s basis in the gift.
During estate administration, the executor will need to have the decedent's passcode to access and transfer the account. There will be fewer checks on a fiduciary handling a cryptocurrency account than traditional bank accounts so it is advisable to name a very trustworthy executor or trustee to handle cryptocurrency passwords and accounts. The executor will need to get an appraisal of the value as of the date of death and be able to ascertain the decedent’s basis in the asset.
To properly incorporate cryptocurrency into an estate plan, all cryptocurrency should be listed and information regarding access to passcodes provided. Passcodes cannot be recovered so they should be stored securely, possibly in multiple locations with directions to access provided to the executor upon death or an agent under a power of attorney upon incapacity.
Funding Trusts with Cryptocurrencies
Currently there is no authority that would prevent any trust from being funded by cryptocurrency or directing how those transfers should be treated for tax purposes. In theory, to fund a trust with cryptocurrency directly the grantor would simply provide the trustee with the passcode or a cold storage device for the cryptocurrency account to access and manage the account on behalf of the beneficiaries. It is probably wise to diversify a trust portfolio to include assets other than cryptocurrencies. If a trust holds only cryptocurrency, the trust language should release a trustee from the duty to diversify and provide the trustee with any necessary indemnification.
As you can see, this new area of cryptocurrencies and its impact on trusts and estates is rapidly evolving. At Stouffer Legal, we strive to stay abreast of new laws concerning cryptocurrencies and how these can impact our clients. If you own cryptocurrencies, schedule a consultation with our experienced attorneys to review and update your estate plan with these assets in mind.