Gregory S. DuPont
3 Things You Need to Know about Cryptocurrency and Your Estate Plan
Cryptocurrency’s popularity has rapidly increased in recent years. More people than ever are buying and selling it. Here are three things you need to know about cryptocurrency in relation to your estate plan.
Beware of the Tax Consequences
Transferring your cryptocurrency to other people, either during life or at your death, could have income, estate, and gift tax consequences that you should be be aware of.
- Potential income tax consequences. The IRS states that the sale or exchange of a “convertible virtual currency” may result in taxable gain or loss. Whether the gain or loss is characterized as a capital gain or loss depends on whether the virtual currency was a capital asset in the hands of the taxpayer. Things like stocks, bonds, or other investment property are considered capital assets. If the virtual currency was not a capital asset in the hands of the taxpayer, the taxpayer would realize ordinary gain or loss.
- Potential estate and gift tax consequences. The IRS considers virtual currency to be property, so federal gift and estate tax laws apply. Because cryptocurrency is very volatile, it's difficult to determine how it may affect estate taxes at death. Many people whose estate would otherwise have a value less than the estate and gift tax exemption amounts, must now include in their estate plans provisions for minimizing gift and estate tax consequences.
If you own cryptocurrency that has substantially increased in value, it is important to discuss with your estate planning attorney ways you can minimize potential income, estate, and gift tax consequences.
Laws Governing Cryptocurrency Are Slowly Inching Along
It is hardly a secret that technological advances are moving faster than the law.
Because cryptocurrencies are generally stored in such a way that no personally identifying information is tied to them, owners of cryptocurrency must inform their beneficiaries that these assets exist, or they could be lost forever at the owner’s death. Cryptocurrency owners should provide their heirs specific instructions for accessing the cryptocurrency. Finally, because managing cryptocurrency requires some level of technological expertise, it is important to appoint trusted decision makers that have some basic cryptocurrency knowledge.
All these factors create unique challenges when it comes to dealing with cryptocurrency in your estate plan. A comprehensive estate plan ensures that your cryptocurrency is taken care of upon your death.
How You Hold Cryptocurrency Affects Your Plan
The way you store cryptocurrency adds an extra layer of complexity to the issue. How you store your cryptocurrency is one of the most important considerations because, if you have no plan for how to pass it on, it could be lost after your death.
- Custodial wallet. A third party, such as a crypto exchange, holds your cryptocurrency. This is like how a bank keeps your money in a checking account. While this is the most convenient option and there is no worry about “losing your keys,” the downside of leaving your crypto in another party’s possession is that they could freeze your funds or be attacked. With this type of wallet, your beneficiary can work with customer support to have the crypto transferred after your death.
- Cold wallet. A cold wallet is a physical storage device, such as a USB drive, that stores your crypto offline. The downsides of this option are the cost of the hardware and it is easy to misplace. But, it is also the most secure option for storing crypto because it cannot be stolen by hackers when it is offline. You will want to ensure that your trusted decision maker or beneficiary knows where to find the cold wallet and has detailed instructions for accessing the stored crypto.
- Hot wallet. A hot wallet is an app that stores your crypto online. While a hot wallet is convenient, the big drawback is that crypto stored online is at the greatest risk of being hacked and stolen. Your estate plan will need to include instructions on how to access the hot wallet.
- Paper wallet. A paper wallet is a printout of keys, usually in the form of characters and scannable QR codes. It provides a great amount of security because it stores your crypto offline. But, it is the least convenient, and there is also the risk of losing the paper wallet.
No matter how you store your cryptocurrency, it is critical that your trusted decision maker knows how and where it is stored and how to access it.
Because cryptocurrency and the estate planning laws surrounding it are rapidly evolving, it is essential that you work with an experienced estate planning attorney who understands the unique challenges involved in planning for crypto. We would be happy to help you craft an estate plan tailored to your needs. Call us at 614-389-9711 to set up an appointment.