Bitcoin and Estate Planning

Being an estate planning geek, I sometimes troll about online to see what people are talking about. Some things are predictable (Should I have a living trust or a will), others are rare (Can I leave the house to the cat?).

From the rare column: Estate Planning and Bitcoin.Of course, bitcoin is an asset and can be bequeathed by will or distributed as part of a trust just like any other asset. Except it isn’t just like any other asset, and presents certain complications, tending to center on three issues: knowledge, access, and taxes.

But in order to understand the complications, you must first understand what bitcoin is. So—Geek Alert: for those just joining us in the digital world: What is bitcoin?

Bitcoin is probably best understood as a decentralized digital currency (I know…that really helps). It is “like” money. Over 100,000 merchants and vendors accept bitcoin as payment, some employees are paid in bitcoin. But the differences are big: Unlike U.S. currency or Euros or Yen, with bitcoin there is no tangible representation of the currency—no notes or coins. Also, there is no central bank or government or other agency. The argument is that this gives it a stability in a chaotic world, but it also means (and this is important to us) that there is no place to “go” to “access the account”, or even to find out about it.

Users of bitcoin engage in direct transactions with each other. Some people hold bitcoin as an investment (as is true for other currencies), and it can be held in an IRA. At the moment this is being written, one bitcoin is equal to $4,840.00 USD (bitcoin is available in smaller increments than the bitcoin itself). The transactions are recoded in a public ledger, which is a distributed database and is called a blockchain. The blockchain is constantly (approximately 6 times per hour) updated across the network. For our purposes, the point is that the only “place” that the bitcoin “exists” is in the blockchain. Which is public (though you need a certain software), but ownership is “pseudonymous”. This means that ownership is not recorded in the owner’s name but tied to a bitcoin address. The bitcoin is accessed by means of two (digital) keys, one public and one private. A user will frequently store the two keys in a digital wallet. A public key is just that, but if the owner losses the private key there is NO way to access the bitcoin, it is essentially gone.

The above explanation is simplistic and ignores some key points. But this is not a bitcoin users-guide, it is about estate planning. And I think it is enough to lay the groundwork for the following:

1. Knowledge: If you own bitcoin, it is essential that your executor/trustee/heirs/somebody knows about the bitcoin. If you choose not to tell them now (and you may), at least leave some documentation that will be found telling of its existence. No bank will mail a statement or a 1099 (there is no bank), they won’t know if you don’t tell them. Frequently the hardest task facing those left behind is “figuring out what is going on” in the absence of clear instructions and documentation from the deceased family member. In the instance of bitcoin, it is virtually impossible without some instruction or guidance from you. (And extra-credit if you spotted the pun.)

2. Access: Even if they do know about your bitcoin, without your private key they can not access your bitcoin. At all. Period. Ever. So it is important that you have arranged some means by which it can be accessed. This is true for a good many digital assets—without usernames, passwords, etc., there is no accessing these things. Most of us don’t like passing around our logon info and private keys, and this is a major issue in Estate Planning that all-too-frequently goes unconsidered. Look for information from us on the handling of digital assets in a later blog post. As a service to our clients, Sorrell Law provides a Digital Asset Management Checklist in all of our complete estate plans.

3. Taxes: You probably knew this was coming: There is a tax issue. The IRS, in their infinite wisdom (actually there were plausible—if not adequate—reasons, but that is for another day), has decided that for US tax purposes bitcoin is property rather than currency (IRS Notice 2014-21). Among other things, this means that when bitcoin is spent by a user, the user must recognize taxable ordinary-or-capital gains (as appropriate) or loss on the difference between her or his basis (usually Fair Market Value, FMV, when acquired) and the FMV of the bitcoin when used. But in addition to this, as with any other asset subject to capital gains, the estate planner must look ahead to the tax impact of planning. Generally, one tries to leave one’s heirs highly appreciated assets (because the step-up in basis will result in tax savings) and spend depreciated assets (so that you can realize the loss, since it will be lost at death). This would be the case with bitcoin and other digital currencies. And so again; planning means that: planning.

If you are concerned about incapacity, you may also want to make sure that the agent under your Durable Power of Attorney has the authority and ability to deal with digital assets, including digital currency. The basic NC statutory forms are inadequate. And if you have a trust (either a living or testamentary trust) that will be potentially holding bitcoin for a long period of time, you may want to consider how your Trustee’s handling of your bitcoin will be impacted by the Prudent Investor Act.

But the main thing is that planning means being prepared. None of us knows which day will be the last day we have to prepare our estate plan—so rule one is don’t procrastinate.