Inheriting Digital Assets & Cryptocurrency

There are over 2,000 cryptocurrencies listed on exchanges, this includes Litecoin, Ethereum, Ripple and Cardano. Unfortunately, there is limited information for clients on how they can manage cryptocurrency investments in relation to estate planning.

The Legal Status of Cryptocurrency

As it stands, the legal status of cryptocurrency and the general ownership of these intangible digital currencies is a grey area. Cryptocurrencies are comprised of different bundles of rights which are attributed to each owner. However, it is still widely debated if these rights constitute ‘property’ which can have ownership.

The legal analysis of different cryptocurrencies suggests that digital and intangible assets are merely ‘information’ rather than property. On the other hand, the IRS in the USA has recently taken the stance that cryptocurrencies are to be treated as ‘property’. In the UK, HMRC announced in December 2018 that crypto assets are treated as ‘property’ for the purposes of inheritance tax. As it stands, cryptocurrency is subject to inheritance tax, income tax, capital gains tax and pooled gains.

Considering the views of the IRS and HMRC, we can view crypto-assets as property that can be owned, transferred, gifted, traded, and inherited – but we must ask ourselves where the assets are located? And which legislations are to govern its succession?

This paradox creates a complex jurisdictional conundrum and disproportionately expensive advice for clients. Even with a plethora of unanswered questions, clients must be able to understand the nature of digital assets to then consider and create practical solutions to ensure that their digital assets are managed, controlled, and bequeathed properly.

From Blockchain to Bitcoin

Digital currency, such as Bitcoin, allow for instantaneous transactions and frontier-free transfers of ownership due to blockchain technology. All crypto records, also known as blocks, are linked and securitised by method of a distributed ledger. This data is recorded, shared, and transferred to users through various electronic ledgers which are all cryptographically secure, non-modifiable and privately maintained. The data records are highly secure although still targeted by hackers. Most of the ledgers are public and unrestricted.

This is dissimilar to the nature of traditional centralised ledgers maintained by centralised agencies such as banks which record and regulate all financial transactions relatively privately. Unlike with blockchain, if something goes wrong you would have a claim against the central issuer.

What is in your Cryptowallet?

A ‘wallet’ is essentially just a secure virtual holding space which is required to store, send and receive cryptocurrency. Contrary to traditional money, the cryptocurrency is not actually held in a wallet but rather stored and maintained in a ledger in the relevant blockchain.

The wallet holds private and unique ‘keys’ which the owner needs to be able to access and then spend their cryptocurrency. As with selecting a bank, the user needs to ensure their chosen wallet is secure enough to keep their cryptocurrency safe.

However, if someone was to lose their crypto key or dies unexpectedly, unlike with a central authority, there is no mechanism that currently exists to restore the key or allow access to the funds. It is highly unlikely that a method of key recovery will ever exist as arguably such a mechanism would undermine the security of cryptocurrencies.

So how can you pass on your keys and wallets? Without a key, the deceased’s cryptocurrency is lost forever. There are numerous examples of crypto investors who have built digital fortunes but either lost their key or passed away, leaving disgruntled and denuded family members unable to access their inheritance which has become infinitely stuck in the blockchain.

Different Types of Wallets

There is no consensus on the most secure type of virtual wallet.

One preference of crypto owners is something called ‘hot’ storage. This is when your private key is kept online. This allows for quick access to your cryptocurrency but also creates an increased risk of hacking and theft.

Alternatively, there are ‘cold’ wallet where your private key is stored in a USB, offline computer or even on something as simple as a piece of paper.

There are now a few banks that offer their clients the ability to invest in cryptocurrencies and allow for the storage of wallets. This storage is online, so there is the inevitable risk of hacking. However, at least clients have some recourse as well as the opportunity to bring claims against the bank if that were to happen.

If someone dies or loses mental capacity and has left instructions on how to access to their computer and their (hot or cold) wallet, their personal representative or attorney (acting under a Lasting Power of Attorney) would be able to access and deal with the cryptocurrency after their death.

However, if the deceased’s wallet was managed by a third party such as a crypto exchange, particularly one in a foreign jurisdiction, access will be governed by the Terms of Use of the exchange platform and generally non-account holders such as an attorney or personal representatives of the deceased will not be able to log in and deal with the cryptocurrency without breaching the provider’s Terms of Use. Accessing someone else’s account without specific authority also arguably breaches section 1 of the Computer Misuse Act 1990 and may also breach various Computer Fraud and Abuse Acts in the United States or other local laws, depending on the jurisdiction which governs the account in question.

If someone dies or loses mental capacity without leaving instructions on how to access their virtual wallet, there is very little which can currently be done to retrieve their crypto assets.

Although this is a topic of controversy, there are a few tips to help with estate planning that involves cryptocurrency.

Here are my top 5:

1. Identify all the crypto assets. Similar to more stereotypical assets, it is helpful to know what the assets are and how they are held. After death it is near impossible to locate crypto assets so by letting your personal representatives know they have a better chance of finding and then converting them.
2. Create a digital inventory. Have a detailed inventory of all online accounts and instructions on how to access keys to the wallets. If using a third-party provider to hold the cryptocurrency, details of the provider should be included in the inventory.
3. Ensure inventories are kept secure and up to date. All inventories need to be updated regularly and stored securely. It needs to include all passwords to access computing devices, all usernames for online accounts, and the public and private keys for cryptocurrency accounts. Security of such an inventory is paramount. There are online password manager sites which can help. I would recommend also storing an inventory with a Will held securely by your solicitor.
4. Wills and letters of wishes. Such an inventory should not be included in someone’s Will, which becomes a public document after death. However, an accompanying letter of wishes could include instructions to the executors on how an individual would like their digital estate to be administered e.g. which accounts they would like to be closed, transferred to heirs or memorialised, for example. While such wishes may conflict with the Terms of Use of some Service Providers, it is still helpful for executors to have as much information as possible about the wishes of the deceased. As people share more and more of their lives on the internet, this is only going to become more important. Similarly, advisers should recommend that a Lasting Power of Attorney is put in place in the event of loss of mental capacity.
5. Using Trusts. It is quite common for Will trusts to be set up on death (or in lifetime) as an estate planning tool. However, cryptocurrencies are yet to become a mainstream trust investment due to their volatility as well as reputational concerns. Some professional trustees will be willing to administer trusts containing cryptocurrencies held and managed by reliable third-party custodians, but this will depend on their attitude to risk. Trustees have duties to invest prudently and diversify their assets, meaning volatile cryptocurrencies can be a tricky asset to manage.