Cryptoassets make up a modern, rapidly expanding asset class that is challenging jurisdictions across the globe to come up with appropriate regulatory and tax regimes that fit its nuanced contours. Recently, many jurisdictions, including the U.S., have begun to take steps to articulate income tax rules, anti-money laundering guidelines, and other regulations directed at cryptoassets. In the transfer tax area, however, the IRS has released only nominal guidance, leaving estate planners and other tax practitioners with little to go by when crafting estate plans and pursuing other transfer tax reduction strategies for clients rich in cryptoassets, particularly nonresident aliens.
This article is the second in a two-part series covering transfer tax and estate planning issues for clients with cryptoassets. Part One 1 of the series summarized the different U.S. transfer tax rules applicable to U.S. citizens and domiciliaries versus nonresident aliens with regard to cryptoassets, while this article offers several practical estate planning considerations for advisors with clients who own cryptoassets.
Estate planning for a client with cryptoassets can be tricky and requires a baseline understanding of the special characteristics of cryptoassets. While estate planners should consider a wide variety of issues when planning for clients with cryptoassets, the following list of considerations offers a good place to start.
1. Ask the client if he or she owns cryptoassets
This is exceedingly simple, but if an advisor doesn’t ask, he or she may never know if the client has cryptoassets. If the advisor never finds out the client has cryptoassets, he or she will surely fail to properly plan for their disposition. Advisors should add this to their new client intake forms to make sure it does not slip through the cracks.
2. Make sure the beneficiaries of cryptoassets know how to access them
Cryptoassets are generally very secure because they can only be accessed with both a public key and a private key. However, if the private key is lost, there is often no central institution such as a bank that can find it, and the cryptoassets may be lost forever. This is beginning to change on big public exchanges such as Coinbase that now help executors of the estates of deceased owners with letters testamentary access cryptoassets stored in exchange accounts. However, not all cryptoassets are held in exchange accounts and not all exchanges are willing to help in this manner. Thus, it is critical that clients leave explicit instructions on how to access cryptoassets or their beneficiaries may never get them.
3. Leave instructions for accessing cryptoassets somewhere other than the client’s will
Wills are filed publicly in most, if not all, U.S. counties. If instructions for accessing cryptoassets are left in wills, someone other than the intended beneficiary could obtain the private key and steal the cryptoassets. Even if the private key itself is not included in the will, the mere mention of cryptoassets could turn hackers on to its existence and increase the risk of cyber theft. Instead, owners of cryptoassets should print a hard copy of the private key, the location of the cryptoassets, any passwords or security phrases required for access, and any other pertinent information and leave it in a safe-deposit box or home safe. Then, the client should tell his or her executor or the relevant beneficiary where such information is located so that he or she has the necessary information without the public having the same.
4. Help clients with cryptoassets identify someone who understands the space and can help beneficiaries who do not
While the prevalence of cryptoassets continues to grow, not everyone is familiar with them. If a client aims to dispose of his or her cryptoassets to a beneficiary who does not know much about them, the advisor should urge the client to identify someone else who could help the intended beneficiary to locate, access, understand, and manage the cryptoassets. If a beneficiary who receives cryptoassets does not understand what they are or their value, that beneficiary could make a poor choice in managing the assets that could defeat the purpose of the bequest.
5. Consider leaving cryptoassets in a trust
There are several advantages to creating a trust to hold cryptoassets. First, it reduces the likelihood of loss or theft because a trustee will be appointed who knows how to access the assets. Accordingly, instructions for accessing the assets need not be included in a public will where they are ripe to fall into the wrong hands. Second, creating a trust gives the client a chance to appoint a trusted person knowledgeable about cryptoassets to manage them. In addition, using a trust allows the client to specify holding periods and conditions for buying or selling cryptoassets that can maximize their value. While using a trust is not for every client, it is worth considering for many of them.
6. Consider creating a family limited partnership to hold cryptoassets
Creating a family limited partnership to hold cryptoassets has many of the benefits of a trust but allows for lifetime planning that can generate discounts for estate tax purposes, increase ease of transfer of such assets, and take advantage of the annual exclusion from gift tax. Clients with sufficient cryptoasset holdings may be interested in this technique despite its initial cost and administrative hassle.
7. Consider electing alternate valuation when filing an estate tax return for an estate with substantial cryptoasset holdings
In many instances, post-mortem planning can be just as important as pre-death planning. Given the highly volatile nature of cryptoassets, advisors should consider electing alternate valuation under tax code Section 2032 when representing a decedent whose estate includes substantial cryptoassets. If the value of cryptoassets drops precipitously over the six months following the decedent’s death (as it is prone to do), electing alternate valuation could save substantial estate taxes.
8. Advise nonresident alien clients to make lifetime gifts of cryptoassets
Section 2501(a)(2) permits nonresident aliens to make lifetime gifts of intangible U.S. situs property free of U.S. gift taxation. Likewise, Treasury Regulation Section 20.2104-1(a) dictates that nonresident aliens are not subject to U.S. gift tax when they make lifetime gifts of non-U.S. situs property. Therefore, no U.S. gift tax will apply to lifetime gifts of cryptoassets by nonresident aliens regardless of the situs of such cryptoassets. If a nonresident alien with substantial cryptoasset holdings is willing to make lifetime transfers of such assets, this is an easy and tax-efficient way to save on U.S. gift taxes.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Margaret Scott is a partner at Alston & Bird LLP in Atlanta and a fellow of the American College of Trusts and Estates Counsel. Jake Kaplan is a senior associate in Atlanta.