Cryptocurrency’s volatility, along with headlines of everything from the loss of private “keys” to the failure of any number of cryptocurrencies, have left some investors skeptical as to whether it’s a safe investment. For many investors, however, the risk is worth the reward. In a worldwide pandemic, when governments are embracing modern monetary theories and relying on economic stimulus programs to ease the financial burden of citizens, cryptocurrencies like Bitcoin may be an attractive haven. The finite supply and cryptographic security provide a hedge against social instability and inflation. Bitcoin appreciated nearly 770% during the first year of the pandemic, leaving the traditional “bar of gold” inflation hedge in its wake.
For those who are diversifying into cryptocurrencies—family offices, individuals, institutional investors—it’s a brave new digital world where caution and careful planning are essential.
Since the inception of cryptocurrency, market participants have been understandably uncertain about the identity of the primary regulator, whether the Office of Comptroller of the Currency, the SEC, the Commodity Futures Trading Commission or any other regulator, and the application of appropriate laws and industry standards. This evolving regulatory environment surrounding cryptocurrency has created uncertainty that has left states with no choice but to offer their own regulatory solutions.
State Regulatory Solutions
Many states have enacted laws that address blockchain and related technologies and have developed regulatory regimes around virtual currency. New York, for example, debuted its “BitLicense” in 2015 as a way to regulate virtual currency activities and, since then, has issued fewer than 20 licenses allowing companies to engage in “virtual currency business activity.” In 2019, Wyoming was the first state to approve a banking charter for a special purpose depository institution (SPDI) permitted to engage in digital asset activities. A SPDI is qualified to obtain a master account at the Federal Reserve, which account allows the direct clearing of payments for customers at the Federal Reserve and establishes a seamless and secure gateway between digital assets and national currencies. Wyoming has issued SPDI charters to Kraken Bank and Avanti Bank (now Custodia Bank Inc.), which institutions are applying for access to the master account payment systems. Wyoming is blazing a legal infrastructure pathway and is unabashed in its interest in attracting and developing blockchain and related technologies.
Wyoming further acted to expand the class of qualified custodians to include certain retail trust companies operating in Wyoming. In October 2020, the Wyoming Division of Banking published a landmark no-action letter permitting Two Ocean Trust to custody digital assets. This was the first-ever opinion by a state or federal banking regulator that a trust company is permitted to act as a “qualified custodian” for digital assets under the Investment Advisers Act of 1940. It was based on a determination by the Wyoming Division of Banking (the Division) that Two Ocean Trust was a bank within the Advisers Act definition. The Division’s conclusion was based on a fact-intensive analysis, meaning that not all trust companies, under the same analysis, would necessarily be considered qualified custodians by the Division. The Division’s conclusion is important for investment advisors looking to custody assets with an authorized state-regulated institution for purposes of satisfying the Custody Rule and for individual investors and family offices looking for safety and security with respect to cryptocurrency portfolios or, importantly, for a corporate trustee to properly maintain a cryptocurrency position.
Cryptocurrency security issues often overshadow estate planning with cryptocurrency. Investors are often unwilling to allow a family friend or other individual to act as trustee and accept and be responsible for public and private keys representing substantial wealth. Wyoming is unique in its explicit recognition and regulation of trust companies that are specifically authorized to custody digital assets.
Planning With Cryptocurrency
States aren’t just focused on creating laws and regulations impacting the safe custody and transmission of cryptocurrency. The cryptocurrency explosion also has caused state regulators to enact new legislation that has estate-planning implications for cryptocurrency. Therefore, when considering estate planning with cryptocurrency, it’s important to select a state with crypto-supportive legislation and the required legal framework. Many items should be considered, including whether the state: (1) assesses an income tax, (2) maintains a modern trust code, (3) preserves investment flexibility through a strong directed trust statute, (4) respects confidentiality through a silent trust statute that allows the settlor to create a trust that prohibits the trustee from disclosing the trust to certain beneficiaries, (5) authorizes self-settled creditor protection trusts and facilitates the establishment of the associated non-grantor self-settled trusts that may provide enhanced state income tax planning opportunities,
(6) provides a governing prudent investor act that can support and facilitate cryptocurrency investments, (7) provides a reliable and accessible court system, (8) authorizes a perpetual or expansive perpetuities period that facilitates multigenerational wealth planning and may allow assets to avoid transfer taxation for multiple generations, (9) recognizes digital asset property rights, and (10) provides appropriate oversight of financial institutions that custody cryptocurrency. The combination of crypto-investor-friendly laws and regulations can create very powerful planning tools.
*The full version of this article, Estate and Custody Planning for Cryptocurrency, appears in the April 2022 issue of Trusts & Estates.