If someone you know has cryptocurrency that you might inherit, let me just say ahoy matey! I hope your pirate spirit is alive and your treasure-hunting skills sharp, because that's what it might take to get those assets. And if you're the one holding crypto, know that if you do nothing, it's very possible those funds will die with you.
In the US, cryptocurrency is considered a digital asset rather than money in terms of probate and estate law. With money and physical assets, you can sign a beneficiary form and create an estate plan or write a last will and testament naming who should get what when you die. With digital assets, however, the law says we should not assume that a deceased person wanted their private materials—everything from emails to photos—given to another person unless they explicitly said so. This puts cryptocurrency, as a digital asset, in an awkward position.
The options for arranging a transfer of cryptocurrency upon one's death or incapacitation breaks down by one big division: whether the crypto is held by a custodian or in a noncustodial crypto wallet.
Two Types of Wallets
A custodian or custodial wallet means a third party, such as a bank or a cryptocurrency marketplace, holds and manages the assets for you. Typically, transferring assets after death is much easier with a custodian, especially if it's a bank.
Noncustodial wallets eliminate the middleman and let a person hold their assets directly. For crypto enthusiasts whose interest in digital currency is driven by a distaste for the traditional banking system, then using a noncustodial wallet is kind of the whole point.
Noncustodial wallets can be software or hardware-based. It can even be a piece of paper with the instructions and passwords for accessing the cryptocurrency on it. (I use "password" here and throughout to refer to any string of letters, numbers, and characters needed to gain access to someone’s cryptocurrency.) Whatever kind of noncustodial wallet you choose, passing on your assets will require a DIY solution.
Pros and Cons of a Custodial Wallet
When you use a third-party custodian to hold your cryptocurrency, you can choose one that has a beneficiary process in place.
Charles Schwab and Chase are just two examples of large, well-known financial institutions that offer crypto services and have experience transferring assets after death. Schwab, for example, houses its cryptocurrency services within brokerage accounts. Signing a beneficiary form for a brokerage account applies to the crypto account as well. One and done.
Another benefit of using a bank is that at least three entities know you have an account: the bank, the government, and the credit reporting bureaus. Avenues exist for finding the banked money of deceased people. With a noncustodial wallet, this is not at all the case.
Similarly, if you get locked out of your online bank account, you can go to a bank branch with ID (I've had to do it) and get back in. More important to your heirs, it doesn't matter if you were locked out of the online portal when you died—that has no bearing on the account or a beneficiary's ability to receive the funds. This is not the case with noncustodial wallets.
Note that cryptocurrency accounts, even when held through a bank, are not FDIC-insured.
Other custodians include crypto marketplaces, such as Coinbase, and peer-to-peer payment services, like PayPal. Neither Coinbase nor PayPal have beneficiary forms as of this writing, though they do have a clear process for proving a person is entitled to a decedent's account. In both cases, you must have legal documents saying you are the executor of the estate (for PayPal) or are entitled to inherit the account (Coinbase), as well as a death certificate and other documentation. So the process is clunky and takes some advance planning, but it's still straightforward.
How many disadvantages there are to using a custodian depends on your outlook. As mentioned, crypto enthusiasts who eschew traditional banking may not see any value in using a custodian. Banks require ID, so you cannot hold the crypto anonymously. Banks and many other custodians report your transactions to the federal government, holding you accountable to an honest tax filing. Custodial wallets also cost money. They typically charge transaction fees, usually a small percentage of each trade.
Pros and Cons of a Noncustodial Wallet
The primary benefit of a noncustodial wallet is that everything is in your control. You hold the assets directly. You're responsible for knowing and keeping safe the information you need to access your assets. You also have to come up with a plan for informing your beneficiaries that a crypto account exists and making sure they can access it.
The first and biggest problem is that if you get locked out while you're alive, it's game over. "If you lose your cryptographic key, there's no company that you can appeal to," says Benjamin Orzeske, chief counsel for Uniform Law Commission and a staff attorney for the Revised Uniform Fiduciary Access to Digital Assets Act, the law that guides how digital inheritance is handled in most states.
In the case of a hardware key, a corrupted device or one lost to fire or theft may also cut off a person and their heirs from their crypto, permanently and irreversibly.
The other major hurdle is that your fiduciary needs to know the crypto exists. No government or credit reporting bureau has a record of you holding the account. The only people who know are the ones you tell.
Now let's get procedural. Because of how the blockchain works, you must figure out a secure way to give your heirs instructions for obtaining the assets. Your system has to be safe. It doesn't come with any backups or failsafes unless you create them. And whether you can test your system to make sure it works before you die will require a huge amount of trust.
Ideas from Reddit users for how to build a system for passing on cryptocurrency include email dead-man switches, printed instructions given to a trusted person, and splitting instructions across two people who will need to come together to obtain access. All these solutions could work but have obvious flaws: the failure of an email system, a trusted person dying alongside you, someone forgetting you gave them instructions, and so forth.
The best option may be to put the bulk of the instructions into your estate plan, including your named fiduciary, but crucially omitting any passwords. As Catherine Hodder, a senior attorney editor at FindLaw, explained to me, “The will is a public document,” and you should never put any usernames or passwords in your will.
An excellent place to put your password is inside a safe-deposit box at a bank. The existence of the deposit box should also be listed in your will. Some crypto owners have suggested stamping the password into a metal plate, which I suppose is a fine idea if you don't trust ink and paper to last longer than you.
One potential flaw is still that you can't do a dry run to make sure your system works unless you trust your fiduciary completely. Something as simple as needing your fingerprint to unlock a device could spell the end of your plan.
An objection that some staunchly anti-capitalistic investors may have is that by including your cryptocurrency in your estate plan, you've returned it to the realm of traditional law and governance.
Then again, you'll be dead.