Bitcoin and other cryptocurrencies have skyrocketed in popularity and have made national and international headlines in recent months. Almost overnight, “Bitcoin Billionaires” became a household phrase. Financial analysts speculated that people who suddenly found themselves at home or had more time available due to the Covid-19pandemic, began to trade in these cryptocurrencies. Some profited, some broke even, and some suffered losses. If you have dabbled in Bitcoin or other cryptocurrencies and are considering filing for Bankruptcy protection, you likely wonder how the tried-and-true analog Bankruptcy Code will treat your new, untested, and loosely regulated digital assets. This article seeks to answer that very question.
In 2009 and has exploded in popularity ever since. Bitcoin and other cryptocurrencies are decentralized stores of value. They share some similarity with traditional store of value like stocks, bonds, and precious metals. Importantly, they are not “fiat currency” – that is they are not government-issued like cash in your pocket or the money in your bank account. A detailed explanation of the mechanics underlying Bitcoin and other cryptocurrencies is outside the scope of this article. Owing to their novelty, Bitcoin and other cryptocurrencies currently exist in a legal gray area.
Laws, and the governments that enact and enforce them, are often slow to adapt. In response to this challenge, governments have long adopted broad and far-reaching laws in order to future-proof and stabilize current regulatory frameworks. Congress’ work on the Internal Bankruptcy Code follows this approach. The Bankruptcy Code treats your Bitcoin and other cryptocurrency holdings the same as it treats any other property such as your home, your car, your toaster, or your television – as property of the estate in bankruptcy. Therefore, you must report any and all Bitcoin and other cryptocurrency holdings at their value as of the date of filing your bankruptcy and you may apply exemptions in order to protect them. Similarly, if you regularly buy and sell Bitcoin or other cryptocurrencies, the Bankruptcy Code will consider your profits within the six months prior to filing as income and you must report it accordingly. My crypto-savvy clients frequently ask if they can keep their Bitcoins or other cryptocurrencies if they file for bankruptcy protection.
As with all your property, it depends on exemptions. As we discussed, the Bankruptcy Code treats Bitcoin and other cryptocurrency holdings as property and you are entitled to apply exemptions to any lawfully-held property to keep that property out of reach of your creditors or the Bankruptcy Court. Unlike your home or your car, there is no separate Bitcoin or other cryptocurrency exemption. In order to protect your Bitcoin or other cryptocurrency, you will have to use the “wildcard” exemption which allows you protect any lawful property, regardless of its nature. If you do not have enough wildcard exemption to protect some or all of your Bitcoin or other cryptocurrency holdings, the uncovered portion is known as “non-exempt property.” Okay, then what happens to non-exempt property? I am glad you asked.
The Bankruptcy Code’s treatment of non-exempt property varies based on the chapter of Bankruptcy you file under. The majority of my clients have plenty of exemption to protect their assets, including Bitcoin and other cryptocurrency holdings. In a Chapter 7 bankruptcy, the Trustee in Bankruptcy is required to take and sell (i.e. “liquidate”) non-exempt property for the benefit of your creditors. Therefore, if you have non-exempt Bitcoin or other cryptocurrency, the Bankruptcy Code requires you to turn it over to the Chapter 7 Trustee to liquidate. In a Chapter 13 bankruptcy, however, you are not required to liquidate any non-exempt property if you pay equivalent value into the Chapter 13 payment plan for the benefit of your unsecured creditors. For example, let us assume you have some quantity of Bitcoin or other cryptocurrency holdings worth $1,000 on the date you file for Chapter 13 Bankruptcy protection. In order to keep the Bitcoin or other cryptocurrency holdings, you must pay at least $1,000 into the Chapter 13 payment plan for the benefit of your creditors. We now know how the Bankruptcy Code handles Bitcoin and cryptocurrency as property and gains realized from sale prior to filing is treated as income. One final consideration for the crypto-savvy bankruptcy filer are gains realized from sale of Bitcoin or other cryptocurrency after filing for bankruptcy protection.
Bitcoin and other cryptocurrencies are highly volatile stores of value – that is, their value fluctuates wildly from day to day. If you, as a tech-savvy cryptocurrency investor, follow the traditional investing maxim of “buy low, sell high” then you may find that after you file for bankruptcy protection, your Bitcoin or other cryptocurrency has significantly appreciated in value. You will be tempted to sell and realize those gains. Due to another broadly-drafted provision of the Bankruptcy Code known as “after-acquired property,” you should first discuss with a qualified Bankruptcy Attorney. 11 U.S.C. § 541(a)(5)-(7) requires that property that would have been property of the bankruptcy had you owned it when you filed, but acquired it within 180 days of filing is, in fact, property of the estate bankruptcy. Application of this provision also turns on which chapter of bankruptcy protection you file under. In a Chapter 7, if you sell your Bitcoin or other cryptocurrency for a gain within 180 days of filing your bankruptcy case, the profit you realize is part of the bankruptcy and you must have enough wildcard exemption to protect it or else turn it over for liquidation. Chapter 13 operates slightly differently. 11 U.S.C. § 1306(a)(1) extends the 180-day period through the length of your plan (between three and five years). Therefore, in a Chapter 13 Bankruptcy, if you sell your Bitcoin or other cryptocurrency for a profit during the pendency of your payment plan, you must be ready to exempt the profit, pay equivalent value to keep the profit, or apply the profits to the payment plan
At first glance, the intersection of Bitcoin and bankruptcy appears chaotic and confusing. This article sought to demystify the relationship and showed how the Bankruptcy Code treats Bitcoin and other cryptocurrencies as both property and an income source. If you hold Bitcoin or other cryptocurrency and are considering filing for bankruptcy protection, you should consult a qualified attorney who understands both subjects and can provide expert legal advice. Rely on the experienced, proven, and trusted bankruptcy attorneys at Mooney Law stand ready to assist you and answer your questions. Consultations for bankruptcy are always FREE at Mooney Law. To schedule a FREE consultation, call us today at 833-MOONEYLAW or at 717-200-HELP. You can also visit the firm website at https://www.mooney4law.com.