On January 3, 2009, an alternative currency was born, known as Bitcoin—a cryptocurrency or virtual currency secured through digital blockchain technology, allowing electronic monetary transactions from person to person without the need for a middleman (i.e., bank).
On May 11, 2021, global market capitalization for cryptocurrency reached $2.56 trillion. In late 2021, Bitcoin surged to over $65,000 and Ethereum increased to over $4,000. The alternative bitcoin Doge reached a record of $0.61 per coin in May 2021, a staggering 11,440% increase in value. Many people who had invested pennies on the dollar in Bitcoin, Doge, and other cryptocurrencies have become millionaires. Yet, if these cryptocurrency holders sell their coins, they may be subject to substantial taxes, including capital gains taxes. For some, estate taxes may come also into play. Fortunately, some cryptocurrency holders may be able to minimize their taxes through an estate planning mechanism: a Charitable Remainder Unitrust (“CRUT”).
What is a Charitable Remainder Unitrust?
A CRUT is a tax-exempt, irrevocable trust used to reduce grantor tax obligations as well as to donate to a charitable cause. As a type of charitable remainder trust (“CRT”), a CRUT is a “split interest” giving vehicle, allowing the donor to make contributions to the trust and to be eligible for a partial tax reduction. CRUTs come in various flavors, including a Standard Unitrust, Net Income Unitrust, and Flip Unitrust.
A CRUT may be used by a grantor to provide income to a named beneficiary for up to 20 years or, if the beneficiary is an individual alive at the time of the trust’s creation, for the life of that individual.[1] The initial beneficiaries—typically the donor or the donor’s family—receive a fixed percentage (not less than 5% but not more than 50%) of the fair market value of the trust’s assets, which are revalued every year.[2] The trust is initially funded by assets, such as stocks or artwork. More assets can be added over time. After the CRUT ceases making these payments as a result of either the expiration of 20 years or the death of the beneficiary, a percentage of the remainder of the trust value goes to a charitable cause.[3] In order to comply with federal law, the U.S. government requires that the charity receive at least 10% of the asset’s value upon the death of the beneficiary.[4]
One of the main advantages of a CRUT lies in its favorable tax treatment. When the trust sells an asset, it does not pay capital gains taxes.[5] CRUTs also have several other benefits. For example, the payout from the trust may increase over time depending on its valuation. The trust assets are evaluated every year, thus payouts to beneficiaries may increase if the trust assets grew. In addition, the donor can make additional contributions to CRUTS; thus, if they acquire more cryptocurrency, those assets can be added to the trust. A donor can also take a possible income tax deduction when funding the trust.[6]Finally, the CRUT’s investment income is tax exempt for the donor adding assets, but the named beneficiary receiving income from the trust will be required to pay income taxes.
Cryptocurrency, CRUTs, and IRS Tax Implications
Because the IRS considers cryptocurrencies to be property, the assets can be contributed to a CRUT as “property.” In Notice 2014-21, the IRS and the Treasury Department issued a notice that “virtual currency” was to be treated as property for tax purposes. On July 25, 2017, the Securities and Exchange Commission issued a report clarifying the agency’s position that virtual currencies are securities that fall under the jurisdiction of the Securities Act of 1933 and the Securities and Exchange Act of 1934. In other words, the SEC treats cryptocurrency as a security. In addition, because cryptocurrency can be inherited, it may result in estate taxes, if it exceeds the thresholds of $11.7 million and $12.06 million in 2021 and 2022, respectively.
While the IRS published cryptocurrency tax guidelines in 2014, many cryptocurrency holders failed to declare any cryptocurrency profit on their tax returns. Acutely aware of the lack of reporting, the IRS has vowed to crackdown on tax evasion, with particular focus on those not reporting crypto sales over $20,000. The IRS considers cryptocurrencies to be property, which means profits or losses from digital coin transactions may give rise to taxable gains or losses. With the IRS focused on cryptocurrency gains, one way to minimize taxes on profits is to place the assets in a CRUT.
Cryptocurrency is a highly volatile asset. If a holder of cryptocurrency sells their coins and realizes a profit, they may be required to pay taxes. Short-term capital gains can be taxed up to 37% in 2021 and 2022. For assets held longer than a year, capital gains taxes are determined at a lower rate (0, 15, or 20%). The rules for netting stock losses and gains also apply to cryptocurrencies. If capital losses exceed capital gains, then a taxpayer may carry certain losses over into the next year.
CRUTs and Cryptocurrency Assets
If the assets are placed in a CRUT, the tax rules may change. By transferring cryptocurrency into a CRUT, the grantor may be able to receive an immediate charitable tax deduction. The beneficiary receives a portion of the trust profit as income and pays taxes on that income distribution only—not capital gains taxes.
Cryptocurrency has generated billions of dollars in wealth around the globe. And its market capitalization has steadily trended up—at least to date. Therefore, significant cryptocurrency holders may consider a CRUT to minimize capital gains taxes, plan for estate taxes, and to facilitate charitable giving.
[1] I.R.C. § 664(d)(2)(A).
[2] I.R.C. § 664(d)(2)(A).
[3] I.R.C. § 664(d)(2)(C).
[4] I.R.C. § 664(d)(2)(D).
[5] I.R.C. § 664(c)(1).
[6] See I.R.C. § 170; Treas. Reg. § 1.664(d).
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