Introduction to Bitcoin and Bankruptcy

Bitcoin as an Asset in Bankruptcy

From a legal perspective, Bitcoin is treated similarly to other assets during bankruptcy. A debtor must list their Bitcoin holdings, including the quantity and current value, on their bankruptcy schedules. The ability to exempt Bitcoin from the bankruptcy estate varies by jurisdiction, and whether the trustee can ultimately access the Bitcoin depends on various factors. As cryptocurrencies have become more prevalent, bankruptcy trustees now routinely ask debtors about their Bitcoin holdings during 341 meetings. The rise of Bitcoin has led to intriguing scenarios, including cases where individuals obtain Bitcoin through promotional offers or speculative investments.

The Volatility and Accessibility of Bitcoin

Levine likens Bitcoin to collectible items like Cabbage Patch dolls or Swatch watches—assets whose value can fluctuate unpredictably. While Bitcoin might be worth thousands of dollars one day, it could become nearly worthless the next. The practical issue arises in accessing Bitcoin since it is stored in digital wallets protected by private keys. Losing access to the private key can lead to significant complications. Levine recalls a case where a client invested three-quarters of a million dollars in Bitcoin, only to forget the key to his wallet. As a result, he faced severe financial penalties and tax consequences for failing to repay his 401(k) loan.

A Real-World Case: $180 Million in Inaccessible Bitcoin

One of Levine’s current clients presents a particularly complex situation. The client owns 1,807 Bitcoin—worth approximately $180 million—but cannot access them. The Bitcoin was initially acquired over a decade ago during a holiday celebration. After purchasing the Bitcoin, the client sold it back the next day due to his wife’s concerns. However, during a subsequent holiday, he repurchased a substantial amount but ultimately forgot the key to the digital wallet. Complicating matters further, the client fell victim to identity theft, leading to significant legal and financial difficulties. Despite technically possessing an enormous fortune in Bitcoin, the client had to file for bankruptcy to stop a foreclosure, as the Bitcoin remains inaccessible due to a third party holding the wallet key.

The Legal Gray Area of Bitcoin in Bankruptcy

Cryptocurrency’s classification as property or currency remains a gray area in bankruptcy law. However, for practical purposes, it is treated as an asset—like stocks—with a daily fluctuating value. In bankruptcy, the value listed for Bitcoin should reflect its market rate on the filing date. If the value exceeds allowable exemptions, it can become a potential issue for the debtor. Conversion of Bitcoin to cash poses another challenge, as traditional banks may not recognize Bitcoin as legitimate currency. The complexity of liquidating Bitcoin can hinder the trustee’s ability to access it for creditor distribution.

Disclosure and Consequences

Failing to disclose Bitcoin holdings in bankruptcy is considered fraud, with severe legal consequences. If discovered, the debtor could face penalties or potential criminal charges. However, if the omission is accidental and promptly corrected, it may be overlooked. Levine emphasizes that disclosing all assets honestly is essential to avoid complications.

Recent Court Rulings and Future Outlook

The treatment of Bitcoin in bankruptcy is a developing issue. Courts have only recently started addressing Bitcoin’s complexities, and there is still a lack of comprehensive case law. Trustees are now asking debtors specifically about their cryptocurrency holdings, signaling that Bitcoin’s status in bankruptcy will continue to evolve. Levine’s client’s case, with its massive yet inaccessible Bitcoin fortune, serves as a cautionary tale highlighting the unpredictable and unregulated nature of cryptocurrency in the legal system.