After someone dies with Bitcoin, among all the other chaos, are questions about taxes. How do you pay capital gains from during the decedent’s life? Or if he was a long-term holder, how much capital gains tax will the heirs owe? What about estate tax?
Final year capital gains tax from trading
If decedent was not a true holder, and was buying/selling, there are probably realized gains. You have to sell something to owe capital gains tax.
But how does an executor sort through to find the basis, the sales prices? It’s still complicated, because at least for now, cryptocurrency is not a well-established industry and is constantly evolving.
First, check the decedent’s devices for apps that track basis. There isn’t a main app out there right now, so Google “cryptocurrency tax tracking” to see which apps are popular at the time. If you find an app, it’s somewhat good news. The downside is that some of these apps don’t work very well.
Next, check the exchange that the decedent was using (Coinbase, Kraken, Gemini, etc.) Some of the exchange platforms do basis tracking, but again it’s not that good yet. Even traditional stock exchanges don’t always track the basis. So, it’s a bit unrealistic to expect the crypto exchanges to do as good a job of tracking basis. When someone is alive, it’s easier for them to track their own basis. But, like any other estate, things become a bit messier when you’re doing it for someone who has passed away. It takes work to reconstruct the portfolio to find the values.
What happens if you don’t find the basis? You can’t wait around forever; at some point the executor must take a position on the basis. Then the executor files the 5495 with the final 1040, holds his breath and waits to see what the IRS says. Obviously, this is what the executor does after LOTS of legwork to come up with the best guess for the basis. Filing with the IRS should not be the first step, and you should have a very strong argument supporting your guess.
Long-term Bitcoin gets stepped-up basis
Like all other capital-appreciated assets (homes, stock, etc.), Bitcoin will get stepped-up basis.
As a quick review, the basis is your adjusted purchase price. If you bought a house twenty years ago, your purchase price is your basis. Same with stock. If you bought stock for $50 a share ten years ago and now it’s worth $500 a share, you made a ten-fold increase.
Capital gains are calculated by what the asset is worth now (when you sell) vs. what you paid for it (when you bought it). When a person passes away, there is a very rare freebie from the IRS called the “stepped-up basis.” If you bought Bitcoin for $1 and it’s currently trading at $100,001, your gain is $100,000. You’d owe a lot of tax on that. But, if you pass away and your heirs get it, their stepped-up basis becomes $100,001. If the heirs sell it the next day for $100,002, their capital gain is $1.
Long-term Bitcoin holders may have SIGNIFICANT gains, so passing it on to the heirs could be a huge tax benefit.
Estate tax on Bitcoin
Is there estate tax on Bitcoin? Yes, it is an asset, just like anything else. Estate tax is a tax of your net worth upon your passing. Your executor or heirs need to put together a balance sheet or list of all your assets, minus liabilities, and present it to the IRS.
The good news! Most people do not need to worry about estate tax because, currently in 2022, the tax only applies to estates over $12mm (and $24mm married).
However, there are probably some Bitcoin holders that are very close to being over the exclusion amount. Earlier, we discussed the stepped-up basis to avoid the capital gains tax. But, if your gains have gone up so much that you’ve shot past the estate tax threshold, you’re trading capital gains tax for estate tax. If your estate is worth that much, you should consult with an attorney or an accountant.
This topic was based on a question from one of our listeners. Thank you and please keep the questions coming!
If you want to learn more about probate in general, please check out my book, “How Probate Works.” I don’t have a Bitcoin chapter yet, but you will get a sense of how the probate process applies to your situation.
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