Cryptocurrency is treated as an asset in a bankruptcy case, like stocks, real estate, or cash. When you file for bankruptcy, you must disclose all your assets; cryptocurrency is no exception. Courts treat digital currencies as property, meaning they will be part of the bankruptcy estate that gets evaluated and potentially liquidated to satisfy creditors.
Bankruptcy trustees play a crucial role in determining the value of cryptocurrency assets. Given the market’s volatility, determining the precise value of digital assets can be tricky. A trustee may choose to liquidate cryptocurrency quickly to avoid potential losses in value.
Valuation Challenges in Bankruptcy
Valuing cryptocurrency in bankruptcy adds a complexity not seen with other types of assets. Cryptocurrency is notorious for its price volatility, with values that can swing dramatically within a few hours. This fluctuation makes it difficult to assign a fair value to digital currencies at any given point during bankruptcy proceedings.
Courts and trustees often use the market price when filing for bankruptcy to determine the value of the cryptocurrency. However, if the value of the digital assets drops sharply before the assets are liquidated, it can affect the amount creditors receive. Conversely, if the value rises, it could benefit creditors but leave the debtor in a more difficult financial position.
In Chapter 13 bankruptcy, where assets are used to determine repayment plans, the valuation challenges of cryptocurrency become even more pronounced. When crafting a feasible plan, debtors must account for their digital assets’ fluctuating value. If the value changes significantly during the repayment period, adjustments might be needed, adding another layer of complexity to the case.
Liquidating Cryptocurrency in Chapter 7
When a debtor files for Chapter 7 bankruptcy, non-exempt assets are liquidated to pay off creditors, and cryptocurrency can be one of those assets. The trustee assigned to the case will have the authority to sell digital currency and distribute the proceeds to creditors. In some cases, this process happens quickly due to the volatile nature of the cryptocurrency market.
The trustee might sell the cryptocurrency on a popular exchange platform, ensuring the process is transparent and maximizes the value for creditors. Because of the market’s unpredictable nature, trustees often prioritize liquidation to avoid the risk of a sudden drop in value. For the debtor, this could mean losing all cryptocurrency holdings, with little chance of recovery if those assets rebound in value later.
On the flip side, if cryptocurrency prices surge while the bankruptcy case is ongoing, the trustee could sell the assets at a profit, benefiting creditors. Unfortunately, debtors won’t benefit from any increase in value, as the assets now belong to the bankruptcy estate.
Protecting Cryptocurrency in Bankruptcy
While most assets are vulnerable in bankruptcy, certain exemptions protect specific property from liquidation. Unfortunately, most standard bankruptcy exemptions, such as those for a primary residence or personal vehicle, don't typically cover cryptocurrency.
Some debtors may argue that their cryptocurrency holdings should fall under similar exemptions as other financial assets, but courts are still deciding how to address these claims. That said, those filing for Chapter 13 bankruptcy may retain their cryptocurrency if it's considered part of a structured repayment plan rather than being immediately liquidated. In some cases, a debtor could negotiate to keep certain portions of their cryptocurrency holdings, particularly if they rely on these assets for their future livelihood.
Additionally, the anonymity of cryptocurrency can complicate the process of protecting or disclosing digital assets. Bankruptcy law requires full disclosure of all assets, including cryptocurrency. Failing to disclose digital currency can lead to severe penalties, including the dismissal of the bankruptcy case or criminal charges for bankruptcy fraud. However, the transparent nature of the blockchain, which records all cryptocurrency transactions, makes it increasingly difficult for individuals to hide these assets from the court.
Contact a Lawyer for Legal Support
Cryptocurrency's volatile value and relatively untested legal framework add complexity to bankruptcy cases. Even so, digital currency is treated as property, and debtors must at least disclose these assets to the court.
While valuation and liquidation present challenges, the role of trustees and emerging case law continues to shape how cryptocurrency fits into bankruptcy. As the legal system adapts, it’s crucial to stay informed on how these changes could affect your financial situation.
If you're concerned about how your cryptocurrency might be handled in bankruptcy, contact Buchalter & Pelphrey for legal advice.