States, eyeing money in abandoned bitcoin, rewrite laws

Escheatment laws date back to feudal England. Now they’re getting a cryptocurrency makeover

New York is among the latest to consider legislation calling for unclaimed cryptocurrency to be transferred to the state after the digital assets have been abandoned. (Dan Kitwood/Getty Images)
New York is among the latest to consider legislation calling for unclaimed cryptocurrency to be transferred to the state after the digital assets have been abandoned. (Dan Kitwood/Getty Images)
Posted July 16, 2019 at 6:30am

Cryptocurrency is bumping up against centuries-old legal doctrines on abandoned property, presenting new concerns about who actually holds these digital assets and how states are able to claim them.

States are seeking to apply escheatment laws — which date back to feudal England — to present-day cryptocurrencies such as bitcoin, ethereum, bitFlyer and zcash. That’s even as the technological issues remain unresolved.

While all 50 states have escheatment laws on the books, few have explicitly amended their unclaimed-property statutes to cover cryptocurrencies. That, however, could soon be changing as states seek to tap a potentially lucrative source of revenue.

New York is among the latest to consider legislation calling for unclaimed cryptocurrency to be transferred to the state after the digital assets have been abandoned. A bill pending in the state Assembly would liquidate such assets and turn them over to a state office.

A handful of other states, including Illinois, Colorado, Tennessee and Utah, have already adopted a definition of virtual currency as property, International law firm Greenberg Traurig LLP reported in a recent legal analysis.

More issues ahead

The Unclaimed Property Professionals Organization, an industry group, says that as more people and companies recognize bitcoin and other cryptocurrencies as legitimate forms of payment, “more unclaimed property issues will likely arise.”

U.S. escheatment laws require people or businesses that hold another person’s tangible or intangible property to transfer it to the state if it has been abandoned after a dormancy period. Dormancy can vary based on the type of property involved, but is typically three to five years, according to Greenberg Traurig.

The state generally uses the proceeds, while technically holding the abandoned property in trust in perpetuity until claimed by the owner or the owner’s heirs.

It’s usually a straightforward process for cash or stock, but it’s much more murky for cryptocurrencies, according to legal experts.

The questions start with determining who, if anybody, “holds” the cryptocurrency, as the process has been traditionally understood, Greenberg Traurig partner Marc J. Musyl in Denver told CQ Roll Call in a phone interview.

“Is the holder the cryptocurrency exchange, the online wallet provider, or another form of financial intermediary?” Musyl and his colleagues asked in their analysis of escheatment laws on blockchain technology.

They ponder whether a business will be deemed a holder based on its ability to access and transfer cryptocurrency to a third party.

“More often than not, the owner has a private key or password needed to transfer the cryptocurrency, in which case a cryptocurrency exchange or wallet provider likely would not be able to transfer the property to the state,” they say. “And the state likely could not assert the right to take custody of the property.”

In these cases, the attorneys wrote, “the exchange or wallet provider may be deemed not to have possession and control of the property, and thus not be subject to reporting obligations under state unclaimed property laws.”

Others are asking how crypto exchanges would remit or transfer the property to states that don’t have the technology to accept and hold digital money.

“Either the holder (or its agent) would need to liquidate the cryptocurrency before reporting, and then send cash to the states, or the state treasury departments will need to create their own cryptocurrency wallets or accounts to receive and hold cryptocurrencies,” the Eversheds Sutherland law firm wrote in an article published by the firm last year.

Liquidation loss

Any approach that features liquidation could carry legal risks for cryptocurrency holders because the owner could miss out if currencies rise in value, the firms said.

“Many states liquidate non-dollar assets shortly after receipt of that property,” Eversheds’ analysis says. “When states receive unclaimed securities, for example, the property often is sold and converted to cash, which can result in an investor losing his or her position in the market.”

Property owners who later contact the state to recover their abandoned property receive only the liquidated value of the asset, not its appreciated price.

Both firms say liquidation could invite litigation by cryptocurrency owners against holders for “negligent escheat” or against states for unlawful takings. The threat of legal actions connected with escheatment and liquidation puts the entire cryptocurrency industry at risk, the attorneys say.

The New York legislation being considered in the state’s Assembly expressly says cryptocurrency owners would receive only the proceeds of a liquidation sale, not the value when claimed.

The bill says “virtual currency” that has remained unclaimed by the owner shall be deemed abandoned. It is transferred to the New York State Comptroller’s Office and is then “sold on any established exchange” or by other means. The proceeds would be deposited in the state’s abandoned property fund “and any claimant to such virtual currency shall be entitled only to the proceeds of the sale of such virtual currency by the comptroller.”

The New York bill avoids many of the complex questions about the escheatment of cryptocurrency, such as determining who is a holder and how a claimant would prove ownership.

In many instances it will be difficult to track ownership of a liquidated cryptocurrency, Greenberg Traurig noted. Ownership is generally validated by the network on which the cryptocurrency resides, but owners of currency on a blockchain may be anonymous or have no way to trace their past ownership.

Musyl said determining exactly when a cryptocurrency has been abandoned presents a “tricky question.” The New York bill proposes that any electronic communication from the “apparent owner” of securities or amounts would be sufficient to toll, or place a stay, on the dormancy period. But the details of that would have to be worked out by legislators or the courts.

Musyl and his colleagues recommended that digital currency industry participants — including cryptocurrency exchanges and online wallet providers — brace for potential regulatory enforcement actions, audits or litigation based on violations of state unclaimed-property laws.

Eversheds attorneys cautioned that state unclaimed-property reporting requirements are “rigorous,” and that states are aggressively enforcing unclaimed-property laws through private auditors working on a contingency basis to identify unclaimed property that has not been reported to the state. They warned that the audits are “often contentious” and the assessments can be in the “millions of dollars.”

Kendall L. Houghton, a Washington partner at the law firm of Alston & Bird who has written about implications of escheatment laws on cryptocurrency, told CQ Roll Call in an interview that she would advise both owners and holders of digital assets to “be as interactive as possible” with each other to avoid the property becoming dormant and, as a result, becoming subject to escheatment. She said best practices involve preventing “loss of contact” with the cryptocurrency holder.

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