Increasingly, digital assets such as crypto-assets are forming part of high-net-worth individuals' (HNWIs) estates. As with any other asset type, HNWIs are looking to hold their crypto-assets within trust and corporate structures for asset protection, tax optimisation and as part of their succession planning.

Getting comfortable with crypto-assets requires not just a conceptual shift as to what can constitute an asset but also a linguistic education. The terminology that applies to these assets and the processes around trading with them can seem alien. However, trustees are expected to understand what these assets are, how to hold them, and how to invest in them.  

Mariel Stringer-Fehlow, Mishcon Private

There are many reasons trustees have been cautious about investing in crypto-assets. These include:

- A lack of knowledge about crypto-assets and the processes surrounding investment in them;

- The volatility of their value (and resulting difficulty in predicting their value on any medium to long term basis);

- The lack of traditional market regulation;

- Perceived risks to the security of the assets and the various marketplaces (a concern increased by media coverage of the hacking of same); and

- Associations with money laundering and/or proceeds of crime, made harder to combat by the difficulty of ensuring no tainted funds appear in the history of the asset's ownership.

Accordingly for trustees who are held to high standards of care in respect to the profitability, appropriateness, and security of their trust's investments (an even higher standard being expected of professional trustees), crypto-assets have seemed like a risk not worth taking until relatively recently.

There has been a shift, however, and crypto-assets are becoming a desirable part of an investment portfolio with beneficiaries and settlors no longer willing to just dabble on their own account, asking trustees to make these investments on their behalf.

One health warning is that whilst there has been a marked increase in investing in "crypto" generally, what exactly the different investments are can vary tremendously. As with any kind of financial instrument, the ways in which an investor may generate a profit comes down to the precise way that instrument works.

Moustapha Hammoud, Mishcon Private

Generating income from crypto-assets is possible, and the decentralised finance (DeFi) market is rapidly growing for this very reason, but this requires different forms of investment.  Investors cannot purchase crypto-assets and expect to receive interest as happens with fiat (traditional currency) in a bank account.

This is likely to be a continuing issue and it will be up to the trustees' (or the financial advisers instructed) to point out that investing may not be consistent with the trust's aims or with the needs of certain beneficiaries if income is an issue. Even if the beneficiaries are content with this, trustees should get confirmation in writing.

This article does not provide a detailed overview of UK succession planning when it comes to crypto-assets, which requires careful consideration and legal advice, being entirely fact-dependent. It is important, however, for trustees and executors (including trustees of will trusts) to note the following:

- If a crypto-asset was not purchased by the trustees initially, considerable due diligence will be required before accepting into the trust fund.

- If the asset is a Non Fungible Token (NFT), a form of asset increasingly used in the context of digital art, a review should be undertaken of the Intellectual Property rights and the holders of same. NFT's are complex, and specialist IP/Art Law advice should be obtained to ensure the purchaser fully understands what it is that they are purchasing. Note that sellers do not always flag the different rights that arise in the creation of one NFT. 

- Longevity: NFTs, typically include an html link to the associated asset (e.g. artwork) which is in turn hosted online. Care should be taken to ensure that the online hosting is preserved for the intended life of the investment. Similarly, where a crypto-asset is heavily linked to an ecosystem which is itself largely driven by a single or small number of stakeholders (typically the company that developed the ecosystem in the first place, or a foundation established to promote the success of the relevant ecosystem), due diligence should be undertaken to ensure that such stakeholder(s) will continue to support the ecosystem for the intended life of the investment.

Assuming trustees do get comfortable with the investment, there are then three key considerations for them:

Custodianship

One of the biggest concerns for trustees is regarding the security, storage and accessibility of crypto-assets held by a trust. They will need to make a decision on the way in which the public and private keys to crypto-assets are stored – and who is responsible for that. 

Public and private keys play a crucial role in establishing ownership to crypto-assets. In short, the public key is akin to a username, in that it is non-secret information that identifies actors to the distributed system that supports a given crypto-asset. Private keys are more akin to passwords, in that they are highly-secret and provide those with access to them the right to sign transactions and effectively manage the crypto-assets contained in a given wallet.

Crypto-assets are held in addresses known as wallets. Wallet can be either “hot” (i.e. connected to the internet) or “cold” (i.e. not connected to the internet).  They can also either be “software wallets” (i.e. an application that resides on a computer or mobile device) or “hardware wallets” (i.e. a physical device closely resembling a USB stick). Many crypto-assets are also managed via “exchanges”, which themselves typically hold crypto-assets through a combination of cold and hot wallets but are effectively interacted with users as though they are software. 

With a hot wallet there is no issue of losing a physical wallet but it is more susceptible to hacking attempts. Cold wallets are not connected to the internet, and the biggest advantage to them is security, as private keys are stored offline. However, given they are stored on something physical, this item can of course be damaged or lost (although it is possible to regain access to the crypto-assets).

Trustees should take advice as to the most prudent custodian structure for their investment portfolio.

Structuring

When trustees are considering how to structure crypto-asset investments, there are two primary options. These are: 1) owning crypto-assets directly as part of the fund (i.e. in the trustees' own names) or 2) through an interposed company. The optimal type of holding will vary by scenario. 

Risk-averse trustees may only decide to hold crypto-assets as part of the trust fund if decision-making relating to the purchasing, holding and selling is reserved to an appropriate person; provision for this can be made in the trust deed or a side agreement. Alternatively, trustees may opt for crypto-assets to be held through a company. This could be due to tax considerations or because they prefer to leave the management and custodianship to directors. Combining the use of underlying companies with anti-Barlett provisions in the trust deed would further delimit their responsibility over these crypto-assets.

Tax 

Trustees need to consider how the investments are structured, where the "cryptofund" has its situs, and how particular transactions within that fund will be taxed. Separate rules (and taxes) apply to individual trustees, and to companies, and so this needs to be considered in conjunction with the structuring options.

Ultimately trustees need to understand the tax implications on the buying, selling and holding of crypto-assets. Depending on the structure, each of those actions might be subject to different taxes.  For example, in the context of buying and selling, where a trust is subject to tax in the UK, the trustees should seek advice on whether a particular transaction amounts to "trading" (which tends to require frequency and organisation), or "investment".  The former will be subject to income tax at up to 45 percent whereas the latter is up to 20 percent. 

A company subject to UK corporation tax will be less concerned with this distinction, as they are subject to a flat rate of 19 percent. A further factor for a company to consider, however, is the impact of the tax on dividends.

Clearly, whilst the understanding around crypto-assets is increasing, careful advice and consideration is still crucial, especially where trustee duties are to be factored in.