Cryptocurrency – Changing The Scope Of Financial Settlements

A prominent London law firm recently reported it had handled three divorce cases in which, for the first time, parties demanded the disclosure of cryptocurrency.

Many readers will have heard of cryptocurrency but have little idea of what it is and how it works. But according to a recent analyst prediction, bitcoin, the most well-known cryptocurrency, its price will double in the next six months. Thomas Lee, managing partner at the financial research firm Fundstrat Global Advisors, expects to see a new record peak for bitcoin by July, based on analysis of the currency’s 22 corrections since 2010[1]. On 15th February, the famously volatile currency reached almost $9,900 (that is one bitcoin = $9,900) before sliding slightly.

Ethereum, Ripple and many of the other main cryptocurrencies have also recently experienced gains. This followed announcements by the US Senate that new laws may be enacted to combat the volatility of cryptocurrency and stop digital currencies from being used by scammers and terrorists[2].

With such a high value and the move towards respectability, it is no wonder cryptocurrency is becoming targeted in financial settlements between high-net-worth (or rapidly forward-thinking) couples. However, cryptocurrency also presents an opportunity for spouses who are none too keen on making a full financial disclosure to the court. This is because, once it moves offline, it is almost impossible to trace.

What is cryptocurrency?

Cryptocurrency is a form of digital money which is designed to be secure, and in some cases, anonymous (hence its shady reputation).

The inventor/s of bitcoin remain anonymous. Satoshi Nakamoto is the pseudonym used by the unknown person or persons who designed bitcoin. In 2008, Nakamoto published a nine-page white paper containing the first-ever mention of bitcoin, calling it a “peer-to-peer electronic cash system[3]”. Nakamoto is believed to hold around 5% of the cryptocurrency (worth an estimated $5 billion) and has the power to ‘tank’ the currency should he/she/they so choose to[4]. Bitcoin has a finite supply of 21 million, which will be reached by the year 2140, making it similar to currencies such as gold. The less bitcoin there is in the future, the more valuable it will be.

Confused? Wait till we get into how cryptocurrency works.

Once again, let’s focus on bitcoin. Bitcoin is a decentralised currency, meaning no bank, government or regulator controls it. As an entity itself, bitcoin has no value, which is the same as paper money. The problem with a decentralised currency is you have to find a way of preventing ‘double spend’ – that is, using one bitcoin to pay Jack and then using the same bitcoin to pay Jill.

Nakamoto solved this problem by creating a peer-to-peer network to control bitcoin. Essentially, lots of computers running Bitcoin software are connected by a peer-to-peer network. These computers collectively keep a record of how bitcoin is being exchanged – referred to as the ‘blockchain’. ‘Miners’ perform a great deal of the computer-intensive transactional grunt work. Every peer or miner, has a record of the complete history of all bitcoin transactions and thus of the balance of every account.

So how do a group of complete strangers, who may or may not trust each other, provide an accurate ledger of traded bitcoin?

When a bitcoin transaction is made, it is merely pending. Something has to happen to have it confirmed. Once the transaction is confirmed it becomes part of an ‘official’ record of transactions, known as the blockchain.

But which one of the miners’ records of the transaction joins the blockchain? This all comes down to an extremely complex series of cryptograph puzzles called SHA 256 Hash algorithm.

The US National Security Agency designed SHA-256 Hash algorithm and trying to explain it goes beyond the scope of this article. The key to understanding how Bitcoin works is that miners compete to solve the puzzles. The first one to get it right creates a block to be added to the blockchain. Therefore, the puzzle-solvers (miners) record of a bitcoin transaction becomes the confirmed version. As an incentive, the miner who solves the puzzle receives newly created bitcoin.

At present, it takes a computer around 10 minutes to crack a SHA-256 Hash algorithm.

Cryptocurrency in a divorce financial settlement

For divorce lawyers, tracing cryptocurrencies such as Bitcoin, Litecoin, Ripple, and Ethereum can be challenging. If a currency such as Bitcoin is traded via an online investment platform and bought with funds originating from a bank account, the original value of the transaction can be worked out. However, if cryptocurrency is purchased directly and traded offline, tracing it becomes almost (but not entirely) impossible. Therefore, if a spouse chooses not to disclose cryptocurrencies in a financial settlement, they can remain hidden, requiring the expertise of forensic accountants to trace it.

The numbers involved are not inconsequential. One UK law firm has reported dealing with a case involving cryptocurrency holdings valued at over $1.4 million. However, the volatility of the currency presents additional challenges in financial settlements, as they can be hard to value accurately.

The law is always many years behind technological developments, and bitcoin and other cryptocurrencies are not going to go away anytime soon. Therefore, if you believe your spouse may be holding cryptocurrency and failing to disclose it, with a view to keeping it from becoming part of the financial settlement, speak to your solicitor immediately.

Rosie Bracher are specialist family law solicitors based in Barnstaple. If you require caring, confidential information about any issues raised in this blog, please phone us on 01271 314 904 to make an appointment.