Why are crypto assets important in a divorce proceeding?

The first decentralized digital currency Bitcoin was first released in 2009, and it has now been 13 years since then.  Over the years, crypto assets have gained enormous popularity and are now widely recognized as one of the investment vehicles and payment methods despite its volatile nature.  This can be seen from the price of Bitcoin in the past year.  In the first half of 2021, the price of Bitcoin soared to an all-time high of over US$64,000, and then quickly fell back to less than US$30,000 in summer.  Despite this, some people predict that Bitcoin will reach US$100,000 by 2023.

The advantage of investing in cryptocurrency is that as it is decentralized without going through any intermediaries, and because of its nature of anonymity, it provides investors with a more secure, equal, non-judgmental, anonymous and non-discriminatory environment, while protecting their identities.  Even though there is a public ledger called Blockchain recording all the transactions, it is still difficult to trace it back to the owner without the private key.

Of course, investing in crypto assets is not without its risks.  It is highly volatile and susceptible to hacking, theft, error and being used as a means for money laundering.  Because it is largely unregulated, it might be difficult to track down and recover any stolen funds.  Despite this, the cryptocurrency market is still growing, and it has the potential to continue to grow in the future.

When it comes to matrimonial context, there is also a risk that spouses may use cryptocurrency to hide their assets during marriage and divorce.  In divorce proceedings in Hong Kong, spouses are required to make full and frank disclosures of their finances through a financial statement called Form E, meaning that they are obliged to honestly disclose all their assets including any crypto assets that they hold.  The difficulty with cryptocurrency is that as there are no intermediaries and because of its anonymous nature, even though the transactions are recorded in the public ledger Blockchain, it is difficult to identify the owner without the private key.  If the spouse owning the crypto assets does not disclose his/her ownership of such assets, it will be difficult to find them.

It is recommended that spouses look for signs related to the other party's investment in cryptocurrencies during and after marriage.  For example, whether there are any transactions shown in the bank statements indicating that money has been used to buy cryptocurrency, any unusual activities on their credit cards and/or in the bank accounts, whether they have installed any Apps on their electronic devices that can link to the investment on cryptocurrencies or digital wallets, whether they have discussed with/told friends and family about their investment in crypto assets, and whether there is any unusual increase of wealth and disposable income etc.

In the event that there are no obvious signs of ownership of cryptocurrency, but the spouse strongly believes that the other spouse is holding undisclosed crypto assets, she may wish to engage a crypto specialist forensic accountant to look for it through an exercise called tracing.  However, it is usually expensive and therefore the spouse should balance the cost against how much she will potentially recover to see whether it is worth pursuing.  The cost of tracing will depend on the complexity of the transactions and if it involves many exchanges and intermediaries, it will take longer and involve more work to gather all the information and analyse and thus will be more expensive.

The other way of dealing with it is to ask the Court to draw adverse inferences against the other spouse, i.e. for the court to conclude that he is holding crypto assets which he fails to disclose and for this to be added back to the matrimonial pot for division between spouses.  However, the spouse asking for the add-back order from the court will need to be able to show very convincing evidence for the Court to do so.

When dealing with financial matters of divorce, the Court will first need to ascertain the size of the matrimonial pot, i.e. how much assets are there available for division between the parties.  In order to do so, the value of each asset needs to be ascertained either by agreement or through valuation, same with crypto assets.  The problem with crypto assets is that they are so volatile that the valuation done today might be very different to the valuation done 6 weeks ago.  The Court will therefore need to determine when should be the date for valuation or the parties will have to agree on it.

To avoid valuation, one spouse might ask for half of the crypto assets that the other spouse is holding to be transferred to her, in which case no valuation will be needed.  However not everyone would like to hold digital assets.  The more conventional way of dealing with them is for them to be valuated and the spouse who does not want to hold digital assets will take the equivalent value of her share of the crypto assets from the traditional assets available in the matrimonial pot.  The spouse may also ask for her share of crypto assets to be sold at a certain date and time and be paid the sale proceeds.

To avoid the spouse holding crypto assets selling them overnight and disposing of them, the other spouse may apply for an injunction the usual way to freeze the assets but it might be difficult to implement logistically due to their nature.

Because of its high volatility, people can lose a lot of money overnight, but at the same time it provides an opportunity for investors to gain significant return in a short period of time.  Also, because the amount of initial investment can be very flexible, it will likely remain to be a popular choice of investments in the near future.  As family lawyers, we will certainly be seeing more and more of crypto assets in divorce cases.