Safe vs. Risk Assets
Three key elements come into play if you hold crypto in an LLC as a safe asset. The taxation of the LLC, the management structure, and which state is best. If you are operating a crypto mining business that generates ordinary income, that is a different strategy. The taxation of the LLC will be covered under the “best entity” section.
U.S. residents need to consider if holding crypto can they hold that in an out of state entity such as Wyoming, or will the management of the LLC create nexus in their home state, even for “safe assets” or “investments.”
NCP conducted research with Deloitte on this important subject back in 1998 when looking at a similar strategy with an LLC and investments through a brokerage account. This falls under the multi-state taxation rules.
Manager Managed vs. Member Managed
The management structure is not one to overlook. There is an important difference between a manager-managed LLC vs. a member-managed LLC. This is especially important for crypto holders.
If you are operating a crypto business, perhaps you have created your own coin, protecting the managers and owners of the LLC would be paramount and the state of formation, even with foreign qualification is critical when it comes to properly planning.
Don’t be surprised if you find one approach from your attorney when it comes to protecting your crypto, and what your CPA may say about it. This is why we have interviewed and consulted with both sides to fill in the gaps.
Non-residents have much more involved with taxation when opening a U.S. LLC but keep in mind exchanges do have limitations on specific states. For example, Kraken has funding restrictions with Texas entities. Make sure your U.S. LLC has an actual U.S. address and not a PO box in another state you are using for another business.
Crypto Options and Private Keys
There will be exchanges and wallets where you cannot set up the account in the name of an LLC, and you will want to protect the private keys and have them titled to the LLC; NCP can help you with that process.
LLC Taxation Options
An LLC will give you the most options over a corporation. Keep in mind an LLC can be taxed as a partnership, S or C corp, or disregarded entity. Each will have a different operating agreement. The IRS has default rules for a single-member LLC and partnerships. Form 8832 must be filed for the C corp election and form 2553 for the S corp election.
Keep in mind a non-resident will not qualify for an LLC taxed as an S corporation. An LLC taxed as an S corporation also limits investments that may come on board. Most do not have investors, so the limitations of an LLC taxed an S corporation may not be a concern. The type of income will impact your choice of entity. In general, this may not likely be the case in your situation. Most crypto investors will experience short or long-term capital gains and have those gains or losses flow through to their personal tax returns. The best option in most cases will likely be a single-member LLC disregarded or a multiple-member LLC taxed as a partnership.
The key is to understand this LLC is holding safe assets, and what happens if you are sued personally for something unrelated to your LLC? The charging order is very important with LLCs, and there were important court cases in Colorado in 2003 and in Florida in 2010 that you need to be aware of when forming an LLC for protecting your crypto.
A partnership will trigger a separate federal 1065 tax return, but knowing the best strategy is more important in some key states.
If you have a mining business or are involved in DeFi, that triggers substantial ordinary income, you may find that a single-member LLC disregarded may not be your best option due to the profits flowing to schedule C.