4 Cryptocurrency Risks and Scams and How to Navigate Them — Part 1

It’s no secret that Bitcoin and other brands of cryptocurrency are one of the hottest new investment opportunities. And if you’re not already invested, you may be considering how to get in, what exactly is the best way to get in, and you should definitely be considering risks and potential scams that are easy to get caught by if you’re not eyes wide open on the issues surrounding cryptocurrency.

Launched in 2009, Bitcoin was the first cryptocurrency, and since then, it has evolved from something only computer geeks and hackers talked about into a global phenomenon that’s transformed how the entire world views money.

Bitcoin is still the most popular—and valuable—digital currency. As of November 2017, a single Bitcoin was worth more than $10,000, with the currency’s total market capitalization at roughly $158 billion.  Bitcoin’s smashing success spawned a legion of other coins, known as “altcoins,” such as Ethereum, Litecoin, and Ripple, and the global market value for all cryptocurrency is currently more than $300 billion.

The huge amounts of money transitioning into the world of cryptocurrency has attracted equally large numbers of investors, looking to tap into this seemingly boundless source of new money. However, because it’s largely unregulated, involves extremely complex technology, and offers significant anonymity, the cryptocurrency market has also garnered the attention of cyber criminals.

Indeed, cryptocurrency’s brief history is filled with stories of people losing major money through hacking and a variety of other traps and scams. As with any new investment opportunity, the key to safety with cryptocurrency is education. While you should always do your own research before investing, here are a few of the most common scams to watch for and how to know whether investing in or using cryptocurrency is right for you.

1. Shady Exchanges

A cryptocurrency exchange is an online platform for trading one cryptocurrency for another or for fiat currency like the U.S. dollar. These platforms are where you buy in and cash out your cryptocurrency, so they’re essential to the crypto market. Exchanges typically charge a fee for each transaction and are based on current market rates or rates set by sellers/brokers.

Bitcoin’s popularity has caused the number of exchanges to explode, but not all exchanges are trustworthy. In the past, major exchanges have disappeared overnight and taken all of the digital currency with them, while others offer horrible customer service, and/or make getting your money out extremely difficult.

Your best bet is to stick with the largest, most popular exchanges like Coinbase, Kraken, and Bittrex. That said, legitimate smaller exchanges are out there and can be used safely, provided you’ve done your research. Indeed, there are numerous websites that rank and review crypto exchanges for quality, security, and customer service. If the reviews are largely negative, note that it’s difficult to cash out your altcoins, or mention the customer service is exceptionally poor and/or slow, steer clear.  

2. Picking Your Wallet

In order to store cryptocurrency, you’ll want a digital wallet, as that’s the safest way to hold your cryptocurrency. Exchanges are for buying and selling, but not the safest for storing.

Your cryptocurrency wallet doesn’t actually “store” money like a traditional wallet; rather, it stores passcodes, known as keys, that allow you to send and receive digital currency to and from the wallet. There are many different wallets available, but not all of them are totally secure.

Wallets come in two forms: hot and cold. A “hot” wallet stores your cryptocurrency in a location that’s connected to the internet—exchange-based wallets, desktop wallets, and mobile wallets. Because they’re connected to the internet, hot wallets are the most convenient, but that also makes them vulnerable to hacking. A “cold” wallet, conversely, stores your cryptocurrency in a location that’s completely offline. Ironically, the most secure type of wallet for storing digital currency is a cold “paper” wallet.

Paper wallets involve printing out your keys and storing them in a secure location. While paper wallets are the most secure option, if you lose the codes, it’s the same as losing paper currency—you’re screwed, meaning there is no way to recover your investment. Paper wallets are also inconvenient—you have to send your money back to an exchange to use it—which can be a pain if you’re using cryptocurrency on a daily basis.

If you primarily use cryptocurrency as a long-term investment, you should store all of your crypto in a paper wallet. If you’re receiving, spending, or trading frequently, however, you should use both a hot/online and paper/offline wallet. Like real-world wallets, store the money you need for the day in your hot/online wallet, but keep the majority of your funds in a paper/offline wallet for safekeeping.

In all cases, whether you have crypto in a hot wallet, paper wallet, or directly in an exchange, make sure you’ve given the details of where it’s stored and how to access it to the people who need to know in case you’re incapacitated or when you die. Otherwise, it’s completely lost. If the people you love don’t know how to find and access it, it’s the same as it not existing at all. Please talk with us about this if you have any cryptocurrency now that may not have been included in your estate plan, or if you do obtain any in the future. Remember: if your family doesn’t know how to access it, it will be lost if you become incapacitated or when you die.

In addition to safety, investing in cryptocurrency comes with an array of other legal, financial, and tax issues you’ll need to consider. The good news is a Personal Family Lawyer® can guide you through these challenges and help you incorporate cryptocurrency investments into your family’s overall financial and estate-planning strategies. Contact one today to get started.

Next week, we’ll continue with part two in this series on cryptocurrency risks and scams.