Cryptocurrency and its impact

on insolvency and restructuring

May 2019
 INSOL INTERNATIONAL - SPECIAL REPORT

Cryptocurrency and its impact on insolvency and restructuring

Contents

Acknowledgement ............................................................................................................................ iii

Contributors ...................................................................................................................................... iv
1. Introduction.................................................................................................................................1
1.1 Where do cryptocurrencies fit into our world? ...................................................................1
2. Cryptocurrency and blockchain ..................................................................................................2
2.1 What is cryptocurrency? ....................................................................................................2
2.2 What is blockchain? ...........................................................................................................5
2.3 What is an initial coin offering (ICO)? ................................................................................6
3. Legal characterisation of cryptocurrencies .................................................................................8
3.1 Cryptocurrency as currency ...............................................................................................8
3.2 Cryptocurrency as electronic money (E-money)..............................................................10
3.3 Cryptocurrency as a financial instrument.........................................................................10
3.4 Cryptocurrency as money ................................................................................................11
3.5 Cryptocurrency as a commodity ......................................................................................13
3.6 Tax treatment of cryptocurrencies ...................................................................................14
3.6.1 Italy ..............................................................................................................................14
3.6.2 Denmark ......................................................................................................................14
3.6.3 Sweden ........................................................................................................................14
3.6.4 The Netherlands ..........................................................................................................15
3.6.5 England and Wales ......................................................................................................15
3.7 Miscellaneous ..................................................................................................................16
3.7.1 Surrogates ...................................................................................................................17
3.7.2 Claim ............................................................................................................................17
3.7.3 Tangible asset .............................................................................................................17
3.8 Is there a legal characterisation of cryptocurrencies? .....................................................18
3.9 What proprietary rights exist over cryptocurrencies?.......................................................18
3.9.1 Introduction ..................................................................................................................18
3.9.2 Russia ..........................................................................................................................18
3.9.3 Sweden ........................................................................................................................19
3.9.4 The Netherlands ..........................................................................................................19
3.9.5 Denmark ......................................................................................................................20
3.9.6 England and Wales ......................................................................................................20
3.9.7 China ...........................................................................................................................22
3.9.8 United States ...............................................................................................................23
3.9.9 Conclusion ...................................................................................................................23

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3.10 Characteristics of security in the context of cryptocurrencies ..........................................24

3.11 What security interests exist over cryptocurrencies?.......................................................25
3.11.1 Introduction ..............................................................................................................25
3.11.2 England and Wales ..................................................................................................26
3.11.3 Sweden ....................................................................................................................27
3.11.4 Denmark ..................................................................................................................28
3.11.5 The Netherlands ......................................................................................................28
3.11.6 Italy ..........................................................................................................................29
3.11.7 Conclusions to be drawn..........................................................................................29
4. Cryptocurrency and insolvency ................................................................................................29
4.1 What are the challenges facing insolvency professionals? .............................................29
4.2 Antecedent transactions ..................................................................................................31
4.2.1 United States ...............................................................................................................32
4.3 Tracing transactions ........................................................................................................33
4.4 Choice of law and jurisdiction ..........................................................................................34
4.5 Cryptocurrency exchanges ..............................................................................................36
4.6 Case studies ....................................................................................................................37
4.6.1 Exchange platform - MtGox .........................................................................................37
4.6.2 Individual bankruptcy ...................................................................................................40
5. Regulation of cryptocurrency ...................................................................................................41
5.1 European Union ...............................................................................................................43
5.2 England and Wales..........................................................................................................44
5.3 Sweden ............................................................................................................................47
5.4 The Netherlands ..............................................................................................................48
5.5 Denmark ..........................................................................................................................48
5.6 Russia ..............................................................................................................................49
5.7 United States ...................................................................................................................49
5.8 Other jurisdictions ............................................................................................................50
6. Conclusion................................................................................................................................50

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May 2019

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Acknowledgement

Following on from the very successful sessions on cryptocurrency at the INSOL

Singapore annual conference at the beginning of April 2019, we are pleased to
provide our members with a Special Report titled “Cryptocurrency and its impact
on insolvency and restructuring”, by Rick Chesley and Malithi Fernando of DLA
Piper.

In this Special Report the authors look at a variety of issues relating to

cryptocurrencies, starting with the most basic description of cryptocurrency,
blockchain and initial coin offerings (ICOs). This is followed by a discussion of
the legal characterisation of cryptocurrencies (also from the point of view of
various jurisdictions) and a discussion on whether or not security rights may be
taken over cryptocurrencies. The report then looks at cryptocurrencies in the
context of insolvency and restructuring, concluding with a forward-looking
discussion on the regulation of cryptocurrencies.

INSOL International would like to thank Rick Chesley, Malithi Fernando and the
whole DLA Piper team for this very timely and interesting paper on
cryptocurrency and its impact on insolvency and restructuring.

May 2019

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Contributors

The authors would like to thank the DLA Piper team listed below for their contribution to
this Special Report:

Country DLA Piper Contributor(s)

England Michael Fiddy

Martin Bartlam
Neil Riley
Michael McKee
Christopher Whittaker

Denmark Dennis Højslet

Italy Alberto Angeloni

Raffaele Buono

Netherlands Marc Molhuysen

Jian-Cheng Ku
Frank van de Wakker
Bram Vlaanderen
Aline Kiers
Rhys Bane
Guy Verbon

Russia Alexei Kolesnikov

Sweden Erik Selander

Kent Hägglund
Mikaela Reinhammar
Adam Tideman

US Deborah R Meshulam
Benjamin Klein
Tara Nair
Alana Friedberg

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Cryptocurrency and its impact on insolvency and restructuring

By Richard Chesley1 and Malithi Fernando,2 DLA Piper

1. Introduction

The UK government recently released certain papers under the Official Secrets
Act 1989, where the 1994 government advisors during John Major’s premiership
confidently commented that e-mail would never catch on. As our inboxes fill up
while we are on holiday, and smartphones presage new technologies, we may
wish that they had been right but history will judge their greatest prophetic
moment. History has been littered with intelligent predictions about how
innovations will either change our very essence or become a white elephant. In
1920, The New York Times dismissed the possibility of space travel by claiming
that “a rocket will never be able to leave the Earth’s atmosphere.” In 1969, the
paper issued a retraction of its original article as the Apollo 11 headed to the
moon. Undoubtedly, cryptocurrency has inspired numerous predictions on both
sides and in time we may be able to judge which were accurate but at the
moment it remains to be seen whether cryptocurrencies will remain the
successes of the internet and space travel, or disappear like Google glasses.

The world is changing in such a way that the lines between the “virtual” and the
“real” world are becoming less distinct. Banks and traditional financial institutions
have moved to online platforms and physical cash is becoming obsolete.
Modern payment systems are computerised and money exists mostly as digital
records on a bank’s account ledger.

1.1 Where do cryptocurrencies fit into our world?

Digital currencies are currencies stored and transferred electronically;

cryptocurrencies are a form of digital currency. On 3 January 2009, the
cryptocurrency revolution commenced with the launch of the first cryptocurrency
in the form of the Bitcoin network. However, digital currencies have been around
for some time. For example E-gold was a digital gold currency operated by Gold
& Silver Reserve Inc., founded in 1996. It allowed users to open an account
denominated in grams of gold (or other precious metals) on their website and
make an instant transfer of value to other E-gold accounts. Certain digital
currencies can be held and used only in the context of a virtual world, for
example, video games like World of Warcraft allow users to purchase certain
virtual products within the game using virtual currencies. These virtual
currencies are those that are not intended for use in real life or for the purchase
of real assets. On the other hand, cryptocurrencies are mathematical and
cryptographical constructs designed with the intention of acting as a substitute
for traditional payment platforms. Cryptocurrencies originated from the shadows
of the financial crisis, as a direct contender against the traditional system of
currency and central banks. The new generation of consumers are disillusioned
by the traditional financial system, the cost associated with transactions and the
role that banks and financial institutions played in the recent financial crisis. This
has led to the growing interest in a decentralised financial system which is
inclusive of all consumers irrespective of credit history and a system which has
the ability to give the consumer greater control.

1
Richard Chesley is a Partner and Global Co-Chair of Restructuring at DLA Piper LLP (US).
2
Malithi Fernando is an Associate in the London Restructuring Practice at DLA Piper UK LLP.

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The growth in popularity of digital currencies with consumers over the years has
forced markets, legislators and regulators to pay attention. How things will be
litigated can be postulated but no one really knows whether something will
continue to grow or whether it will fail. Cryptocurrencies exemplify this notion.
What we do know is that all innovations will need the benefit of the insolvency
and restructuring profession at some point through their development journey.
As crypto-transactions infiltrate the mainstream markets and become part of the
bankruptcy estate of individuals and corporations alike, insolvency professionals
will be asked to answer questions that have not yet been made clear through
legislative guidance and regulation. We also know that only through the lens of
insolvency will the real nature of the legal relations of cryptocurrency be tested.
Insolvency professionals will need to adopt new and innovative methods to
tackle the issues arising from the unchartered legal complexities of cryptoassets
and the difficulties of consolidating a legal black hole.

The purpose of this paper is to provide an overview of cryptocurrencies,

particularly looking at Bitcoin. The paper commences with an analysis of what
cryptocurrencies are and how they function within the current economic
environment. We then continue to consider the legal characterisation of
cryptocurrencies, or the lack thereof, and the implications of this for those
participating in the cryptocurrency markets. We also consider what security
interests are capable of existing in a cryptoasset. We analyse the challenges
that insolvency professionals face when confronted with an insolvency estate
that contains various cryptoassets. We then conclude by providing an overview
of the current regulatory position of cryptocurrencies in a number of jurisdictions
to get a sense of the issues that they are confronting. It is not surprising to learn
that there is little universalism. It soon becomes clear that the issues
surrounding cryptocurrencies and blockchain have outpaced legislation and
regulation.

2. Cryptocurrency and blockchain

2.1 What is cryptocurrency?

2019 is the tenth anniversary of the world’s first cryptocurrency, Bitcoin.

Cryptocurrencies emerged as a bi-product of digital cash and within a few years
would be worth more than USD 10 billion, peaking at above USD 300 billon.
Despite the overwhelming success of cryptocurrencies over the years, the
technology appears to still linger on the fringes. In this part of the paper the
essential characteristics of cryptocurrency and blockchain are considered,
particularly looking at Bitcoin (considered to be the first and most important
cryptocurrency in play at present) as our case study and its journey so far.

A paper on cryptocurrencies would be incomplete without a brief history of the

development of cryptocurrency and paying particular homage to the legendary
Satoshi Nakamoto, the enigmatic inventor of Bitcoin. We know very little about
Nakamoto, not even whether the name is a pseudonym for an individual or a
group of likeminded individuals.3 We do know that in 2008 Nakamoto developed
a paper titled “Bitcoin: A Peer-to-Peer Electronic Cash System” which was
posted to an obscure list of “cypherpunks”4 looking to incite social, economic
3
As this paper goes to print, the unveiling of the actual invention of Bitcoin is gathering substantial media
attention.
4
A “cypherpunk” is an activist advocating the widespread use of strong cryptography and privacy-
enhancing technologies as a route to social and political change.

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and political change through cryptography and computer science. The idea
emerged from the ashes of one of the worst financial crises the world had ever
seen; Nakamoto idealised a society which is independent and capable of
performing basic functions of life without the need for bankers, accountants and
government (seen by some to be the instigators of the financial crises). The
paper set out the blueprints for Bitcoin, which intended to prevent double
spending and to create a completely decentralised digital cash system. The
basic idea is to allow money to be transferred between individuals in the online
community in a transparent environment without restrictions and extra fees
being paid to a third party. This is in contrast to the traditional payment system
that requires a central server (charging fees) that maintains a record of the
balances.

Bitcoin consists of a network of peers and every peer has a record of the history
of all transactions, including the balance of every account. When a transaction is
requested, it enters the peer-to-peer network consisting of computers known as
nodes. Using algorithms, the network of nodes validate the transaction including
the user’s status. When the transaction is verified by the network it is combined
with other transactions to create a new block of data for the ledger. The new
block is added to the existing blockchain in a way that is permanent and
unalterable. The transaction is known almost immediately by the entire network.
Miners alone can confirm transactions in the cryptocurrency network and they
are rewarded with a token of cryptocurrency for fulfilling this role.

The diagram below demonstrates how Bitcoin transactions work:5

5
https://blockgeeks.com/guides/what-is-cryptocurrency/.

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The essential characteristics of Bitcoin are:

• transactions confirmed by the network are irreversible;

• transactions and the accounts are not connected to the actual identities of
users. The accounts consist of a random chain of thirty characters. It is
possible to analyse the transactions that have been made using the account
address as these are available on the decentralised network for anyone to
view. However, it is difficult to connect to a real world identity without co-
operation from the user or an exchange platform;
• transactions made using the network are near instantaneous and can be
confirmed within a few minutes. The system consists of a global network of
computers and it is not affected by geographical location, business hours or
public holidays;
• cryptocurrency funds are stored in a public key cryptography system which
can only be accessed by the holder of the private key;
• due to the decentralised nature of the network, cryptocurrency transactions
are reviewable by anyone on the platform without restriction. It only requires
an individual to download the software which is free of charge.

Bitcoins are created by “mining”, which is the processing of transactions by

adding to the record of past transactions. Anyone in the cryptocurrency
community can be a miner since the decentralised system does not have an
authority to delegate the role. In order to prevent fraud, Nakamoto created the
rule that miners will need to solve a cryptologic puzzle in order to qualify to
perform the role of a miner. With the solution to the puzzle, the miner can
proceed to build a block and add to the blockchain. A finite number of Bitcoins
can be mined by this process; 21 million according to Nakamoto’s design. This
determines the market value of Bitcoins. Ethereum is the second largest
alternative cryptocurrency to the Bitcoin. Ethereum, unlike Bitcoin, has
automated transaction functionality.

A study by the European Financial and Administrative Authority in 2015 set out
the types of cryptocurrency payment arrangements in existence, taking into
account the interaction between cryptocurrency and traditional currency:

• closed arrangements have no connection between the global economy

and cryptocurrencies. Cryptocurrencies are only exchanged with other
cryptocurrencies, that is, in computer games using in-game currency. This
type of cryptocurrency is not yet considered to require regulation or
legislation;
• unidirectional flow arrangements are where the cryptocurrency can be
transformed into fiat currency (currency that has been declared by a
government as legal tender). However, the opposite cannot occur (for
example, Facebook Credits sold by Facebook in 2009, whereby fiat
currency could be used to purchase the Facebook Credit, but the Facebook
Credit could not be converted back to fiat currency). This would also not
require a great deal of regulation as long as users do not oversubscribe to
it; and
• bidirectional flow arrangements are where cryptocurrency could be
converted freely into cash and vice versa. Therefore, cryptocurrency can be
used to buy and sell goods and services. This type of payment arrangement
will be of particular interest to lawmakers and regulators.

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2.2 What is blockchain?

As described above, blockchain provides a new approach to holding and

authenticating data. It is a database operating through distributed ledger
technology (DLT) in which data is recorded on computers, by way of a
peer-to-peer mechanism, based on pre-agreed consensus algorithms in the
applicable participating network. It is a form of database where data is stored in
the chain in either fixed structures called “blocks” or algorithm functions called
“hashes”.

Each block includes unique features, such as its unique block reference number,
the time the block was created and a link back to the previous block. Each block
is reviewed by a number of nodes and the block is only added to the database if
the node reaches consensus that the block only contains valid transactions.
Content includes digital assets and instructions that reflect the transactions and
parties to those transactions. The ability to track previous blocks in the chain
makes it possible to identify transactions back to the first ever transaction
completed, enabling parties to verify and establish the authenticity of the assets
in the latest block. This makes blockchain exceptionally accurate and secure.

Specialist users on the system apply advanced computing software to identify

time-stamped blocks, verify the accuracy of the blocks using sophisticated
algorithms and add the verified blocks to the chain. As the number of
participants increases, the replication of the data over a wider base makes it
harder for any person to alter the data in the chain. Any attempted addition or
modification to the information on a block needs to be approved by all users in
the network and verification of any block can only happen through a “proof of
work” process. This process requires vast amounts of computing power, making
it practically impossible to insert fake transactions into a block.

As a result, the data is identified and authenticated in near real-time, providing a

permanent and incorruptible database sufficiently robust to operate as a store of
value (for example, in the case of Bitcoin) or providing an indisputable record,
for example, relating to securities transfer.

Blockchain may be public and open (also known as “permissionless” or

“unpermissioned”) or structured within a private group (also known as
“permissioned”). Permissionless blockchains include Bitcoin and Ethereum, in
which anyone can set up a node that, once authorised, can validate, observe
and submit transactions. The identities of the participants are not known (other
than the unique and random identities known as an address). Permissioned
ledgers restrict participation in the network and only the specific participants are
given access and are known within the network. The network is private and only
organisations that have been authorised can participate and view transactions.
The technology supporting a distributed ledger could be used for recording
ownership and transfer of property, potentially replacing organisations such as a
land registry. However, adapting blockchain technology for public ledgers, such
as land registries, will require the real life identities of the individuals to be easily
accessible.

Due to the cost efficiency of blockchain, many financial institutions have been
investing in several blockchain-based services and smart settlement systems.
Accenture has estimated that the largest investment banks could save USD
10 billion annually by using blockchain technology to improve the efficiency of

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clearing and settlement.6 Major financial institutions (including JP Morgan Chase

and Citigroup) have been exploring blockchain technology for tracking derivative
trades. In 2015, New York fintech firm R3 created a consortium with a number of
financial institutions including Barclays, BBVA, Commonwealth Bank of
Australia, Credit Suisse, JP Morgan, State Street, Royal Bank of Scotland and
UBS. The consortium seeks to investigate blockchain use in securities
settlement payments.

The Financial Conduct Authority (FCA), the financial regulator in the UK, is
currently considering a number of applications from blockchain firms that could
lead the way for UK consumers using products underpinned by blockchain
technology.

2.3 What is an initial coin offering (ICO)?

ICOs are a form of digital currency or token using blockchain technology. ICOs
are often a means by which funds are raised for a new blockchain or
cryptocurrency venture (the market for ICOs was booming in early 2018). ICOs
come in a wide variety of forms and may be used for a wide range of purposes.
Some forms of ICOs may be directed at customers or suppliers as a form of
loyalty programme, or a form of access or purchasing power (preferential or
otherwise) in respect of assets of the issuer’s business. Other forms may be
more focused on raising initial funding. It is essential to examine the legal and
regulatory basis of any ICO. An unauthorised offering of securities is illegal and
may result in criminal sanctions in a number of jurisdictions. Legal analysis of
the underlying token will determine whether it should be treated as a specified
investment or as a form of regulated security, or is more appropriately a form of
asset that is not itself subject to the regulatory regime.

Typical attributes provided by tokens will include:

• access to the assets or features of a particular project;

• the ability to earn rewards for various forms of participation on the platform;
and
• prospective return on the investment.

Key aspects to consider will include the:

• availability and limitations on the total number of the tokens;

• decision-making process in relation to the rules or ability to change the rules
of the scheme;
• nature of the project to which the tokens relate;
• technical milestones applicable to the project;
• basis and security of the underlying technology;
• amount of coins or tokens that are reserved or available to the issuer and its
sponsors and the basis of existing rights;
• quality and experience of management; and
• compliance with law and all regulatory requirements.

6
https://www.accenture.com/t20170120T074124Z_w_/us-en/_acnmedia/Accenture/Conversion-
Assets/DotCom/Documents/Global/PDF/Consulting/Accenture-Banking-on-Blockchain.pdf#zoom=50, at
p 6.

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The nature of the business and the purpose and structure of the token offering
will typically be set out in a white paper available to potential purchasers.

Set out below is a list of some of the largest ICOs to date:

1) Cayman Islands-based Block.one raised USD 4 billion through an ICO

selling a proprietary token, EOS. Block.one did not have a live product at
the time it collected investments, thereby raising capital on investor
confidence alone. The investments were used to fund a decentralised
alternative to current cloud-hosting services;
2) Filecoin is a decentralised storage network that was converted to a cloud
storage company which runs on blockchain, with Filecoin tokens earned by
miners who provide storage to clients (similar to the Bitcoin miners who are
rewarded with Bitcoins for validating the blockchain). Filecoin raised USD
257 million to develop and unlock unused storage in data centres;
3) Telegram provides an encrypted messaging and blockchain ecosystem and
raised USD 1.7 billion. The company used the ICO funding to develop the
Telegram Open Network, which can be likened to the Ethereum ecosystem
with apps, services and a store for digital and physical goods;
4) Venezuela’s cryptocurrency, the Petro, was reported to have raised USD
5 billion, which is considered to be the most successful ICO of all time.

In September 2017 the UK’s FCA issued a statement warning the public that
“ICOs are very high-risk, speculative investments” and outlining the potential
risks associated with investing in unregulated parts of the financial sector. The
FCA stated that it will consider whether ICOs fall within the FCA’s regulatory
boundaries on a case by case basis. This is due to the fact that some ICO’s may
involve regulated investments and regulated firms; consequently, it may fall
within the definition of a regulated activity. The FCA gave the following warning:

“Businesses involved in an ICO should carefully consider if their

activities could mean they are arranging, dealing or advising on
regulated financial investments. Each promoter needs to consider
whether their activities amount to regulated activities under the
relevant law. In addition, digital currency exchanges that facilitate
the exchange of certain tokens should consider if they need to be
authorised by the FCA to be able to deliver their services.”7

Now that we have a better understanding of what cryptocurrencies are and the
environment in which they developed, why should we care about them? Is it just
another bubble that will grow exponentially in the short run and die a quick and
painful death? Are all of the investors in tokens just throwing their money away,
is it just another form of gambling, or are they onto something that is likely to
continue to develop and grow? Today, it is difficult to provide an answer to any
of these questions. One thing that everyone can agree on is that the crypto-
market is volatile and uncertain. However, if cryptocurrencies are able to
achieve the principles idealised by their inventors in a safe and effective way, it
could be a serious competitor to the financial status quo. Clearly
cryptocurrencies have slowly infiltrated into the financial markets in the form of
ICOs and as an alternate payment system and the insolvency and restructuring
profession should pay attention. As more consumers and corporations engage
in transactions involving cryptocurrencies, the greater the likelihood of

7
FCA - Consumer warning about the risks of Initial Coin Offerings (ICOs), published 12 Sep 2017.

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insolvencies and bankruptcies involving cryptoassets. This is particularly evident

from the insolvency cases that have arisen in jurisdictions such as Russia and
the US, which are considered in greater detail later in this paper. The pertinent
question remains: is it likely to emerge from the fringes as a serious alternate
currency or payment system? This will depend on a number of factors, both
commercial and legal. The rest of this paper will consider some of these legal
factors in greater detail.

3. Legal characterisation of cryptocurrencies

How does the law deal with cryptocurrencies and cryptoassets, what is the legal
characterisation of cryptocurrencies and why is it necessary to consider these
questions? At around the time of the finalisation of this paper, one Bitcoin was
equivalent to GBP 4,114.75. If individuals were looking to spend a substantial
price to purchase one Bitcoin, they would want to understand their legal rights
over the Bitcoin. On purchasing the Bitcoin from an exchange or another
individual, does one “own” the Bitcoin? If so, how can this ownership right be
demonstrated? Bitcoin is intangible; at its core it is merely cryptographic code
held on a digital system in a virtual account under a pseudonym, which might
not have any connection to someone’s real world identity.

Why does this matter to the insolvency and restructuring profession? It matters
because insolvency professionals are already having to address these issues
when dealing with insolvent estates that include some form of cryptoassets, and
they come in various forms. The difficulty arises where there is no clear legal
characterisation of the cryptoasset; is it a currency due to the fact that it has
been coined as one, or is it a financial instrument or a commodity? It is important
for an insolvency professional to understand how to treat a cryptoasset within an
insolvent estate, as the primary duty of an insolvency professional is to
maximise the value of the assets in that estate. In order to do this, the
insolvency professional needs to decide the characterisation of cryptocurrencies
within the context of the relevant insolvency regime and the security interests
attached to such assets. To date, there is little guidance in bankruptcy case law
as to how Bitcoin and other cryptocurrencies should be valued. This will in turn
permit creditors to call into question the actions of an insolvency professional
dealing with cryptoassets. This is more clearly demonstrated in the case study
dealing with MtGox later in this paper.

Before considering what rights reside over cryptocurrencies, the legal status of
cryptocurrency needs to be understood. In this part of the paper the categories
that cryptocurrencies can fall within, are considered.

3.1 Cryptocurrency as currency

Currency is a medium of exchange and fiat money is currency that has been
declared by a government as legal tender. In California Bankers
Association v Schultz8 the US Supreme Court set out the test to determine
currency: “currency is defined in the Secretary’s regulations as the “coin and
currency of the United States or of any other country, which circulate in and are
customarily used and accepted as money in the country in which issued.” The
European Central Bank (ECB) has defined virtual currencies as a “type of
unregulated, digital money which is issued and usually controlled by its

8
416 US 21 (1974).

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developers and used and accepted among the members of a specific virtual
community”.9 Whilst Bitcoin would not likely be considered a currency as it is not
issued or sanctioned by a government, the ruling of the European Court of
Justice (ECJ) in Skatteverket v David Hedqvist10 supported the position that
cryptocurrency may be regarded as currency. The ECJ ruled that the services of
a Bitcoin exchange were exempt from VAT on the basis of the “currency”
exemption in Article 135(1)(e) of the VAT Directive.11 The decision confirmed
that the exchange of Bitcoin for fiat currency is a supply of services equivalent to
a transaction concerning currency, bank notes and coins used as legal tender.

Legal tender is a medium of payment recognised by a legal system to be valid to

meet a financial obligation. Fiat currency is legal tender in many countries. In
order for cryptocurrencies to truly be accepted as a form of currency, they must
be accepted as legal tender within the relevant jurisdiction.

In Russia, cryptocurrencies, or in fact any type of virtual currency, do not

constitute legal tender or money. The Federal Law “On the Central Bank of
Russia” and the Russian Civil Code state that the rouble (the monetary unit of
the Russian Federation) is the only legal tender in Russia. That means there is
no obligation in Russia to accept payments made in cryptocurrencies.

As is determined in articles 10 and 11 of Council Regulation (EC) No 974/98 on

the introduction of the Euro, the Euro is the only lawful currency within the
Eurozone. This rules out the possibility of cryptocurrencies being a currency in
the legal sense. The Dutch civil code determines that an obligation to pay under
a contract can be legally fulfilled by paying with a currency that is “accepted”.
Although this seems to open the door to the ability to pay dues with
cryptocurrencies, this is not the case. “Accepted” currencies in this sense must
be seen as currencies that are tolerated by the government or that are accepted
from a societal point of view. At the moment cryptocurrencies are not generally
accepted in the Netherlands.

In the US, cryptocurrencies are not authorised or adopted by the

US government; on the face of it, cryptocurrencies do not meet the Uniform
Commercial Code definition of “money” under article 1-201(b)(24). However, in
the criminal and civil sector, courts have treated Bitcoin in a manner more
similar to currency. For example, in United States v Murgio,12 in which the
defendants were charged with operating an unlicensed Bitcoin exchange
business in violation of 18 USC § 1960, the court reasoned that when a term
goes undefined in a statute, courts should give it “its ordinary meaning.” Utilising
this line of reasoning, the court concluded that the ordinary meaning used by
numerous courts of “funds” is “available pecuniary resources” or “money, often
money for a specific purpose” and in turn, “money” is defined as “something
generally accepted as a medium of exchange, a measure of value, or a means
of payment.” In applying these definitions, the court held that Bitcoins qualify as
“funds” or “money” within the plain meaning of the term and can be accepted as
a payment for goods and services or bought directly from an exchange with a
bank account. Bitcoin clearly qualifies as “money” or “funds” under these plain
meaning definitions. The court reasoned that Bitcoins are “funds” because they

9
“Virtual Currency Schemes” by the European Central Bank (October 2012) -
https://www.ecb.europa.eu/pub/pdf/other/virtualcurrencyschemes201210en.pdf
10
C-264/14.
11
Directive 2006/112/EC.
12
No. 15-CR-769 (AJN) (SDNY April 21, 2016).

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“can be either used directly to pay for certain things or can act as a medium of
exchange and be converted into a currency which can pay for things.”

In addition, in Securities Exchange Commission v Shavers,13 the court held that

“Bitcoin is a currency or a form of money…”. Further, the court in United
States v Ulbricht14 found that “Bitcoins carry value - that is their purpose and
function - and act as a medium of exchange” and Bitcoins may be exchanged for
legal tender, be it US dollars, euros, or some other currency.

3.2 Cryptocurrency as electronic money (E-money)

Could cryptocurrencies fall within the remit of E-money? In Europe, E-money is

defined by the ECB as “an electronic store of monetary value on a technical
device that may be widely used for making payments to entities other than the
E-money issuer. The device acts as a prepaid bearer instrument which does not
necessarily involve bank accounts in transactions.”15 The meaning of E-money
can differ between jurisdictions. In Russia, the Federal Law “On the National
Payment System” recognises the notion of E-money, which is defined as
“monetary funds which are advanced by one person (provider of funds) to
another person that records the information on the amount of advanced funds
without opening a bank account for the purpose of discharging payment
obligations of the provider of funds to third parties and in respect of which the
provider of funds is entitled to give instructions only with the use of electronic
means of payments.” However, it is likely that cryptocurrencies in most cases
will not fall within the framework of E-money as it is decentralised, based on
blockchain technology and, as a general rule, the payment is made in other
cryptocurrencies.

Similarly, in Europe, cryptocurrency cannot be classified as E-money under the

Electronic Money Directive.16 The Electronic Money Directive uses three criteria
to define E-money: it should be stored electronically, issued on receipt of funds
of an amount not less in value than the monetary value issued and accepted as
a means of payment by undertakings other than the issuer. A cryptocurrency
such as Bitcoin probably complies with the first and the third criteria, but not with
the second. Since it cannot be defined as E-money, the Electronic Money
Directive would not be applicable. Interestingly, on 14 March 2018 the digital
currency exchange, Coinbase, received an Electronic-Money authorisation from
the FCA. Coinbase is a San Francisco-based digital currency exchange that
offers users the ability to trade Bitcoin, Bitcoin Cash, Ethereum and Litecoin.
The authorisation of Coinbase by the FCA is highly significant as it makes
Coinbase the first cryptocurrency exchange to be authorised as an E-Money
Institution. It marks a significant development in the interaction between the
cryptocurrency sector and traditional financial regulation.

3.3 Cryptocurrency as a financial instrument

There are some jurisdictions that claim that cryptocurrencies do not appear to be
financial instruments. For example, pursuant to Swedish legislation, a financial
instrument must be considered a transferable security. Under Swedish law,
cryptoassets are not considered a transferable security and are therefore

13
4:13-CV-416, United States District Court, Eastern District of Texas, Sherman Division (6 August 2013).
14
No. 15-1815, US Court of Appeals for the Second Circuit (31 May 2017).
15
https://www.ecb.europa.eu/stats/money_credit_banking/electronic_money/html/index.en.html.
16
2009/110/EC.

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unlikely to be a financial instrument. Therefore, it is unlikely that Bitcoin and

other cryptocurrencies will be classified as securities (that is, as a derivative,
shares or bonds). On the other hand, in a recent case Banca Dati S.r.l. - Univest
the Court of Verona considered the offer of cryptocurrency as a financial
services transaction.17

A recent EU legislative discussion has considered including cryptocurrency

within the list of financial instruments under existing financial regulation. This
was first considered by the European Parliament and secondly in the context of
making an amendment to the Markets in Financial Instruments Directive18
(MiFID II) to extend the list of financial instruments in MiFID II. The reasoning
behind this is that investors treat cryptocurrency as a substitute for financial
instruments. The definition would reflect the terms defined in the anti-money
laundering (AML) regulation which contains a broad scope covering all and any
cryptoasset. Classifying a wide range of cryptoassets within the financial
instrument definition, means that a lot of the activities currently undertaken by
those trading in cryptoassets could become a regulated activity (that is, mining,
arranging ICOs and advising on transactions related to cryptocurrency
transactions).

According to the European Securities and Markets Authority (ESMA), the aim is
to classify certain cryptocurrencies as financial instruments, in particular those
assets that are created in the course of an ICO seeking to raise funding. A
recent report by the Commission of the European Banking Authority stated:

“[t]ypically crypto-assets fall outside the scope of EU financial

services regulation. Moreover, divergent approaches to the
regulation of these activities are emerging across the EU. These
factors give rise to potential issues, including regarding consumer
protection, operational resilience, and the level playing field.”19

3.4 Cryptocurrency as money

The legal characterisation of cryptocurrencies is a fairly new concept and it may

therefore be necessary to consider whether cryptocurrencies satisfy the
economic functions of money. Adam Smith defined money by the roles it plays
in society, in particular how it serves as a store of value with which to transfer
purchasing power from today to some future time; a medium of exchange with
which to make payments for goods and services and a unit of account with
which to measure the value of a particular good, service or loan.20 Money as a
token of value and exchange has been regarded as property under English
law.21 There is no clear consensus as to whether Bitcoin fulfils the economic
functions of money.

Mark Carney, the Governor of the Bank of England, is of the opinion that
cryptocurrencies perform poorly under the three criteria. He is of the opinion that
cryptocurrencies do not function well as a store of value. Even the more stable
cryptocurrencies, such as Bitcoin, experience very high volatility in price which,

17
Judgment n 195/17, Court of Verona.
18
2004/39/EC.
19
Report with advice for the European Commission on crypto-assets, dated 9 Jan 2019.
20
Adam Smith, The Wealth of Nations (W Strahan and T Cadell, London, 1776).
21
David Fox, Property Rights in Money (Oxford University Press, 2008).

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according to him, disqualify them as a store of value. Furthermore, the volatility

is an effect of a lack of intrinsic value and external backing.

As a means of payment, cryptocurrencies do not currently offer a great deal.

Even Bitcoin can only be used to pay in a very small proportion of businesses.
The speed and the cost of transacting in Bitcoin compete very unfavourably with
the established payment methods. There is very little evidence of
cryptocurrencies being used as a unit of account. Even the businesses that
accept cryptocurrencies as payment frequently update the price to reflect a
constant fiat value of goods or services. The Bank of England is also “not aware
of any business that accepts Bitcoins in payments that also maintains its
accounts in Bitcoin”. As a result, Mark Carney stated that “cryptocurrencies act
as money, at best, only for some people and to a limited extent, and even then
only in parallel with the traditional currencies of the users”.22 The Bank of
England further remarked that “how far an asset serves these roles can differ,
both from person to person and over time. And meeting these economic
definitions does not necessarily imply that an asset will be regarded as money
for legal or regulatory purposes.”23

The Bank of England reviewed the nature of fraud risk and unreliability of
cryptocurrencies. It was noted that in a decentralised system, there is no
requirement for users to share personal information, thus removing the risk of
data breaches. However, it was acknowledged that the risk of direct loss of
digital currencies is higher than that for deposits held (electronically). For
example, a lost password to an online bank account is recoverable or can be
reset by the bank. On the other hand, if the private key granting access to the
cryptocurrency wallet is lost then it would be unrecoverable as there is no
central server to provide a reset. However, in these terms, it was apparent that
“a digital wallet is more analogous to a physical wallet containing physical
currency”.24 Therefore, a robust cryptocurrency scheme would not be less
reliable as a store of value than “real world” currencies in their physical form.

The Swedish National Bank has stated that cryptocurrency is under no

circumstances to be seen as cash, but has not provided any further definition.
The main reasons that it should not be seen as cash are that cryptocurrencies
lack official publishers and do not have the potential to form well-functioning
means of payment. Cryptocurrencies are only a mode of handling payments
between those within the network, excluding the possibility for it to be a financial
instrument or regular cash / currency. It is also difficult to obtain a stable value of
the asset and there is no underlying asset of intrinsic value.

There is a clear debate as to whether cryptocurrencies fulfil the functions of

money. However, as highlighted by the Bank of England, compliance with the
economic theory of money would not definitively conclude that cryptocurrencies
will be regarded as money for legal and regulatory purposes.

22
“The Future of Money”; speech given by Mark Carney, Governor of the Bank of England on
2 March 2018.
23
Bank of England 2014 Quarterly Bulletin Q3. published on 16 Sep 2014.
24
Ibid.

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3.5 Cryptocurrency as a commodity

On the other hand, it has been argued that cryptocurrency is a commodity. A

commodity is a good that is used in commerce that is interchangeable with other
goods. On 6 March 2018, Judge Weinstein of the US District Court for the
Eastern District of New York ruled that virtual currencies are commodities
subject to US Commodity Futures Trading Commission (CFTC) regulation. The
ruling was issued in response to a pro se motion to dismiss in CFTC v
McDonnell25 and is the first judicial endorsement of the CFTC’s long-held
position that the Commodities Exchange Act (CEA) authorises it to regulate
virtual currencies. The CFTC asserted that the CEA’s “definition of commodity is
expansive in scope” and extends to “intangible commodities” ranging from
“renewable energy credits and emissions allowances” to virtual currencies. As
explained by the CFTC, “virtual currencies . . . fall within the [CEA’s] category of
all other goods and articles” and “the rights and interests that inhere to each unit
of virtual currency constitute rights [or] interests . . . in which contracts for future
delivery are presently . . . dealt in.” In his 6 March 2018 order, Judge Weinstein
explained, “[v]irtual currencies can be regulated by CFTC as a commodity”
because they “are goods exchanged in a market for a uniform quality and value”
and “fall within the CEA’s definition of commodities as all other goods and
articles . . . in which contracts for future delivery are presently or in the future
dealt in.”26

Bitcoin has some similarities to gold:

1. Bitcoin and gold are not overseen by a government;

2. there is a finite supply of Bitcoin (the total number of Bitcoins that can be
mined is 21 million) and it is estimated that there are only 171,000 metric
tons of gold in the world;
3. Bitcoin is theoretically free of political interference in the same way as gold
(supply of currency can be increased by government monetary policy); and
4. the value of gold fluctuates in correlation to demand and it is evident that
the price of Bitcoin is connected to the demand in the market.

Evidently, there are inherent flaws in this comparison whereby there is an

intrinsic value in gold whereas the same cannot be said about Bitcoin.

From a legal perspective, pursuant to US case law, Bitcoin can fall within the
definition of a commodity pursuant to US law under “useful articles of
commerce”, as Bitcoin may be traded online for goods and services or even
exchanged for fiat currency. Bitcoin is capable of possession as the holder of the
private key has control over the transfer of the Bitcoin-holding in the digital
wallet. Furthermore, control of this nature over the Bitcoin-holdings could be
interpreted as constructive possession where the holders of the Bitcoin have the
ability to guide the destiny of the Bitcoin.27 If cryptocurrencies were classified as
a commodity, then the Bankruptcy Code would not automatically afford the
same protections. To qualify for protections as a commodity, any agreement
related to the transfer of Bitcoins would have to constitute a “forward contract”

25
Commodity Futures Trading Comm’n v. McDonnell, No. 1:18-cv-00361-JBW-RLM, slip op. (EDNY Mar
6, 2018).
26
https://www.dlapiper.com/en/us/insights/publications/2018/05/how-one-new-york-court-is-shaping-the-
future-of-cryptocurrency-regulation/.
27
Tara Mandjee, “Bitcoin, its Legal Classification and its Regulatory Framework”, 15 J Bus & Sec L 157
(2016).

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as defined in the Bankruptcy Code, providing for the commodity’s delivery days
in advance of the contract’s maturity date. Forward contracts provide numerous
protections, including immunity from the automatic stay, prohibition against
bankruptcy defaults and the ability to continue “business as usual”.

3.6 Tax treatment of cryptocurrencies

3.6.1 Italy

In Italy, under Article 1 of Legislative Decree No 90/2017, cryptocurrencies are

defined as “digital exchange methods representing value, which are not issued
by any Central Bank or public Authority and which are not related to any
currency”. Pursuant to Resolution No 72/2016, the Italian Tax Authority (Agenzia
delle Entrate) equated cryptocurrencies to foreign currencies. Certain Italian
scholars deem that encompassing the cryptocurrencies within the foreign
currencies scope might be erroneous. The volatility of the cryptocurrency
market, for instance, is not comparable with the volatility of material currencies.
Note that the resolutions of the Italian Tax Authority do not have the value and
authority of the law but only express guidelines for the interpretation of the
relevant specific cases and circumstances.

3.6.2 Denmark

According to the Danish tax authorities, the Bitcoin system is “nothing more than
a payment system facilitating payment of digital currency not regulated by a
central bank and where the rate is set on the basis of supply and demand of
Bitcoin.”28 The Danish tax authorities classified the digital currency Bookcoin as
being a structured claim, that is, a claim regarding a semi-generic purchase of
the underlying asset at a future point in time.29 The digital currency in question
was very closely tied to the price of silver and the issuer of Bookcoin backed the
coin with actual silver bars. Owners of Bookcoins could exchange the digital
currency for silver at a fixed exchange rate of one Bookcoin to one gram of
silver. Due to these ties to an actual commodity’s price, Bookcoin is now subject
to a different taxation regulation than Bitcoin.

Under Danish law a business must present its annual report in either Danish
kroner (DKK) or in another foreign currency. Seeing as Bitcoin is not regulated
by a foreign central bank, it does not meet this “foreign currency” requirement.
Likewise, considering that invoices are required to be issued in DKK or in
another foreign currency due to the requirement to explicitly list the VAT amount
on each invoice, Danish businesses are not permitted to issue invoices solely in
digital currencies. The Danish tax authorities have taken the stance that any
purchase or sale of Bitcoin will be an act of speculation and, therefore, taxable,
irrespective of whether the purchase was made many years before digital
currencies came to the public’s attention.

3.6.3 Sweden

Cryptocurrencies are not acknowledged as a currency under Swedish tax

legislation. Instead, transactions involving cryptocurrencies are seen as
individual transactions involving assets. In each case, the acquisition price of the

28
Taxation and Duties Gazette, 2014.466
29
Taxation and Duties Gazette, 2017.592

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specific asset / cryptocurrency (for example, Bitcoin) should be calculated. The

asset is taxed upon divestment on the difference between the acquisition price
and the remuneration. For example:

a) if someone bought their cryptocurrency, the acquisition price is the amount

they paid for the cryptocurrency converted to Swedish krona;
b) if someone mined their own cryptocurrency, the acquisition price is the
market value converted to Swedish krona upon the allocation of
cryptocurrency in the mining process;
c) if someone has received cryptocurrency as a means of payment in an
individual business transaction, the acquisition price is the value they report
as revenue, including VAT; and
d) if someone has received cryptocurrency as salary, the acquisition price is
the value that they report as income from employment.

Mining of cryptocurrency is not subject to VAT and transactions involving

exchange of fiat currency against cryptocurrency are also exempt from VAT.
The Swedish Tax Agency has issued specific accounting guidelines for when a
company receives cryptocurrencies as means of payment in its business and
stipulates that the subsequent change in value should be taxed as income of
capital. Bitcoin has been used to make online purchases and the Swedish Tax
Agency has defined Bitcoins as other assets that are subject to capital gains on
disposal.

3.6.4 The Netherlands

If a person conducts business activities and the profits (or losses) related to the
cryptocurrencies are attributable to the business activities, this profit or loss falls
within the scope of the taxable profits from business activities. In the case of
cryptocurrency mining, depending on the size of the mining operation, it may be
considered to constitute business activities (by virtue of the mining activities
qualifying as a material business enterprise). In that case, any profits attributable
to these activities would constitute taxable profits from business activities. If a
person is employed and receives his or her wages in cryptocurrencies, the value
of the cryptocurrency at the moment the employee receives the wage
constitutes the amount of employment income enjoyed by an employee. If a
person performs work (that does not qualify as a business activity or
employment income), income from cryptocurrencies may constitute results from
other activities if the work performed could be considered to be more substantial
than the active (normal) management of funds (as may be the case for individual
portfolio investors). The taxable base attributable to cryptocurrencies would be
their market value (as it may be derived from cryptocurrency exchanges) at the
reference date, being 1 January of each calendar year.

3.6.5 England and Wales

In England and Wales all forms of assets, including incorporeal property

generally and any currency other than sterling, are considered an asset under
tax legislation.30 Accordingly, in order for cryptocurrencies to be an asset for tax
purposes it will need to have the following characteristics:

30
Taxation of Chargeable Gains Act 1992, s 21(1).

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• it must be something that is capable of being owned; and

• its value must be capable of being realised.31

The UK tax authorities recognise cryptocurrencies as an asset falling within this

definition. Cryptocurrency is not a recognised sovereign currency; therefore, any
transactions that use cryptocurrencies as consideration (given or received) will
be regarded as “barter transactions”. The UK tax manual defines a barter
transaction as “a transaction in which an asset is disposed of for some
consideration which is not sterling cash, but which takes the form of some other
asset.”32 This means that where the transaction is at arm’s length, the
cryptocurrency consideration is measured as the sterling worth at the date of the
acquisition or disposal of what is given or received. This is the case where the
other asset is a foreign currency. The UK tax authorities will treat each
cryptocurrency according to the pre-defined agreed rules and so each case will
be dealt with on its individual facts.

On 3 March 2014, the UK tax authorities considered the position of the tax
treatment of income received from and charges made in connection with
activities involving Bitcoin and other similar cryptocurrencies. A summary of the
VAT position is set out in the table below:33

Type of income Is VAT payable?

Bitcoin mining activities Outside scope and does not
constitute an economic activity
Received by miners for activities (that Exempt34
is, services with verification of
transactions)
Bitcoin is exchanged for Sterling or No VAT due on value of Bitcoins
for foreign currencies
Arranging or carrying out a Exempt35
transaction in Bitcoin
Payments in cryptocurrency for Yes - sterling value of the
supply of goods and services cryptocurrency at point of transaction

This Revenue and Customs brief only outlined the provisional position of the UK
tax authorities pending further developments and confirmed that taxpayers could
rely on the treatment outlined unless the UK tax authorities announce any
changes. Any changes would not apply retrospectively.

3.7 Miscellaneous

The final category to consider is particularly varied. Considering the diverse

features of cryptocurrency, it may be possible to align it to a range of
characterisations.

31
“Chargeable assets: intangible assets: rights”, HMRC Internal Manual CG12010.
32
“Foreign currency: assets acquired or sold for currency”, HMRC Internal Manual CG78310.
33
Revenue and Customs Brief 9 (2014): Bitcoin and other cryptocurrencies on 3 March 2014 (Policy
Paper).
34
EU VAT Directive, art 135(1)(d).
35
Ibid.

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3.7.1 Surrogates

The Central Bank of the Russian Federation (CBR) compared cryptocurrencies

to monetary surrogates, which indicated the risk of prospective prohibition and
penalties for issuers and owners. However, these concerns were alleviated by
the Federal Tax Service in 2016 which emphasised that the current legislation
does not provide definitions or rules for monetary surrogates, cryptocurrencies
or tokens and does not therefore restrict the circulation of the respective
instruments. In its latest circular of 2017 the CBR, still sceptical about
cryptocurrencies and ICOs, questioned the practicability of their admission to the
public trading infrastructure, but no longer called for a general ban. Any
definitive answer in regard to the position of tokens in Russia would require the
adoption of special legislation, preparation of which is currently on hold due to
the legislator’s intention to look at the further development of the market and
regulation in other jurisdictions before taking any regulatory steps.

3.7.2 Claim

In Sweden, it has been argued that cryptocurrency could be classified as a

claim.36 In order for a claim to arise there must be an established creditor and
debtor relationship. The fact that a claim can be seen as a means of payment is
quite obvious and the value of the claim is based on a combination of the size of
the claim and the risk that the receiver of the claim takes, which depends on the
debtor. It may not be very well known that money was legally defined as a claim
for quite some time. Historically, currencies based on a natural asset such as
gold has been seen as a claim against the state. The Swedish National Bank
has historically taken a debtor position and had to make sure there was a gold
reserve that guaranteed the holders of the currency (Swedish krona) that their
claim corresponded to a certain amount of gold which guaranteed the value of
the currency. There have been discussions as to whether cryptoassets could be
seen as a claim in a similar way. However, it is likely that the idea is too far-
fetched since there is no one to take the debtor position nor is there any
underlying instrument to ensure the value of the claim.

3.7.3 Tangible asset

It would seem that cryptocurrencies cannot qualify as tangible assets since they
are in essence not tangible, which is, rather unsurprisingly, one of the
prerequisites for something to be a tangible asset. There are, however, cases of
criminal law in the Netherlands where the court decided that information could
qualify as a tangible asset and that it can therefore be stolen.37 Unfortunately,
this only applies to criminal law and thus does not apply to civil law cases. In the
Netherlands, there are some that claim that cryptocurrencies do not fall within
any of the given categories. Cryptocurrencies would then be treated in the same
way as goodwill. While it is apparent that a cryptocurrency can be of value, they
do not fall within the scope of Dutch civil law. As such, they cannot be
transferred in a legal sense, nor is it possible to secure repossession through a
legal action (for example, by using the rei vindicatio). Therefore, it appears that a
clear legal characterisation of cryptocurrencies in the Netherlands does not yet
exist.

36
Crypto currencies: a special legal effect on holdings of Bitcoins and other similar means of payments,
Emil Elgebrant, 2016
37
The “Runescape-arrest”, ECLI:NL:HR:2012:BQ9251.

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3.8 Is there a legal characterisation of cryptocurrencies?

It is evident that cryptocurrencies could fall within a range of categories due to

their unique features. Without legislative interference, it is unlikely that this
uncertainty will be clarified. It is essential that any guidance from the legislators
and regulators shows that assets derived from cryptocurrency are not all alike,
even tokens (such as Ethereum) encompass different features when compared
to Bitcoin. It is therefore unlikely that an unsophisticated legislative regime would
suffice. Jackson Palmer, an Australian entrepreneur, launched a token named
Dogecoin in late 2013 as a parody of the numerous cryptocurrencies flooding
the market at the time. However, Dogecoin soon became an educational starting
point for new investors in cryptocurrency (due to its low price) and it grew
through social media to value at USD 2 billion market capitalisation in 2018.
Dogecoin is a good example of how easy it is for anyone to enter the
cryptocurrency market where there is no regulatory or legislative guidance in
place. In the absence of an appropriate legal characterisation, we tend to
primarily rely on the name of something when characterising something as a
cryptocurrency or cryptoasset. An asset named or referred to as a
cryptocurrency or cryptoasset should not by default mean it is a cryptocurrency.
However, with no legislative guidance on the legal status of cryptocurrency we
dangerously tend to rely on something being named or called a cryptocurrency
or token. Until clear legislative guidance has been provided, insolvency
practitioners will need to keep themselves informed of reliable sources in order
to ensure that they are fulfilling their duties and to avoid their actions being
called into question.

3.9 What proprietary rights exist over cryptocurrencies?

3.9.1 Introduction

This part of the paper considers the crucial question of what ownership rights
exist over an intangible asset that is yet to be legally categorised. As explained
in paragraph 2.1 of this paper, cryptocurrency at its core is cryptographic code.
The relevant underlying asset appears to be knowledge of the private access
key which bestows the holder with control over the cryptocurrency in the wallet
(including transfers). Cryptocurrencies do not have a physical existence in the
same way as fiat currencies; therefore, how can proprietary rights exist over
cryptoassets? What follows is an analysis of the proprietary rights that might
exist over cryptocurrencies in the jurisdictions mentioned below.

3.9.2 Russia

The Russian doctrine presents a wide range of opinions on the definition of the
legal nature of cryptocurrency. In particular, some authors support the
illegitimacy of cryptocurrency as a whole with the imposition of punishment
(administrative or criminal) for the use or release of cryptocurrency. However,
most researchers consider it appropriate to introduce a special term in
legislation which would serve as a reference point for the subsequent
development of the corresponding legal regime of cryptocurrencies. In Russia,
the discussion focuses on determining the place of cryptocurrency in the system
of objects of civil rights and attempts to define it. There are generally quite a few
systematised and generalised works on cryptocurrency and other
crypto-technologies.

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At present, the concept of tokens or cryptocurrencies is not recognised in

Russian legislation; likewise, the question of proprietary rights attached to
cryptocurrencies has not yet been resolved. However, it is indicated in Article 2
of the draft law “On Digital Financial Assets” that a digital financial asset (the
term that was provided for use when referring to cryptocurrency and other
tokens) is electronic property created using encryption (cryptography).
Ownership of this property is verified by making digital entries in the register of
digital transactions. Thus, the draft law proposes to extend the proprietary
regime to cover cryptocurrency.

Furthermore, a recent case heard in the Commercial Court of Moscow38 noted

that the objects of property rights are not exhaustively listed in Russian Law, in
particular the reference to “other assets” under Article 128 of the Russian Card
Code which is open to interpretation. The court emphasised that considering the
current economic realities the “broadest interpretation [of other assets] is
justified”. It was further noted by the court that any property of the debtor having
economic value, including cryptocurrency, shall not be arbitrarily excluded from
the insolvency estate.

3.9.3 Sweden

Swedish academics agree that cryptocurrencies are to be defined as non-

physical property; however, it has not been further defined under Swedish law.39
Since it is difficult to determine what sort of property cryptocurrency constitutes,
it is difficult to determine whether there are any proprietary rights attached to it.
There are those who argue that there are proprietary rights attached to
cryptoassets in general, but it has not been defined in what way or tested in
court yet.40

3.9.4 The Netherlands

Academics in the Netherlands favour the idea of proprietary rights existing over
cryptoassets.41 Although most seem to agree that cryptocurrencies fulfil most of
the criteria of a proprietary right, they also note that it is problematic to qualify a
cryptocurrency as a “right”. After all, a right under Dutch law implies
consideration has been provided. When one lends money to someone, the claim
he has pursuant to the loan qualifies as a proprietary right since it gives the
claimant the right to consideration, namely repayment under the conditions of
the loan. The ownership of a cryptocurrency does not give a right to such
consideration as there is no clear counterparty due to the inherent decentralised
nature of cryptocurrencies.

A recent case heard by the Dutch courts on 17 January 2018, considered

whether the obligation to transfer Bitcoins was verifiable for the purpose of
opening insolvency proceedings. The court affirmed that it was, on the basis that
“Bitcoin represents a value and is transferable. […] it thus shows characteristics

38
Tsarkov (case number: A40-124668/2017 dated 5 March 2015).
39
Emil Elgebrant, Kryptovalutor: särskild rättsverkan vid innehav av bitcoins och andra liknande
betalningsmedel (Eng: “Crypto currencies: special legal effect on the holding of Bitcoins and other
similar means of payments”), Wolters Kluwer, 2016.
40
Ibid; Gabriel Söderberg, “Are Bitcoin and other crypto-assets money?”, article published by Sveriges
Riksbank in Economic Commentaries (No 5, 2018) – see:
https://www.riksbank.se/globalassets/media/rapporter/ekonomiska-kommentarer/engelska/2018/are-
bitcoin-and-other-crypto-assets-money.pdf.
41
Valérie Tweehuysen, “Goederenrechtelijk pusselen met bitcoins”, Ars Aequi AA20180602.

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of a property right. A claim for payment in Bitcoin is therefore to be regarded as

a claim that qualifies for verification.”42 The court considered the obligation to
transfer the Bitcoin as legally valid and capable of commencing insolvency
proceedings if it was not transferred. However, the Dutch courts did not fully
characterise the legal nature of Bitcoin in its judgment.

3.9.5 Denmark

Under Danish law, similar intangible assets such as shares or intellectual

property rights are afforded certain proprietary rights, for example voting rights in
the case of shares. Cryptoassets are, however, not covered by any legislation
affording such statutory proprietary rights. Therefore, cryptoassets only carry the
inherently technical based proprietary rights that the blockchain itself affords it,
that being digital proof of ownership and the right to sell the asset.

3.9.6 England and Wales

Property under English common law “must be definable, identifiable by third

parties, capable in its nature of assumption by third parties and have some
degree of permanence or stability.”43 Furthermore, under English law property is
categorised as real or personal property. Real property is any interest in land,
real estate, growing plants or the improvements on the property. Personal
property is everything else that is the subject of ownership that does not come
under the definition of real property. This can be divided into tangible personal
property (which includes animals, merchandise, etcetera) and intangible
personal property (which includes rights over stocks, bonds, patents and
copyrights). Intangible personal property can be a chose in action or another
form of intangible. Sovereign currency can be categorised as tangible property
as it can be in the physical form of coins and notes which can be possessed by
a user; therefore, these are choses in possession. On the other hand, a chose in
action can exist over a bank account containing a deposit of fiat currency that
does not entail physical possession of the money but can be claimed through
legal action.

Evidently, English law does not clearly set out the proprietary rights that may
exist over a cryptoasset. It is unlikely that legislators contemplated the concept
of a cryptoasset at the time such legislation was determined. Therefore, in the
absence of new legislation that clearly tackles the issues of proprietary rights
over cryptoassets, common law precedents will need to be considered in order
to answer these questions.

For instance, it could be argued that cryptocurrencies may be classified as

intangible property and categorised in the same class as that of a chose in
action. A chose in action is “a thing recoverable by action, as contrasted with a
chose in possession, which is a thing of which a person may have physical
possession. The meaning ... has expanded over time, and is now used to
describe all personal rights of property which can only be claimed or enforced by
action, and not by taking physical possession.”44 However, there are some
characteristics of cryptocurrencies that overlap with the rights under a chose in
possession. Certain cryptocurrencies can be transferred from one wallet to
another, stored in a wallet and lost when the private access key to the wallet is
42
Koinz Trading BV, 20 March 2018 (case ECLI:NL:RBAMS:2018:869).
43
National Provincial Bank v Ainsworth [1965] 1 AC 1175 at 1247–8, by Lord Wilberforce.
44
Halsbury’s Laws of England (5th ed) Vol 13 para 1.

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lost. Therefore, it could be argued that some forms of cryptocurrencies could be

possessed in the same way as physical coins and notes in an actual wallet.

Under English law, a record of the private key could be capable of being
property. On the other hand, the private key itself would only be considered as
confidential information which can be protected by enforcing a duty of
confidence, or awarding damages for breach of confidence. However, the
information itself cannot be regarded as a form of property45 except in reference
to patents and trademarks (unless extended by legislation). Therefore, it would
appear useful to review the proprietary interests over certain assets such as
intellectual property and bearer shares, which appear to have features similar to
those of cryptocurrencies.

It is accepted that proprietary rights exist over intellectual property even though
intellectual property refers to creations of the mind such as goodwill, brand
recognition, patents and trademarks – all of which are intangible. Intellectual
property is divided into industrial property (which includes patents for inventions
and trademarks) and copyright (which covers literary works, films and artistic
works). Intellectual property rights allow the creator to protect their work and
benefit from the creation and can be protected in England to prevent theft and
plagiarism. In England, copyright and design rights exist automatically by law
whereas an application will need to be made in relation to protection by trade
mark, patents and registered designs. Since intellectual property rights are
territorial, they give the owner exclusive rights only within the territory in which
the application is granted. The UK Intellectual Property Office (IPO) is the official
government body responsible for intellectual property rights in the UK and
maintains a record of intellectual property rights. Evidently, an intangible asset
such as intellectual property has been brought within the remit of property
through legislative intervention and can be identified easily on the IPO register.
Certain parallels can be drawn between intellectual property and
cryptocurrencies where both are intangible assets of value to the holder.
Evidently, cryptocurrency transactions are publicly reviewable through the
blockchain; however, the issue relates to the anonymity of the wallet holders
which means that a cryptocurrency register in the same form as the IPO register
would be impractical. It is clear that legislative guidance clarifying the position as
to whether there are proprietary rights over cryptocurrencies is necessary in
order to provide greater certainty.

Bearer shares are equity securities wholly owned by whoever holds the physical
stock certificate, as the issuing company does not register the owner of the
stock or track transfers of ownership. Bearer shares clearly differ from registered
issued shares which are required to be certificated and documented on an
internal stock register and, in jurisdictions such as England, disclosed publicly.
Similar to cryptoassets, the evident benefit of bearer shares is anonymity in
ownership. Many jurisdictions have enacted legislation that restricts the use of
bearer shares in order to deter illicit nefarious corporate activities.
Cryptocurrencies appear to have similar characteristics to a bearer instrument,
whereby control over the object could entitle the holder the rights of ownership
or title to the underlying property. As with bearer shares, cryptoassets can be
lost or stolen. Losing a cryptoasset could be as simple as misplacing or
forgetting the private key which provides access to the digital wallet. This has
been illustrated to devastating effect by the Quadriga cryptocurrency exchange

45
OBG v Allan (2008) 1 AC 1.

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which filed for protection from creditors in January after the CEO died suddenly
without disclosing the private key to a number of crypto wallets. Consequently,
the cryptocurrency held in the wallets, valued at approximately USD 135 million,
was inaccessible. In this sense, cryptoassets could be categorised as a bearer
asset and proprietary rights considered to be held by those who have the private
key.

The issues relating to cryptocurrency have been dealt with by the Court of
England and Wales in a criminal case at the Kingston Crown Court,46 involving
the Proceeds of Crime Act 2002 (POCA). In this case, the police had discovered
the private access key of a digital wallet held by the defendant who was
subsequently convicted of drug and money-laundering offences. The digital
wallet contained 295 Bitcoins worth GBP 975,000. The police applied to the
Court for a restraint order over the defendant’s assets, including permission to
convert the cryptocurrency held by the defendant into sterling. The Court was
satisfied to make the order. In order to make such an order, the Court had to be
satisfied that seizure (undefined in the POCA) could apply to cryptocurrencies in
the same way as seizing a car or valuable items (cash is subject to a separate
seizure regime which the police did not utilise). The definition of realisable
property under the POCA includes incorporeal property. If we consider the
definition of “seize” in the New Oxford Dictionary, it is to “take possession of
(contraband, assets, documents, etc) by warrant or legal right”. Therefore, in this
case the Court determined that cryptocurrency was realisable property under
POCA and could be seized by the police.47

It is important to note that recent judicial decisions in England have tended to

support the categorisation of a proprietary right wherever they have acquired
economic value and shown themselves susceptible to transfer and trade. The
hypothesis, therefore, is that units of cryptocurrency convincingly shown to have
economic value and transferability among market participants and robustly
engineered enough to trade freely, are likely to be categorised as a type of
property in common law.48 The nature of this proprietary right in England is yet
to be clarified.

3.9.7 China

The Shenzhen Court of International Arbitration recently published a case

analysis49 which dealt with the issue of proprietary rights over cryptoassets. The
cryptocurrencies in dispute were valued at around USD 493,158. The claimant
had entered into a contract with the defendant, who permitted the latter to trade
and manage the cryptoassets on the claimant’s behalf and to return the assets
on a specified date. The defendant failed to return the assets on the agreed date
and the claimant sought the return of the assets with accrued interest. Chinese
law does not explicitly govern cryptocurrencies and the arbitrator’s analysis of
the proprietary rights over the cryptoassets provided an insight into the
application of Chinese law in these circumstances. The defendant argued that
the ban on cryptocurrencies and ICOs in China resulted in the invalidation of the
contract. However, the arbitrator determined that the claim relied on the
contractual obligations of returning the cryptoassets, which does not fall within

46
R v Teresko (Sergejs) – unreported, 11 October 2017.
47
Interestingly, the way in which the police seized and confiscated the cryptocurrency was by transferring
the Bitcoin from the digital wallet held by the defendant into a digital wallet held by the police.
48
Joanna Perkins and Jennifer Enwezor, “The Legal Aspects of Virtual Currencies”, [2016] 10 JIBFL 569.
49
Shen Guozhong Case Selection https://mp.weixin.qq.com/s/U_qDgQN9hceLBbpQ13eEdQ.

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the cryptocurrency ban. It was further noted that there is no prohibition on the
possession of Bitcoins and transactions between individuals. It was concluded
that the uncertainty as to the status of Bitcoin as legal tender does not impact
the fact that ownership rights over Bitcoin should be protected under the law of
contract in China. The Court further noted that “Bitcoin has the nature of a
property, which can be owned and controlled by parties, and is able to provide
economic values and benefits.” Although the Court did not consider the legal
status of cryptocurrencies in this case, it is clear from this decision that
proprietary rights over cryptocurrencies will be protected in China.

3.9.8 United States

The growth of cryptocurrencies will impact the determination of issues

concerning whether cryptocurrencies of a debtor constitute property of such
debtor’s estate. The commencement of a bankruptcy proceeding “creates [the
bankruptcy] estate.”50 Section 541(a) of the Bankruptcy Code provides that
property of the estate includes “all legal or equitable interests of the debtor in
property as of the commencement of the case, wherever located and by
whomever held.” Property interests under the Bankruptcy Code are thus defined
broadly. Therefore, subject to certain exceptions, cryptocurrencies are
considered property of a debtor’s estate if owned on the petition date or date of
the filing of the bankruptcy case.

The US Bankruptcy Court for the Northern District of California considered

whether there are proprietary rights over cryptocurrencies in Re Hashfast
Technologies LLC.51 This case involved an attempt by a bankruptcy trustee to
set aside a transfer of 3,000 Bitcoins, equating to USD 360,000 at the time of
the transaction, which had by then appreciated to a value of USD 1.2 million.
The trustee argued that the Bitcoins were property that could be recovered by
the estate at present day value (the higher rate), while the defendant transferee
argued that the Bitcoins were the equivalent of US dollars and thus retained the
transfer date value. In accordance with the US Bankruptcy Code, the judge ruled
“it is sufficient to determine that, despite the defendant’s arguments to the
contrary, Bitcoins are not United States dollars.” Judge Montali further ruled that
the Bitcoin should be categorised as “intangible personal property”, which is
defined in the Bankruptcy Code as something of value that cannot be touched or
held (that is, trademark or copyright). However, the judge emphasised that this
categorisation should be limited to actions for fraudulent transfers under section
550 of the Bankruptcy Code. The case at hand dealt with a motion to dismiss
and did not rule on the application made by the trustee to set aside the Bitcoin
transfer.

3.9.9 Conclusion

Clearly then, cryptocurrencies are too complex for a simple categorisation and
there are several arguments as to the type of proprietary right that could exist
over a cryptoasset. On review of the various jurisdictions, there does not appear
to be a definitive position. Thus, some level of statutory interference will be
necessary to bring cryptocurrencies within the parameters of the existing legal
framework.

50
US Bankruptcy Code, s 541(a).
51
Bankruptcy case no 14-30725DM, 19 Feb 2016.

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3.10 Characteristics of security in the context of cryptocurrencies

Ideally, security should have the following characteristics:

1) it should be enforceable by a secured creditor with limited recourse to the

courts;
2) the claim should be enforceable in priority to other unsecured claims against
a secured asset;
3) there should be certain mechanisms to prevent or control dealings with the
secured asset which might be detrimental to the value or enforcement of the
security.

It is evident from a review of cryptoassets that the above characteristics are

unlikely to be fulfilled without an actual transfer of the cryptoasset to the creditor,
or disclosure of the private key. Cryptoassets are intangible and it is likely that
an uncooperative debtor will need to be coerced by an order of the court to
provide the private key in order to access the crypto wallet. Unlike the situation
with proprietary rights over other intangible assets, such as intellectual property,
there is no central registration system that provides notice to third parties who
may seek security over the same cryptoasset. It appears that without a system
for registering a security interest over the cryptoasset which can be reviewed by
the public, it is the responsibility of the debtor to inform the parties involved that
a security interest already exists over the cryptoasset. This could be avoided
altogether if the creditor was to obtain “possession” of the cryptoasset which
would ensure that their claim is enforceable in priority to any other claims. This
would also prevent the debtor from dealing with the cryptoasset in a way that
might be prejudicial to the security interest granted over it. The meaning of
“possession” in these terms is the transfer of the cryptoasset to a wallet
controlled solely by the creditor in order to prevent the debtor dealing with the
secured asset in a way that is detrimental to the enforcement of the security.

However, outright transfer of the cryptoasset to the creditor could lead to

concerns about the solvency of the creditor, in particular how the debtor would
recover a cryptoasset from the insolvency estate of a creditor. It has been
suggested52 that if this is a preferred method, the parties could utilise a third
party escrow agent to hold the cryptoasset under the terms of a security
agreement. The escrow agent would transfer the cryptoasset to the appropriate
party based on the performance of the obligations under the security agreement.
Clearly the parties would have to be satisfied that the escrow agent is reliable
and also be aware that, although there are several escrow agents offering
cryptoasset related escrow services, this is an area that is not regulated.

There are clearly several legal concerns associated with the creation of a
security interest over a cryptoasset. There are also commercial difficulties that
might deter a creditor from accepting a cryptoasset as security for debt. The
most prominent obstacle appears to be that cryptocurrencies are not backed or
regulated by central governments. Cryptocurrencies may be popular in the
current market and have grown exponentially in the past few years, but they are
still not easily exchangeable for assets of real value. Creditors should be
particularly cautious about accepting large quantities of cryptocurrency as
security for debt. Similarly, the value of cryptocurrency is volatile and valuing a

52
David Quest, “Taking security over bitcoins and other virtual currency”, (2015) 7 JIBFL 401.

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cryptoasset can be a very speculative exercise. A secured creditor might at the

start of the life of the lending agreement be in a strong position should the value
of the cryptocurrency be high and may even lead to the creditor’s claim being
over-secured. However, the situation could easily reverse as a sharp drop in the
value of the cryptoasset may result in the creditor being under-secured.
Consequently, the secured creditor cannot be certain that there will be adequate
value in the cryptoasset given as security to cover the debt. The cautious
approach would be to avoid such a volatile asset being used as security.
However, if it is necessary or desired that cryptoassets be used as security, it
seems sensible not to rely solely on these types of assets as security and to
instead obtain a security package with a mix of cryptoassets and other
traditional assets.

3.11 What security interests exist over cryptocurrencies?

3.11.1 Introduction

A brief review of various jurisdictions shows that there is no clear legal

characterisation of cryptocurrencies and, consequently, there is a lack of
guidance as to what proprietary rights may exist over a cryptoasset. From our
analysis, it seems likely that the courts will recognise some form of proprietary
right over cryptoassets. In this part of the report we will consider whether
security interests can exist over cryptocurrencies by looking at the situation in
various jurisdictions. This is relevant to the insolvency professional, since the
primary duty of such a person is to maximise the value of assets in the
insolvency estate to ensure that creditors can maximise returns. In order to do
this, it is important for an insolvency professional to be able to determine which
assets are part of the insolvency estate and, of these assets, which contain a
security interest held by a third-party creditor. It is crucial that an insolvency
professional completes this exercise so that they have taken reasonable steps
to ensure that the secured creditors can realise their security interests and that
the sale of any other assets in the insolvency estate are free from
encumbrances such as security rights. As we have already discussed, there are
various difficulties associated with identifying cryptoassets that form part of an
insolvency estate and consequently this is not an easy task to undertake.

There is always some form of risk present when lending money to a third party
and a creditor would usually require some degree of comfort in the knowledge
that there will be recourse to something of value in the event that the debtor fails
to repay the outstanding debt. Indeed, this is the whole purpose of providing
security. With the benefit of a valid security interest, a creditor will be able to
realise the value of the secured asset and apply it to the payment of the
outstanding debt. Security is also important when a debtor is no longer able to
make the payments that are due to creditors and enters into an insolvency
process. Security therefore provides the creditor with a proprietary interest in an
asset of value until the outstanding liability is discharged.

The questions that arise here are:

• Can the traditional methods of granting security be applied to a

cryptoasset?; and
• Can a cryptoasset be used as a commercially viable form of security?

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3.11.2 England and Wales

It is evident from the previous discussion on the legal characterisation of

cryptocurrencies, that it is unclear how cryptoassets will be legally categorised. If
they are held to be currency, it may be possible to utilise the traditional methods
of granting security over currency in the form of a deposit of the currency in a
bank account or in the form of a debt due to the party giving the security. Under
English law, the deposit account and the debt would be classified as intangible
property, thus creating a chose in action that represents the account holder’s
right to be paid the balance if the obligation owed is not discharged. The debtor
may be able to grant a charge by way of a legal or equitable assignment. In
principle, a bank could do the same for cryptoassets where the cryptocurrency
would be transferred to the bank on certain terms. Accordingly, if a bank was to
offer a deposit account denominated in cryptocurrency and the debtor’s
cryptocurrency is deposited in that bank account, the debtor could grant a
charge or assignment over the bank account to the creditor. Thereby, the
creditor would have the right of a chose in action over the cryptocurrency bank
account pursuant to the terms of the security documentation. In reality, banks do
not offer cryptocurrency denominated bank accounts in the UK. As a result, the
cryptoasset will be held directly by the grantor of the security and there will be
no third party involved.

The difficulty in considering whether a security interest can exist in a cryptoasset

relates to the issue that the “owner” of a cryptoasset is whoever has control over
it; this would be the holder of the private key. It is unclear whether cryptoassets
confer any legal rights against third parties and it only appears to have value to
the extent that there is a demand for it.

It would be unlikely that, under English law, a creditor will be able to take a lien
over a cryptoasset. This is because, according to case law, “rights properly
classified in English law as a general lien were incapable of application to
anything other than tangibles and old fashioned certificated securities”.53 This
was further reiterated in a case where the Court of Appeal ruled that a lien could
not be granted over an electronic database.54 Based on this judgment, the
English Courts are unlikely to accept that a lien exists over an asset which is
fundamentally cryptographic code. At paragraph 3.9.6 of this paper, we
reviewed the proprietary rights that exist over bearer shares and made
comparisons to cryptoassets. It is possible to grant a pledge over bearer shares
because ownership of the bearer instruments can be transferred by delivery of
possession. Similarly, it may be possible to do the same for a cryptoasset,
whereby the debtor transfers the cryptocurrency from their digital wallet to that of
the creditor’s digital wallet, or transfers the private key to the creditor. This
transfer should be documented in a memorandum stating that the intention is to
create a pledge whereby the cryptocurrency is deposited with the creditor for
safekeeping until the payment of the debt, thereby purportedly creating a
security. If a valid security is created, the creditor would have an implied
common law right under English law to sell the pledged asset if the debtor does
not comply with the terms of the underlying transaction. It is then important to
set out the terms of the contractual right of sale in the memorandum. Therefore,
it appears that it may be possible, under English law, to grant a pledge over the
cryptoasset. There are, however, several practical issues that may arise from

53
Re Lehman Brothers international (Europe) (in administration) 2012 EWHC 2997 (Ch).
54
Your Response Ltd v Datateam Business Media Ltd (2014) EWCA Civ 281.

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this type of transfer. Sharing the private key does not prevent the debtor from
using the private key himself and transferring the cryptoasset to a separate
wallet held by the creditor. Furthermore, a transfer would result in the debtor
losing the economic benefit and risk associated with the cryptoasset.

3.11.3 Sweden

There are three types of security that can be created under Swedish law;
pledge, charge (mortgage) and separation rights.

The debtor may grant a pledge that can be perfected by handing over all control
of the pledged object to the creditor (pledgee), that is, handing over possession
of a physical object to the creditor. In order to perfect a pledge containing an
intangible asset such as shares or other financial instruments registered at a
bank, it may be assigned and notice given to the bank. Where the asset is a
right to intellectual property, the pledge agreement must be registered at the
Swedish Patent and Trademark Office. Since there are no official registers in
relation to cryptocurrencies, a pledge securing a cryptoasset cannot be
perfected by registration similar to cases dealing with intellectual property and,
since there are no trusted third party banks or central securities depository,
there is no one to give notice of the assignment. In order for a pledge of
cryptocurrencies to be complete, the cryptocurrency must be in the possession
of the creditor. There are those who argue that this could be done by a
transaction in the blockchain, provided the transaction is transferred to a new e-
wallet where the key to the transferred asset is left in the old e-wallet and a new
key is issued within the new e-wallet.55 Otherwise the pledgor may still have
possession over the asset by copying the existing key. Whether or not a
cryptocurrency can be transferred and secured by a pledge is still highly
speculative as it has never been tested in court.

Academics argue that cryptocurrencies should be excluded from assets that are
included in a floating charge certificate and draw parallels to the exceptions of
cash and the similarities to financial instruments.56 There are also those who
argue that an agreement on a purchase of cryptocurrencies should be included
in a floating charge certificate as a claim connected to a specific performance,
that is, to sell the cryptocurrencies. The same argument applies to a claim on
the purchase price for sold cryptocurrencies. Cryptocurrencies should be
exempted from floating charge certificates pursuant to the preparatory work in
the Swedish Limited Floating Charges Act,57 where it is argued that cash in a
bank account and financial instruments should be exempt since they are to be
considered funds that are immediately available for lifting and are usually
included in what a debtor considers to be liquid assets. Whether or not
cryptocurrencies really are immediately available for lifting and thereby
constitute liquid assets, is debatable.

If a legal entity is declared bankrupt it could hold assets that belong to someone
else; for example, if the entity has sold goods to a buyer but has not yet
transferred them, or if the entity holds assets that someone else has the
ownership of. The rightful owner of the asset can in certain situations retrieve

55
Emil Elgebrant, Kryptovalutor: särskild rättsverkan vid innehav av bitcoins och andra liknande
betalningsmedel (“Crypto currencies: special legal effect on the holding of Bitcoins and other similar
means of payments”), Wolters Kluwer, 2016.
56
Ibid.
57
Limited Floating Charges Act (SFS 2008:990).

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the property when the entity is declared bankrupt by pleading the right of
separation. In order to separate an asset in a bankruptcy, the asset must be
identified and ownership proved. If a legal entity holds cryptocurrencies that
belong to someone else, one could ask whether that cryptocurrency could be
separated in a bankruptcy. Cryptocurrency is a fungible asset similar to money
in a bank account. Fungible assets are difficult to identify and the ownership of
one part of the fungible asset is hard to distinguish from another part of the
fungible asset that belongs to the bankrupt entity. For example, if a bankrupt
entity holds cryptocurrencies in an e-wallet that do not belong to the entity,
together with cryptocurrencies that do belong to the entity, they are hard to
separate and distinguish from one another. In addition, it is uncertain how the
ownership of a cryptocurrency is transferred since there is no third party or
trusted intermediary that holds the asset (for example, a bank). There are those
who argue58 that the ownership of a cryptocurrency has shifted if and when an
identified transaction in the blockchain has been completed. Since this has
never been tested in court, it cannot be ruled out that the buyer of a
cryptocurrency lacks the capacity of pleading separation of rights and would
therefore lack the protection of its asset against other creditors.

In Sweden, there is uncertainty in ascertaining when possession and the

proprietary rights of a cryptoasset have been transferred. In order for a creditor
to take security over a cryptoasset, the creditor should obtain details of the
cryptoasset and the e-wallet together with the private key. Generally speaking, it
is almost impossible to enforce security over a cryptocurrency without the
consent and co-operation of the debtor.

3.11.4 Denmark

Danish law allows for the creation of two types of security rights over assets,
namely pledges and mortgages. The form of the security right is essentially
dependant on what type of asset is subject to such a right. Security over
cryptocurrencies could be created as a pledge, that is, the pledgee taking
possession of the digital wallet containing the digital assets. Alternatively, a
floating mortgage could conceivably cover digital currencies provided they
constitute inventory for the pledgor (that is, the pledgee would need to be trading
with the digital assets). The practical enforcement of these security rights is,
however, an open question and the value of such security is therefore quite
uncertain.

3.11.5 The Netherlands

It is currently unclear whether a security interest can exist over a cryptocurrency

as it is not yet apparent how a cryptocurrency is to be classified. It is therefore
not yet possible to definitively determine in what manner an (undisclosed) right
of pledge can or ought to be vested. Currently it may be best to seek another
(conventional) contractual type of security, for example a bank guarantee or a
guarantee. Such security would not be vested directly “on” the cryptocurrency
itself but would provide a form of enforceable surety.

58
Emil Elgebrant, Kryptovalutor: särskild rättsverkan vid innehav av bitcoins och andra liknande
betalningsmedel (“Crypto currencies: special legal effect on the holding of Bitcoins and other similar
means of payments”), Wolters Kluwer, 2016.

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3.11.6 Italy

Similarly, in Italy, it would appear that the Italian legal framework does not
provide for the creation of traditional security interests over a cryptoasset.
According to the recent case Seven Business Srl - One Coin,59 it would not be
possible to create a pledge or foreclose cryptocurrencies. Consequently, the co-
operation of the debtor is crucial in order to enforce a secured cryptoasset and
the security interests could be documented through a private agreement
between the debtor and the creditor.

3.11.7 Conclusions to be drawn

There does not appear to be a clear answer as to whether security interests can
be created over cryptoassets. Where a purported security has been created by
transferring the cryptocurrency from the debtor’s wallet to that of a creditor, an
insolvency professional would face the difficulty of determining who the
cryptoasset has been transferred to. As already discussed, the value of
cryptocurrencies can fluctuate over time and the transferred cryptocurrency may
be valued at a greater value than that of the debt owed to the creditor. In such a
scenario, it is essential that an insolvency professional has the ability to recover
the remaining value of the cryptoasset for the rest of the creditors.

4. Cryptocurrency and insolvency

4.1 What are the challenges facing insolvency professionals?

Where an estate comprises of cryptoassets, it is clear an appointed insolvency

professional would need to take into consideration the applicable law, cross
border recognition and apply modified identification (due to the anonymity of
cryptocurrency holders) and realisation methods. Given the relatively recent rise
of cryptocurrencies and their use as a form of payment and storage as an asset,
it is vital for bankruptcy courts to identify whether cryptocurrency is an asset that
falls under the property of a debtor’s estate and is capable of being recovered by
an appointed insolvency professional or creditors. The growth in the use of
cryptocurrencies has and will continue to create difficulties for the administration
of bankruptcy cases. The unique nature of cryptocurrencies will require
bankruptcy courts to consider creative interpretations of the existing insolvency
regime to protect the interests of both the debtor and its creditors in a
liquidation/insolvency scenario. Certain key issues are considered in further
detail below.

Where it is determined that a cryptoasset falls within an insolvency estate, the

first issue is that of control. The individual in possession of the private key can
be regarded as the controller of the cryptocurrency held in the digital wallet.
Therefore, in order to realise any of the cryptoassets held in the digital wallet the
insolvency professional will require the co-operation of the debtor in obtaining
the private key; otherwise the insolvency professional will not have sufficient
control over, or access to, the cryptoassets in order to realise their value. It is
therefore likely that an insolvency professional will struggle to identify whether
an insolvent individual or entity holds cryptoassets if the holder of the digital
wallet does not disclose this information.

59
Judgment 18/07/2018, Court of Brescia.

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In the evolving market of cryptocurrency, bankruptcy trustees in the US, for

example, face the challenge of identifying both the owner and / or location of a
debtor’s cryptocurrency, which may prove even more difficult if the debtor
attempts to hide such assets during the bankruptcy proceedings. Fortunately,
the Bankruptcy Code in the US provides an incentive for a debtor to reveal its
cryptoasset. In the US, the bankruptcy courts can release an individual debtor
from personal liability for most debts in a chapter 7 bankruptcy by making a
discharge order. After a discharge order has been granted the creditors of the
bankruptcy cannot bring an action against the debtor. Unless there is an
objection or a motion to extend the time to object, the bankruptcy court will issue
a discharge order. Section 727 of the US Bankruptcy Code sets out the grounds
for denying a chapter 7 discharge, including such cases where the debtor
transfers, removes, destroys, mutilates, or conceals Bitcoin or any associated
records. On the request of a trustee, creditor or the US trustee the bankruptcy
court may revoke a chapter 7 discharge if the debtor fraudulently failed to report
an asset or surrender it to the trustee.60 Consequently, a debtor will likely be
motivated to disclose the cryptoasset in order to avoid being denied a discharge
or the revocation of a discharge. This is of course relevant only in relation to an
individual debtor rather than a corporate debtor. Nevertheless, bankruptcy
trustees still face significant challenges in identifying other account holders or
transfer recipients that the debtor may be unaware of and in compelling the
handover of Bitcoin held overseas. However, there is hope as the fintech sector
continues to develop new technology and innovative methods to trace and
identify cryptocurrency transactions.

Where an insolvency professional is able to gain sufficient control over the

cryptocurrency holding, the next issue is whether the distribution of the
payments should be made in cryptocurrency or converted to fiat currency. This
might not be an issue if the relevant security arrangements with creditors set out
the specific amount of cryptocurrency that is attributable to discharging the debt
of the creditor. However, where this is not the case the distribution process
becomes difficult. Due to the volatile nature of the value of cryptocurrency, the
point of valuation will be critical as the value is capable of drastically rising or
falling. It may be the case that creditors may want their entitled portion of the
cryptoasset to be converted to fiat money. In this scenario, the question of
conversion arises. As with most things in life, cryptocurrencies are valuable to
the extent that other participants are willing to accept them as payment, or will
purchase them. Therefore, the insolvency professional needs to be aware of the
impact a large disposal of cryptocurrency will have on the value of the asset.
Without a credible strategy in the disposal of the cryptocurrency, the insolvency
professional’s actions could devalue the cryptoasset and this would be a breach
of duty of the part of the insolvency professional who has a duty to consider the
interests of the creditors as a whole. In order to avoid a situation where the
actions of the insolvency professional are called into question by the creditors, it
is advisable that any disposal or the decision to hold the cryptoasset is validated
by an order of a Court with relevant jurisdiction.

A good example of this is the insolvency of the cryptocurrency exchange MtGox

(this case is analysed in more detail below in paragraph 4.6.1). On 25
September 2018, the trustee, in consultation with the Court and the examiner,
made a disposal of Bitcoin. The decision to implement a sale was heavily
criticised as it resulted in the sale of roughly 35,841 Bitcoins for approximately

60
https://www.uscourts.gov/services-forms/bankruptcy/bankruptcy-basics/chapter-7-bankruptcy-basics.

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USD 360 million. The sell-off was perceived as driving down the price of Bitcoin
and it was claimed this was contrary to the trustee’s duty to maximise and
protect the value of the assets on behalf of the creditors. Had the trustee not
consulted the Court prior to making this decision, it is likely that the criticism
would have accelerated into litigation against the trustee.

Volatility of the cryptocurrency market is an important factor which an insolvency

professional must take into consideration for a liquidation plan over an estate
which comprises of a significant holding of cryptoassets. As seen in MtGox, the
trustee followed the Japanese bankruptcy rules which state that the claims are
to be valued at the April 2014 Bitcoin market price; consequently, the trustee
had priced the Bitcoins at their 2014 value of USD 483. The creditors,
dissatisfied with this, petitioned the Court to reinstate civil rehabilitation
proceedings (from bankruptcy proceedings) so that they could reclaim the
cryptocurrencies at the value of the cryptocurrency in 2016, which had
accelerated to USD 1.3 billion. Due to the increase in value of the Bitcoin, the
Court reinstated the civil rehabilitation.

The question of conversion of cryptocurrencies into fiat currency arose in a

recent unreported criminal case in England, in the context of a seizure of
Bitcoins from an individual who was convicted of drugs and money-laundering
offences (details of this case is set out at section 3.9.6 of this paper).61 The
police applied to the Courts for an order permitting them to convert the
cryptocurrency into sterling due to the volatility of the value of Bitcoin and its
susceptibility to theft. The police submitted evidence in relation to two methods
of conversion of the cryptocurrency: public auction (which has been successfully
used in the US) and a Bitcoin exchange (which has been used by the Dutch
police for over five years). The court held that the appropriate means of
conversion was the approved Bitcoin exchange, as the fees for this method of
conversion was lower and its effectiveness had been established. While what is
stated above took place in relation to a criminal case, it is possible that an
insolvency professional could present options to the Court in order to obtain
directions as to the best method of conversion.

4.2 Antecedent transactions

In most jurisdictions, including the ones under review in this paper, an

insolvency professional is provided with a set of clawback tools in order to
challenge a reviewable transaction made within a certain period of time. Where
a challenge is successful, the court will make an appropriate order to reverse the
effect of the transaction, for example by setting aside a transfer and ordering the
return of the assets. The returned assets or proceeds of such transaction would
form part of the assets of the insolvent company and would be available for
distribution to the creditors. In most jurisdictions it is yet to be tested whether the
clawback powers available to an insolvency professional will apply also in the
context of a cryptoasset. However, it is likely that clawback powers would be
applicable to crypto-transactions in most jurisdictions, unless there is a clear
exclusion contained in legislation.

61
R v Teresko (Sergejs) – unreported, 11 October 2017.

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4.2.1 United States

There has been one particular case in the US where a bankruptcy trustee has
sought to utilise claw-back powers to recover cryptoassets for the insolvent
estate. In In re Hashfast Techs LLC, the trustee moved for partial summary
judgment (Motion) seeking two determinations from the court.62 First, he sought
a determination that Bitcoin constitute commodities, not currency, for the
purpose of recovery under section 550(a) of the US Bankruptcy Code.63 Section
550(a) of the Bankruptcy Code provides that once a trustee has avoided a
transfer, the trustee may recover, for the bankruptcy estate’s benefit, either the
transferred property or, if the court orders, the value of the property.64 Second,
he sought a determination that the bankruptcy estate was “entitled to [recover]
either the Bitcoin or the value of the Bitcoin as of the transfer date or time of
recovery, whichever is greater.”65 In support of the latter, the trustee argued that
the purpose of section 550(a) of the Bankruptcy Code was to restore the
bankruptcy estate to the financial condition it would have been in had the
transfers not occurred.66 In opposition, the defendants argued that the
bankruptcy estate was only entitled to recover the value of the Bitcoin as of the
transfer date.67 The defendant further argued that restoring the bankruptcy
estate to the financial condition it would have been in had the transfers not
occurred, “would involve paying the dollar value for services rendered, not the
windfall sought here.”68 In addition, the Defendant argued that the Bitcoin
transfers he received do not constitute fraudulent transfers because the
transfers satisfied an antecedent debt and, therefore, the debtors received value
for the Bitcoin transfers to the defendant.69

In February 2016, the Court entered an order granting in part the trustee’s
Motion.70 As noted above, the Court determined that “Bitcoin are not United
States dollars,” rejecting the defendant’s argument.71 The Court stated that it
need not determine “whether Bitcoin are currency or commodities for purposes
of the [Bankruptcy Code] fraudulent transfer provisions.”72 The Court also stated
that if the Trustee ultimately prevailed in the action, then it would determine
“whether . . . he may recover the Bitcoin (property) transferred or their value,
and if the latter, valued as of what date.”73 Ultimately, however, the Court did not
have the opportunity to determine this, as the parties stipulated to dismiss the
action with prejudice.74

62
See Pl’s Mot for Partial Summ J at 2, Kasolas v Lowe (In re Hashfast Techs. LLC), No 15-03011 (Bankr
ND Cal Jan 22, 2016), ECF No 42; see also Pl’s Mem of Points and Authorities in Supp of Mot for
Partial Summ J, supra note 53, at 3 (“[T]he Motion is not directed to avoidance of the Bitcoin transfers,
but rather to the discrete legal issue of whether, once avoided, the Bitcoin constitute mere currency –
the equivalency of dollars – or a commodity which can rise or fall in value based upon changing market
conditions.”).
63
See Pl’s Mot for Partial Summ J, supra note 56, at 2.
64
See 11 USC, § 550(a).
65
See Pl’s Mot for Partial Summ J, supra note 56, at 2.
66
See Pl’s Mem of Points and Authorities in Supp of Mot for Partial Summ J, at 2, 3, 6, 8, Kasolas v Lowe
(In re Hashfast Techs. LLC), No.15-03011 (Bankr ND Cal, Jan 22, 2016), ECF No 42-1.
67
Idem, at 3, 14.
68
Idem, at 12.
69
Idem, at 13.
70
See Order on Motion For Partial Summary Judgment, Kasolas v Lowe (In re Hashfast Techs LLC), No
15-03011 (Bankr ND Cal, Feb 22, 2016), ECF No 49.
71
Idem at 1.
72
Ibid.
73
Idem, at 1–2.
74
See Order Approving Stipulation to Dismiss Adversary Proceeding with Prejudice, Kasolas v Lowe (In
re Hashfast Techs LLC) (2016) (No 15-03011).

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It can be argued that if virtual currencies were classified as money or currency,

Bitcoin transactions would receive greater protection under the Bankruptcy
Code. Specifically, cryptocurrency transfers or contracts in which individuals
exchanged it for dollars or other currencies, may be classified as “swap”
agreements (swap agreements) and receive beneficial protections under
sections 362, 546 and 560 of the Bankruptcy Code. Under sections 362 and 546
of the Bankruptcy Code, swap agreements would be protected from avoidance
as constructive fraudulent transfers. Under section 548 of the Bankruptcy Code,
a transfer made by a debtor within two years of filing for bankruptcy can be
reversed if it is deemed constructively fraudulent. Specifically, under section 548
of the Bankruptcy Code, transfers can be reversed within two years of the filing
of a bankruptcy case if the debtor: (i) transferred an interest in its property;
(ii) was insolvent at the time of the transfer or was rendered insolvent thereby;
and (iii) received less than reasonably equivalent value in exchange for such
transfer.” Section 546(g) of the Bankruptcy Code may offer protections to swap
agreements by prohibiting a bankruptcy trustee from avoiding preferential
transfers made before the filing of a bankruptcy case, unless the transferor
intended to hinder, delay, or defraud creditors. Lastly, section 560 of the
Bankruptcy Code provides swap agreements broad protection from the
automatic stay, in that swap participants would not be prohibited by the
automatic stay to liquidate, terminate, or accelerate a swap agreement.
Therefore, Bitcoin holders would have the ability to sell Bitcoin in exchange for
US dollars without the fear that such transfers would be deemed constructively
fraudulent, receiving the same protection under the Bankruptcy Code as if they
were exchanging US dollars.

4.3 Tracing transactions

When it comes to cryptoassets, there may be an added difficulty for insolvency

professionals when seeking to trace the cryptoasset. One of the compelling
bases of cryptocurrencies is that they allow anonymity and that transactions are
untraceable. Although there are certain types of cryptocurrencies, such as
Moreno and Zcash, designed to avoid tracking, there are methods to trace
transactions by studying the relevant distributed ledger technology. For
example, Bitcoin provides for a level of anonymity in the sense that the users
use pseudonymous identities through a public key to secure transactions and
the public key does not contain any identifiable information about the user. All of
the transactions made using this public key are publicly available to the entire
Bitcoin network through the blockchain. Blockchain contains detailed information
about the nature and the context of every transaction ever made, including time,
values, recipients and user public keys. This allows data scientists and
statisticians to identify links between exchanges and certain transactions which
can be traced back to a digital wallet with a unique identifier. The user remains
anonymous unless the Bitcoin address can be linked to the real-world identity of
the user.

The diagram75 below sets out the differences in the traditional privacy model
against the new Bitcoin privacy model. The traditional banking model achieves a
level of privacy by limiting access to information to the parties involved and
trusted third parties. The transactions are generally not transparent. However,
Bitcoin transactions are available for review but without linking the transaction to
a particular individual / entity.

75
Bitcoin: A Peer-to-Peer Electronic Cash System (https://bitcoin.org/bitcoin.pdf).

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Cryptocurrency exchanges are websites where users can buy, sell or exchange
cryptocurrencies for other digital currency or fiat currency. Certain exchanges
maintain a database of identities of their users and the co-operation of the
exchange platform will therefore be required in order to identify the individual
who controls the digital wallet. This is only possible where the exchange
platform has obtained the necessary information from the digital wallet holder.
Sophisticated exchange platforms would normally require users to verify their
identity; the majority of Bitcoin trading platforms both in the US and the UK
require some form of identity verification. However, there are other platforms
that do not require a user to create an account and consequently no personal
information in relation to the user will be stored by the exchange platform. At
present there is no regulatory or legal requirement for exchange platforms to
maintain the identities of their users. Another shortcoming of the tracing process
is that the companies that provide these services have to set up an intricate
tracing system for each type of cryptocurrency. There are 2,14376 different types
of cryptocurrencies that exist in the world today with a total market cap of USD
177,151,636,370. Realistically, these tracing companies are probably only in a
position to track the high profile cryptocurrencies.

Due to the nature of cryptocurrencies, an insolvency professional will most likely

need the expertise of a tracing company to track any reviewable transactions.
With the help of experts it is not impossible to create a roadmap of the
transactions. Therefore, an important consideration for an insolvency
professional is whether the costs associated with tracing are reasonable in
relation to the ability to realise value from the cryptocurrency holdings. If the cost
of tracing cryptocurrency transactions is greater than the amount that could be
realised from the asset, then this is obviously not a worthwhile exercise. This
might not be a simple decision to make, as an insolvency professional may not
have a clear understanding of the value of the cryptocurrency holding without
further investigation, which in itself may be costly without the co-operation of the
insolvent entity or bankrupt individual. It is also important to note that the
analytics companies that have assisted with the tracing of cryptocurrency
transactions, have done so in the context of detecting fraud. They do not
therefore specialise in identifying transactions within the context of insolvency. It
does not seem unrealistic that tracing companies could apply similar forensic
techniques for the purpose of tracing transactions in the context of insolvency.

4.4 Choice of law and jurisdiction

Cross-border issues are common in corporate restructurings and insolvencies

as most large corporates have operations or assets in several locations. It is

76
https://coinmarketcap.com/all/views/all/.

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therefore important to understand that there is a disparity between the

insolvency regimes of different jurisdictions. The distributed nature of
cryptocurrency and Blockchain technology raises significant jurisdictional
questions that will need to be considered. Due to the complexities of jurisdiction
and choice of law in relation to cryptocurrencies, one could produce an entire
paper on this topic alone. It is for this reason that the paper only deals with this
topic at a very high level.

The two key issues that arise in matters with a multi-jurisdictional aspect are
where the principal proceedings should be opened and which law will govern the
process. Answering the first question helps in answering the second.

In the context of the European Union (EU), the European Insolvency

Regulation77 (EIR) seeks to co-ordinate insolvency proceedings through the
concept of a centre of main interest (COMI) in order to determine which member
state of the EU (other than Denmark) has jurisdiction to open insolvency
proceedings and which state’s laws take precedence if competing insolvency
procedures are commenced in different member states. Although the term COMI
is not defined, there is a rebuttable presumption that the debtor’s registered
office (or place of residence in relation to an individual) is the centre of the
debtor’s main interest. Additionally, proceedings can be brought in a state in
which the debtor does not have its COMI but has an “establishment.” This is
defined as any place of operation where the debtor carries out an economic
activity with human means and goods, which is not of a temporary nature. In
addition, the UNCITRAL Model Law on Cross-Border Insolvency (Model Law)
provides a legal framework that sets out when and how a court can recognise
insolvency proceedings opened in another jurisdiction. The Model Law has no
legal or binding status but serves as a framework that can be adopted by
jurisdictions around the world. Some concepts contained in the Model Law are
similar to the EIR where it categorises foreign insolvency proceedings into main
proceedings and foreign non-main proceedings. Commencing proceedings in
one jurisdiction may be just one of many proceedings in various jurisdictions that
are necessary to resolve a debtor’s financial difficulties. It is therefore essential
that courts of other jurisdictions can be enabled to recognise and give effect to
the proceedings commenced in the first jurisdiction and to co-ordinate an
effective realisation of the assets.

Many jurisdictions rely (in part) on the lex rei sitae in order to establish
jurisdiction over assets; in other words, the physical location of the asset
determines who has jurisdiction over that asset. This raises the issue of where
cryptoassets are located:

a) Is it the location of the digital wallet, which could be online, on a local

machine or on a backup storage system?
b) Is it the location of the Blockchain itself?
c) Is it the location of the exchange used by the person in question?

Where the insolvency relates to an exchange platform that has been

incorporated in a particular location, it is likely that the governing law and
jurisdiction would be that of the country where the exchange platform has been
incorporated. On the other hand, the location of the Blockchain is akin to a

77
Regulation (EU) 2015/848 of the European Parliament and of the Council of 20 May 2015 on insolvency
proceedings.

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circular determination of jurisdiction due to the distributed nature of the

technology, whereby it has no single fixed location. It must, however, be noted
that the value of the cryptoasset is dependent on the ledger contained in the
Blockchain reflecting the existence / ownership of the assets in question. In this
regard it shares some similarities with shares in non-listed companies, where
the lex rei situs over the shares would point to the law of the registered office of
the company.

The physical location of the wallet would be the natural starting point, that is, the
local machine that contains the wallet or the location of the online wallet. But
considering that any number of backups of the wallet could exist elsewhere, any
one of these could conceivably establish jurisdiction. The wallet itself is,
however, just digital proof of ownership of part of the Blockchain. It could
therefore be argued that the wallet is merely the key to accessing the actual
asset, the Blockchain, and not the asset itself. The keys to a house would not
constitute an asset and would not in itself establish jurisdiction over the house.

Furthermore, exchange platforms and companies that provide digital wallets

operate through software that is globally accessible. These companies may not
follow a traditional corporate structure, hold physical assets or occupy office
space but will engage with customers worldwide. As evidenced by the multiple
proceedings that arose from the insolvency of MtGox, the greatest challenge
that insolvency professionals will face is that their appointment may not be
recognised by other jurisdictions around the world. Even if an insolvency
professional was able to overcome the issues surrounding jurisdiction, the issue
of which law should govern the proceedings will remain. As has already been
established, there does not appear to be clear legislative guidance in any
jurisdiction as to how cryptocurrencies should be characterised.

In terms of governing law, every modern country provides guidance on how to

deal with a dispute. Where there is a difference in the result achieved through
the application of the rules in one jurisdiction compared to another, the question
of governing law becomes a pertinent one. This is particularly relevant where
one jurisdiction might have structured legislative guidance on dealing with
cryptocurrencies compared to another. However, as has already been shown in
this paper, there is little legislative guidance regarding cryptocurrencies in most
countries around the world. This brings us to the second issue; if the governing
law has been agreed, which category of law will apply to cryptocurrencies?
Which juridical concepts can be applied to cryptocurrencies when they cannot
be legally categorised as something? Unfortunately, at this point one can only
raise these issues as the answers have yet to be discovered.

4.5 Cryptocurrency exchanges

As already mentioned, users in the cryptocurrency community engage with

cryptocurrency exchanges in order to invest in cryptoassets. The exchange
platform will usually hold cryptocurrency deposits in an account pursuant to the
terms of engagement. For example, if a comparison is made to the traditional
banking system involving cash deposits, under English law where a customer
deposits cash with a bank the customer has a debt claim for the amount of the
cash deposit against the bank in the event the bank enters an insolvency
procedure. Furthermore, in order to mitigate the risk to customers, there are
banking regulations that require financial institutions holding cash deposit
accounts to maintain certain levels of capital reserves to cover the deposits. In

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addition to this, the government provides further protection through government

bank deposit protection schemes, such as the Financial Services Compensation
Scheme in the UK. There appears to be very little protection provided to
customers who invest by using cryptocurrency exchange platforms. The EU’s
Fifth Anti-Money Laundering Directive78 seeks to bring exchange platforms and
custodians within its regulatory remit. However, it contains no equivalent capital
reserve requirement or any form of compensation scheme. It would therefore
appear that cryptocurrency investors have a mere unsecured claim against an
exchange platform that enters a process of insolvency.

The relationship between an investor of cryptocurrency and an exchange

platform could also be compared to that of a custodian / broker of traditional
securities. With traditional securities investments, the investor will make relevant
investments in the securities through a custodian or broker, who will then hold
the securities on behalf of the investor. This relationship is usually governed by
a custody agreement which requires that the custodian return the securities and
interest accrued by the securities back to the investor. In order for investors to
retain a proprietary interest over the securities held on their behalf, it is a
common occurrence that the custodian will hold the assets on trust for the
investor. The assets of the investor should therefore be clearly identifiable.
Under English law, for example, assets that are combined with the assets of
another investor would still be capable of being held on trust for the relevant
investors. However, where the investor assets are mixed with the assets of the
exchange platform, it would be challenging to establish a trust relationship.
Ordinarily, regulation dictates that assets of clients should not be mixed with the
assets of the custodian; however, such regulation does not apply to
cryptocurrency exchange platforms and it is therefore unlikely that this is a
common practice by exchanges. In any event, this is based on the premise that
proprietary rights are capable of existing over cryptocurrencies, which is
presently unclear.

4.6 Case studies

4.6.1 Exchange platform - MtGox

MtGox was founded by Jed McCaleb in 2010 at a time where there were few
exchanges for buying and selling Bitcoin. It grew exponentially and was sold to
Mark Karpelès who resided in Japan. At its peak, MtGox was reportedly
engaged in an estimated 70% of all global Bitcoin transactions. Throughout the
life of the exchange it had suffered cyber hacks, technical issues and dealings
with the US Government. In 2013, federal agents seized a total of more than
USD 5 million after a judge ruled that there was probable cause to suspect that
MtGox was engaged in money transmitting without a licence. This seizure set a
precedent for Bitcoin exchanges seeking to operate in the US. In 2014, the
exchange restricted all withdrawals as it came to light that a cyber-hack was
syphoning Bitcoins out of MtGox.

MtGox was reportedly the largest cryptocurrency exchange in the world until it
went into a process of insolvency after a cyber-hack, which resulted in the theft
of nearly all of its own Bitcoins and that of its 750,000 customers at the time.
The value of the loss equated to around 7% of all available Bitcoins and was
78
Directive (EU) 2018/843 of the European Parliament and of the Council of 30 May 2018 amending
Directive (EU) 2015/849 on the prevention of the use of the financial system for the purposes of money
laundering or terrorist financing, and amending Directives 2009/138/EC and 2013/36/EU.

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worth around USD 473 million at the time. In the absence of regulation, the
exchange apparently did not back up its Bitcoin deposits with capital.

MtGox filed for civil rehabilitation proceedings in the Tokyo District Court on 28
February 2014, as an attempt to recover from the losses it was making. Civil
rehabilitation proceedings in Japan are intended to enable the debtor to
reconstruct the business in accordance with a rehabilitation plan approved by a
certain majority of creditors. The distribution to creditors under these
proceedings should not be less than that in a bankruptcy. The process was
dismissed by the court soon after on the basis that there was no prospect of
recovery and so an order for provisional administration was made. Within eight
days of the order, the company was placed into bankruptcy proceedings. Soon
after commencing the Japanese bankruptcy proceedings a petition was filed in
the US Bankruptcy Court for the Northern District of Texas, requesting that the
civil rehabilitation procedure be recognised pursuant to Chapter 15 of the US
Bankruptcy Code. The US Bankruptcy Court recognised the Japanese
bankruptcy proceedings as a foreign main proceeding. Similarly, the MtGox
trustee successfully obtained an order from the Ontario Superior Court of Justice
in Canada, recognising the Japanese bankruptcy proceedings. This was in
opposition to a class action petition commenced by Canadian investors alleging
negligence, fraud and breach of contract. The recognition of the bankruptcy
proceedings in Japan resulted in a stay of all actions brought against the
exchange in Canada. This was achieved due to the fact that the trustee was
able to demonstrate that the bankruptcy proceeding in Japan was a “foreign
main proceeding”.

On 25 May 2016, the trustee completed a review of the assets and claims from
customers and creditors; 24,750 claims had been proved, totalling USD 432
million. According to Japanese bankruptcy rules, the claims had to be valued at
the April 2014 Bitcoin market price. The trustee proceeded to value the Bitcoins
at their value in 2014 (the date on which the insolvency proceedings had
commenced), at which time the value equated to USD 483 per Bitcoin. Valuing
the Bitcoin at the time the insolvency proceedings were commenced was a
contentious issue, as the value of Bitcoin had increased significantly since 2014.
It is a rare occurrence indeed to find a company undergoing a bankruptcy
procedure becoming solvent as a result of the appreciation in the value of its
assets, but this is exactly what transpired in the MtGox case.

On 25 September 2018, the trustee announced that in consultation with the

Court and the examiner based on the examination report dated 28 February
2018, the trustee had secured a certain amount of money for the bankruptcy
estate through the sale of assets. The quantities sold and the amounts paid into
the bankruptcy estate are set out in the table below:79

79
https://www.mtgox.com/img/pdf/20180925_announcement_en.pdf.

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Type of Quantity sold Amounts paid into

cryptocurrencies bankruptcy trustee’s
account
BTC 24,658.00762 BTC JPY 22,561,004,011

BCH 25,331.00761 BCH JPY 3,414,698,341

Total amount JPY 25,975,702,352

As a result of the sale, the balance of the bankrupt trustee’s account was
approximately JPY 70,059 million.80

The decision to implement a sale was heavily criticised as it resulted in the sale
of roughly 35,841 Bitcoins for approximately USD 360 million. The sell-off was
perceived as driving down the price of Bitcoin and it was claimed this was
contrary to the trustee’s duty to maximise and protect the value of the assets on
behalf of the creditors. The trustee’s response to the criticism was that the
decision was made to secure fiat value for the Bitcoins while the price was
relatively high and that the sale was structured through a private offering to
minimise the impact on the market price. Obtaining court approval for the plan to
sell-off certain cryptoassets provided the trustee’s actions with some legitimacy.

The value of Bitcoin continued to rise through to 2017 and the trustee
announced that any assets in excess of the claims against MtGox would be
distributed back to the shareholders, including Karpelès. Consequently, on 24
November 2017 the creditors petitioned the court to convert the proceedings to
a civil rehabilitation proceeding. On 22 June 2018, the Tokyo District Court
complied and issued an order to commence civil rehabilitation proceedings for
MtGox. As a result, the ongoing bankruptcy proceedings were stayed and a Civil
Rehabilitation Trustee (CRT) was appointed. The stay on the bankruptcy
proceedings meant that the mass Bitcoin sell-off that had caused controversy,
had also ended. The bankruptcy trustee, Nobuaki Kobayashi, was appointed as
the CRT who has the power and authority to administer and dispose of the
MtGox assets and implement the civil rehabilitation proceeding, including the
administration of assets and investigation of claims subject to the supervision of
the Tokyo District Court. Civil rehabilitation proceedings in Japan do not require
non-monetary claims (claims in relation to Bitcoin) to be converted into fiat
currency value and permits flexibility in the method of distribution to creditors in
accordance with a rehabilitation plan.

Pursuant to this order, the CRT launched an online claims submission process
which gave creditors until 22 October 2018 to submit a filing. According to the
CRT, “if [a] proof of claim is not filed by the deadline, then disenfranchisement
(that is, loss of the right to claim) might apply”. This process allowed creditors
who did not submit claims prior to the bankruptcy proceedings to submit their
filings in the rehabilitation proceedings.

The CRT recently announced that the balance of the funds held by him in
relation to MtGox is JPY 69,553,086,521 (USD 629,594,540) in cash and BTC
141,686.35 and BCH 142,846.35 cryptocurrency valued at over USD 593

80
https://www.mtgox.com/img/pdf/20180925_announcement_en.pdf.

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million.81 The CRT continues to investigate and locate further funds said to have
been hacked and / or lost by the exchange. This includes retrieving money owed
to MtGox by other parties, such as the former CEO Mark Karpelès and majority
owner Tibanne Co.

On 19 March 2019, the trustee announced that he had concluded the

processing of creditors’ rehabilitation claims and submitted to the Tokyo District
Court a statement of approval or disapproval. The claims were submitted via two
forms:

• online filing system; and

• supplementary online method or offline method.

On 3 April 2019, the CRT announced that all creditors who had filed
rehabilitation claims had received decisions regarding their claims. Creditors can
appeal whatever decision was made by making an application for the
assessment of the claim with the court. The timing and method of payment had
not yet been determined at the time this paper was written but the details will be
set out in a rehabilitation plan in due course.

4.6.2 Individual bankruptcy

The status of cryptocurrency in Russia is unclear and, therefore, from a practical

standpoint, it is debatable whether cryptocurrency can be included in a
bankruptcy estate. In a recent case of individual insolvency in the Moscow
Arbitrazh Court,82 a financial administrator proposed that the debtor’s crypto-
wallet be included in the bankruptcy estate. According to the documents on file,
the financial administrator considered cryptocurrency to have a high pecuniary
value and that the exclusion of the debtor’s crypto-wallet would therefore violate
creditors’ rights by reducing the size of the insolvency estate. The trial court
dismissed the financial administrator’s claim.

The trial court found it difficult to determine whether the cryptocurrency was an
asset, or information on decentralised servers. As a result, transactions involving
cryptocurrencies were found by the court to be unenforceable. The court justified
the decision on the basis that, due to the anonymity of cryptocurrency holders, it
would be difficult to identify the owner of the cryptocurrency. This was evidently
not relevant to the case at hand as the debtor confirmed that he was the holder
of the cryptoasset and provided the relevant information. Furthermore, the court
considered the decentralised features of cryptocurrency whereby there was no
entity to guarantee the value of the cryptocurrency. It appeared that none of the
features mentioned by the trial court affected the ability to recognise
cryptocurrency as an asset. Instead, it appears that the court was unwilling to
rule on the legal status of cryptocurrencies on the eve of the amendments to the
Civil Code of the Russian Federation and the draft law “On Digital Financial
Assets.”

On 15 May 2018,83 the court of appeal set aside the ruling of the trial court and
included the crypto-wallet in the bankruptcy estate. The appellate court obliged
the debtor to provide the financial administrator with the relevant access key

81
https://www.coindesk.com/mt-gox-creditors-warn-mass-sale-could-put-bitcoin-fork-prices-at-risk.
82
Tsarkov case (Case number: A40 - 124668/17 - 71-160).
83
Tsarkov (Case number: A40 - 124668/2017).

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(password). According to the resolution of the appellate court, cryptocurrency

should be regulated as an object of civil rights on the grounds of the broad
interpretation of the Civil Code of Russia and should, therefore, be considered a
pecuniary asset. The appellate court stated that as far as the debtor himself was
able to freely use, possess and dispose of the crypto-wallet, his status should be
similar to an owner. Notably, the appellate court stressed the fact that any asset
of certain economic merit should be included in the bankruptcy estate unless
otherwise directly provided for by the bankruptcy law. In this context, the
appellate court concluded that the approach taken by the trial court deprived
bankruptcy creditors of the right to have their claims satisfied in full.

5. Regulation of cryptocurrency

The debate in relation to the legal categorisation of cryptocurrencies and their

regulation has increased dramatically in recent years. This part of the paper
considers how regulation applies to cryptocurrencies and other cryptoassets in
various jurisdictions, and discusses its impact.

Whether and to what extent cryptoassets should be regulated, is an open

question. Just like conventional assets, cryptocurrencies are vulnerable to being
exploited for money laundering, terrorist financing and other criminal activities. In
some cases, buying cryptocurrency is akin to investment in traditional financial
assets and is vulnerable to the same types of abusive behaviour such as market
manipulation, fraud and ponzi schemes. Some cryptocurrencies provide
anonymity and are difficult, if not impossible, to trace, making them particularly
susceptible to certain nefarious activities.

Challenges arise when considering what level of regulation is appropriate.

Cryptocurrency enthusiasts and cypherpunks would say that regulation is a
direct contradiction to the basic premise of cryptocurrency, a decentralised
digital cash system. Casting an overarching regulatory shadow over
cryptocurrencies might result in the suppression of their inherent benefits and
value. However, a regulatory framework with requirements for authorisation,
personal accountability, mandatory disclosure and other similar rules generally
guarantee a certain level of propriety, as well as dramatically reducing due
diligence and transaction costs. Cryptoassets are increasingly being
experimented with by mainstream financial institutions and being made available
to their clients. Although the present cumulative market capitalisation of all
cryptocurrencies is relatively small, if linked to the key parts of the financial
system they could introduce significant risks to global financial stability.
Regulators around the world have expressed a particular interest in asset
tokens, which may closely resemble the financial instruments that are currently
regulated and may be captured under the existing legislative framework.

There are various types and levels of regulation that can be applied to this
relatively new industry / asset class. The application of one type of regulation will
not necessarily preclude the use of other types of regulation. Instead, different
types of regulation may be used in concert - for example, industry codes of good
conduct alongside legal licencing frameworks. Broadly, regulation may come in
the form of top-down legislative rules or bottom-up initiatives. The top-down
implementation approach is where the government sets out a clear-cut system
of command and control, including a clear hierarchy of authority. Bottom-up
initiatives begin with implementation strategy formation with the target groups
and service deliverers, because the target groups are the actual implementers of

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policy. Discretion by the local implementers is the underlying premise of this

approach. Some jurisdictions have chosen not to regulate cryptocurrency at all
but instead to prohibit it entirely. Evidently, an outright ban fails to recognise the
advantages of cryptocurrency but does provide a clear and simple method to
handle this new asset class which has the potential to have severe
consequences if not managed carefully.

On a broad review of the treatment of cryptocurrencies in a range of

jurisdictions, it is evident that there is no clear and consistent approach. As is
the case with legal characterisation of cryptocurrencies, the adopted regulatory
methods vary between jurisdictions. The map below shows a broad overview of
how various jurisdictions are dealing with the regulation of cryptocurrencies.84

The light-to-tight regulation scale is based on the following criteria:

Are cryptocurrency Legal Tender? Is there any plan to

exchanges and ICOs increase crypto-
banned, regulated or regulation?
operating in a grey
area?

Grey area = 1 point Yes = 1 point Yes = 1 point

Regulated = 2 points No = 0 points No = 0 point

Ban = 3 points

84
Data has been collected and produced by Comply Advantage and should be used as guidance only:
https://complyadvantage.com/blog/cryptocurrency-regulations-around-world/.

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5.1 European Union

The European Union (EU) is a supranational entity with 28 sovereign member

states that delegate a portion of authority and sovereignty to the Union to
achieve common goals. In the EU, steps have been taken to establish regulation
over cryptocurrencies, including the creation of the FinTech Task Force which
seeks to harmonise the existing national laws regulating virtual currencies. On
the other hand, the member states have also initiated separate strategies in
accordance with their local practices. Firstly, this part will review the guidance of
the EU and the practices of the following member states of the EU: the UK,85
The Netherlands, Sweden and Denmark.

A recent paper produced by Policy Department A of the European Parliament86

emphasised concerns about criminals taking advantage of the unregulated
cryptocurrency market for criminal activities, such as money laundering, terrorist
financing and tax evasion. It stated that the scale of misuse is as yet unknown
but has been estimated to exceed EUR 7 billion worldwide. The paper reiterated
the point that the existing European legal framework fails to address the intrinsic
difficulties in cryptocurrency, in particular the issue of anonymity. For example,
anonymity inhibits the activation of certain tax laws, as an individual cannot be
taxed for cryptocurrency transactions if the transaction is not easily attributable
to the real world identity of the user. Therefore, it is in the hands of
cryptocurrency holders to declare their transactions.

The European Parliament believes that introducing mechanisms of

accountability into the crypto-market should prevent the misuse of cryptoassets.
The European Parliament acknowledges that “legislative action should always
be proportionate so that it addresses illicit behaviours while at the same time not
strangling technological innovation at birth.”

One area where the European Commission is taking direct top-down regulatory
action, is in regard to laws on anti-money laundering and counter-terrorist
financing. The EU’s Fifth Anti-Money Laundering Directive87 will apply a new
legal definition of cryptocurrency as a “digital representation of value that can be
digitally transferred, stored or traded and is accepted…as a medium of
exchange.” The Directive provides that cryptocurrency firms and exchanges
must comply with the same AML / counter terrorism financing regulations
applied to financial institutions. Practically, this involves requirements to
undertake customer due diligence and submit suspicious activity reports. The
Directive requires providers of cryptocurrency exchanges and wallets – the
gatekeepers of the industry – to obtain registration with their local regulator.
Member states are required to implement these new rules under national
legislation before 10 January 2020. The European Commission believes that the
reduction in anonymity surrounding cryptocurrencies will increase the trust of
their good faith users. It is likely that certain advocates of cryptocurrencies will
disagree, particularly those that believe there should be less, not more,
government oversight.

85
At the time this paper was written, the UK was in the process of exiting the EU but for the purposes of
this paper has been referred to as a member state of the EU.
86
http://www.europarl.europa.eu/cmsdata/150761/TAX3%20Study%20on%20cryptocurrencies%20-
and%20blockchain.pdf.
87
Directive (EU) 2018/843 of the European Parliament and of the Council of 30 May 2018 amending
Directive (EU) 2015/849 on the prevention of the use of the financial system for the purposes of money
laundering or terrorist financing, and amending Directives 2009/138/EC and 2013/36/EU .

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 INSOL INTERNATIONAL - SPECIAL REORT

5.2 England and Wales

The Governor of the Bank of England, Mark Carney, acknowledged in an

important speech that cryptocurrencies are of growing interest to policymakers.88
In his view, cryptocurrencies do not yet meet the various tests in order to be a
viable alternative means of exchange to Pound Sterling. The Governor also
stated that cryptocurrencies do not, at this stage, pose a material risk to the
financial stability of the UK due to their small size relative to the financial system.
Currently, systemically important UK financial institutions only have minimal
exposure to cryptocurrencies.

The UK’s Financial Conduct Authority (FCA) does not directly regulate
cryptocurrencies. Instead, it has classified derivatives using cryptocurrencies as
the underlying financial instruments, subject to its supervision. For the trading of
cryptocurrencies only, there are no formal mechanisms of redress for any
consumer, nor any mechanism to facilitate investor compensation for trading
losses due to market abuse. ICOs, on the other hand, are reviewed by the FCA
on a case-by-case basis to ascertain whether they involve issuing regulated
financial instruments or not.

The UK Parliament’s Treasury Committee launched an enquiry into

cryptocurrencies on 22 February 2018. This enquiry was designed to investigate
the use of cryptocurrencies and their potential impact on systemically important
institutions and the UK’s regulatory environment.

In the FCA’s written submission on digital currencies to the Treasury Committee,

the FCA reaffirmed that:

“Cryptoassets themselves (i.e. those designed primarily as a

means of payment / exchange) are generally not within the scope
of FCA regulation. Transferring, buying and selling of cryptoassets,
including the commercial operation of cryptoasset exchanges, will
also typically fall outside the FCA’s regulatory perimeter.”89

The Treasury Committee published its final report on 19 September 2018. The
report called for the regulation of the cryptocurrency market and stated that the
ambiguity of both the UK government and regulators’ positions on
cryptocurrencies, is not sustainable. The Treasury Committee noted that
regulation would improve customer outcomes, enable sustainable growth and
reduce risks.

In addition, the FCA is currently working with the UK Treasury and Bank of
England as part of the UK’s Cryptoassets Taskforce (Taskforce). In
October 2018, the Taskforce released its final report, which included
submissions by the FCA, Bank of England and other market experts.90 The
Taskforce concluded that due to the potential significant benefits of distributed
ledger technology, the FCA, Bank of England and the UK Treasury will continue
to support the development of cryptocurrencies and DLT. The three authorities

88
https://www.bankofengland.co.uk/speech/2018/mark-carney-speech-to-the-inaugural-scottish-
economics-conference.
89
http://data.parliament.uk/writtenevidence/committeeevidence.svc/evidencedocument/treasury-
committee/digital-currencies/written/81677.html.
90
https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/-
752070/cryptoassets_taskforce_final_report_final_web.pdf.

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 INSOL INTERNATIONAL - SPECIAL REORT

promised to take action to mitigate risks to consumers and market integrity,

prevent illicit activity and guard against threats to financial stability. The
authorities have agreed to consult on:

a) implementing one of the most comprehensive responses globally to the use

of cryptoassets for illicit activity;
b) a potential prohibition of sale to retail consumers of derivatives where the
underlying asset is cryptocurrency;
c) guidance on how cryptoassets are treated within the existing regulatory
framework; and
d) whether new regulation or an extension of the regulatory perimeters would
be required.

In January 2019, the FCA published a consultation paper on cryptocurrencies.

The FCA is seeking industry and public feedback on proposals on FCA
guidance on cryptocurrencies and the regulatory perimeter.

The table below, provided by the FCA to the Treasury Committee, helpfully sets
out the different forms of cryptoassets and products that may relate to the
underlying cryptoasset and whether these would fall within the regulatory
parameters.91

Product area Within perimeter? Typical use case

Cryptoassets as a medium N Peer-to-peer payments,
of exchange and investment assets, for
example, Bitcoin and
Ethereum

Regulated payments Y Intermediary in

services that use cross-border transactions,
cryptoassets for example, GBP – Bitcoin
– USD transactions

Derivative instruments Y Financial instrument to bet

referencing cryptoassets on price developments
(Contracts for difference
(CfD)) or to hedge a
position (futures), for
example CfD providers IG,
Crypto Facilities and
Plus500

Investment assets in Y Direct investments in

cryptoassets cryptoassets, for
example, Swedish
registered exchange
traded notes

91
http://data.parliament.uk/writtenevidence/committeeevidence.svc/evidencedocument/-
treasury-committee/digital-currencies/written/81677.html.

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 INSOL INTERNATIONAL - SPECIAL REORT

Product area Within perimeter? Typical use case

Tokens representing Y (security token) Distribution infrastructure
transferable security for regulated products such
as shares and bonds, for
example, issue of
traditional shares on public
blockchain. Also in the
context of ICOs, when
tokens amount to a
transferable security, more
akin to regulated
equity-based crowdfunding

Tokens representing a N (“utility token”) Tokens that do not amount

claim on prospective to transferable securities or
services or products other regulated products
and only allow access to a
network or product. Can
also be used as a
fundraising mechanism
akin to unregulated
donation and
rewards-based crowd
funding, also in the context
of ICOs

As part of the FCA’s Project Innovate initiative, the regulator has granted access
to its regulatory sandbox to various fintechs experimenting with cryptoassets.
The regulatory sandbox is a way for firms to test new products in a live
environment with real customers, by relying on temporary FCA waivers from
obtaining authorisation to conduct regulated business. It has existed for a few
years and in 2018 40% of the 29 firms granted access were using DLT.92

For issuers and their advisors engaging in ICOs in the UK, the FCA’s
acknowledgement that it does not consider cryptocurrencies themselves as
currencies, commodities or other financial instruments under MiFID II,93 is good
news. However, it does serve as a timely reminder for firms considering making
offerings of futures or options based on cryptocurrencies, that FCA authorisation
and supervision will be a mandatory requirement. The ICO market had tapered
off sharply at the end of 2018 as issuers consider the changing regulatory
environment and investors pull away from ICOs.

The FCA was investigating 24 businesses that deal with cryptocurrencies in the
UK and has opened seven whistleblower reports during 2018 that consider
whether the businesses in question might be carrying on regulated activities that
require FCA authorisation. The FCA confirmed that it is focusing on “identifying
and determining the most serious matters which pose the greatest risk to
consumers” and if regulatory breaches are found they will take enforcement
action. The FCA noted in April that “it is likely that dealing in, arranging
transactions in, advising on or providing other services that amount to regulated
activities in relation to derivatives that reference either cryptocurrencies or

92
https://www.paymentscardsandmobile.com/fca-approval-are-cryptocurrencies-going-mainstream/.
93
Markets in Financial Instruments Directive 2014/65/EU of the European Parliament and of the Council
of 15 May 2014 on markets in financial instruments and amending Directive 2002/92/EC and Directive
2011/61/EU Text with EEA relevance.

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 INSOL INTERNATIONAL - SPECIAL REORT

tokens issued through an ICO will require authorisation by the FCA.” Penalties
for breach include fines and may potentially involve imprisonment.

The Bank of England has confirmed that it will not be issuing any digital
currency. Central bank digital currency is the digital form of fiat money
established as money by government regulation and law. Central bank digital
currency differs from that of other digital currency as it will be issued and backed
by the state.

A report prepared for the European Parliament’s Economic and Monetary Affairs
Committee, acknowledges that providing central bank backed digital coins could
avoid recurrent instability of the banking system as the fractional reserve
character of the current banking system can be a major source of instability.
This was contrary to the guidance issued by the Bank for International
Settlements, which argued that central banks should not develop their own
digital currencies as there may be potentially serious implications for monetary
policy and financial stability. The Bank of England has noted these reports but
concluded that it will not be issuing central bank digital currency in the medium
term.

5.3 Sweden

Trading using cryptocurrencies is not closely regulated under Swedish law.

Under Swedish law, trading cryptocurrency is a regulated activity that requires
permission from the Swedish Financial Supervisory Authority (Swedish FSA).
The Swedish FSA and the Swedish National Bank have agreed that
cryptocurrency is not currency or cash. However, the Swedish FSA has stated
that a company that allows individuals to purchase cryptocurrencies must be
registered under the Swedish Currency Exchange and Other Financial Activities
Act.94

Cryptocurrencies have not been defined as financial instruments under Swedish

regulation. However, it is likely that the purchase of and offering advice on
investments in cryptocurrencies will most likely be regulated by the Swedish
FSA. It is also likely that cryptocurrencies may be regulated by other Swedish
authorities, depending on the type of cryptoasset in question. For example,
blockchain technology may fall within the remit of the Swedish Data Protection
Authority. If the cryptoasset is associated with medical records or other similar
assets, it could be regulated by the Swedish Health Care Authority. However
this is highly speculative and as of today the only regulation that exists is that of
the Swedish Currency Exchange and Other Financial Activities Act and the
Swedish Tax Agency in relation to the sale and purchase of cryptocurrencies.

There remains continued debate over how trades involving cryptocurrencies will
be regulated and how to ensure consumer protection. The first concern relates
to the financial risks attached to investing in cryptoassets. The Swedish FSA
states that it is of high importance that companies offering cryptocurrency
investment services in the market ensure that consumers are informed of the
novel characteristics of the cryptoasset and the risks involved in trading in it.
This is particularly pertinent considering that regulation lags far behind the
development of this market and at present consumers are engaging in activities
that ought to be regulated but are not. Another concern is the manner in which

94
1996:1006. https://www.fi.se/sv/bank/sok-tillstand/valutavaxlare-och-annan-finansiell-verksamhet/.

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the cryptocurrency market may be subject to money laundering and the

financing of terrorism.95

5.4 The Netherlands

The Netherlands Central Bank (DNB) and the Dutch Authority for Financial
Markets (AFM) do not categorise Bitcoin and other cryptocurrencies as money.
Cryptocurrencies are also not considered e-money under the EU E-Money
Directive.96 It appears that the centralised system cannot be identified as an
issuer and any amount held in, for example, Bitcoin does not represent a claim
against an issuer. Accordingly, in the Netherlands cryptocurrencies are not
subject to robust regulatory supervision.

As cryptocurrencies do not qualify as e-money, related services do not, for

example, fall under the scope of the EU Payments Directive.97 Despite the use
of the words “currency” and “coin”, holders of cryptocurrencies do not, generally,
intend to purchase goods and / or services using the cryptocurrency and
cryptocurrencies are not a widely accepted means of payment. Given the high
volatility of cryptocurrencies, this is unlikely to change. For most purchasers of
cryptocurrencies the purpose is (high-risk) investment. Cryptocurrencies are
held with the intention to sell at a higher price. In this respect the Dutch
supervisory authorities do not consider cryptocurrencies to be a “financial
instrument”, a (tangible) “investment object” or other “financial product” as
defined in the Dutch Financial Supervision Act (DFSA). Intermediaries in
cryptocurrencies do not therefore require an intermediary license. However, an
investment fund (manager) that offers participation rights in, for example, fund
holding cryptocurrencies, is subject to financial regulatory supervision. Further,
trade in derivatives linked to the value of a cryptocurrency is subject to
regulation. Although the DNB and AFM have warned the public in respect of
cryptocurrencies and expressed concerns related to financial crime, the
prohibition of cryptocurrencies is not currently on the table.

5.5 Denmark

Denmark has not seen a significant demand for the regulation of

cryptocurrencies. The Danish National Bank has, however, been quite vocal in
its warnings against cryptocurrencies, essentially labelling them as nothing more
than highly volatile investment items. The Chairman of the Board of Governors
of the Danish National Bank has warned that “its lethal. It’s an effective form of
gambling.” and he has compared the 2017 / 2018 digital gold rush to the
17th century tulip mania, where tulip bulbs went from being collector’s items to
being speculative items, thereby skyrocketing their market price for the duration
of the bubble, after which the price crashed.

95
https://www.fi.se/sv/publicerat/nyheter/2013/eba-varnar-for-virtuella-valutor/.
96
Directive 2009/110/EC of the European Parliament and of the Council of 16 September 2009 on the
taking up, pursuit and prudential supervision of the business of electronic money institutions amending
Directives 2005/60/EC and 2006/48/EC and repealing Directive 2000/46/EC.
97
Directive (EU) 2015/2366 of the European Parliament and of the Council of 25 November 2015 on
payment services in the internal market, amending Directives 2002/65/EC, 2009/110/EC and
2013/36/EU and Regulation (EU) No 1093/2010, and repealing Directive 2007/64/EC.

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5.6 Russia

There has been a dramatic shift in the rhetoric used by Russian officials in
relation to cryptocurrencies and blockchain assets in recent years. In a little
under a year, officials have gone from proposing that cryptocurrencies be
banned and users imprisoned, to suggesting legalisation as a potential solution.
In January 2014, the Central Bank of the Russian Federation issued its first
statement about cryptocurrencies. They referred to them as speculative,
high-risk and not backed by state entities. Then, a few years later, in
September 2016, the Russian Central Bank issued a statement warning the
public about investing in cryptocurrencies. It mentioned that it would be
monitoring cryptocurrencies and developing, together with the state, a legal
framework to regulate cryptocurrencies. In October 2017, Russian
President Vladimir Putin ordered the government to create legislation for
cryptocurrencies, including determining their status and creating a legal
framework for crypto mining and ICOs.

At the end of March 2018, the first versions of the draft laws “On Digital
Financial Assets”, “On Attracting Investment Using Investment Platforms” and
“On the Introduction of Amendments to Parts One, Two and Four of the Civil
Code of the Russian Federation”, were presented by Russia’s Ministry of
Finance (MinFin) and the government of the Russian Federation. The initial
objectives of the documents are to minimise the existing risks of using digital
objects for transferring assets into an unregulated digital environment for the
legalisation of criminal income, bankruptcy fraud or for sponsoring terrorist
groups. Russia has been trying to pass cryptocurrency legislation since the
beginning of January 2018, with no success so far.

5.7 United States

The Securities and Exchange Commission (SEC) has engaged in enforcement

activities, predominantly focusing on cryptocurrency as a security. Notably, the
SEC produced its Decentralised Autonomous Organisation (DAO) Report in
June 2017,98 concluding that under the Howey Supreme Court test, virtual
currencies could be considered security contracts for the purposes of SEC
regulation. Since the release of that report, the SEC has vigorously pursued
cryptocurrency companies under US securities laws. On 16 November 2018,
three divisions of the SEC issued a joint statement on Digital Asset Securities
Issuance and Trading. In addition, the SEC has promised new guidance
regarding cryptocurrencies in early 2019.99

Similarly, the Commodities Futures Trading Commission (CFTC) regulates

virtual currencies as commodities. The CFTC has argued that cryptocurrencies,
like Bitcoin, are commodities and have succeeded in making these arguments to
US courts. On 21 May 2018, the CFTC issued an Advisory with respect to
Virtual Currency Derivative Product Listing,100 offering insight into the CFTC’s
“enhanced market surveillance” and “risk management” efforts.

98
Release No 81207, Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of
1934: The DAO, July 25, 2017; https://www.sec.gov/litigation/investreport/34-81207.pdf.
99
https://news.bloomberglaw.com/securities-law/sec-plans-plain-english-crypto-securities-guide.
100
https://www.cftc.gov/sites/default/files/idc/groups/public/%40lrlettergeneral/documents/letter/-
2018-05/18-14_0.pdf.

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 INSOL INTERNATIONAL - SPECIAL REORT

The US Department of Justice has followed suit, supporting both the SEC’s and
the CFTC’s interpretation of cryptocurrencies as investment contracts and as
commodities. The Department of Justice’s involvement has ranged from actively
levying criminal charges concurrent with the SEC, to engaging in joint
investigations with the CFTC related to commodity market manipulation.101

The Inland Revenue Service (IRS) expects individuals to pay taxes on

cryptocurrency, whether mined, traded, or otherwise accumulated. According to
its 25 March 2014 guidance, “[t]axpayers may be subject to penalties for failure
to comply with tax laws, [including] underpayments attributable to virtual
currency transactions …[or] failure to timely or correctly report virtual currency
transactions when required to do so.”

The Financial Crime Enforcement Network also seeks to regulate

cryptocurrency transactions under the Bank Secrecy Act, including application of
Anti-Money Laundering and Combatting Financing of Terrorism rules.102

5.8 Other jurisdictions

As mentioned previously, certain jurisdictions have banned cryptocurrencies

altogether: Bangladesh, Bolivia, China (use by financial institutions /
companies), Ecuador and Morocco. In particular, China had been an active
cryptocurrency market until the decision to ban exchanges, financial institutions
and payment processors from handling them came into force. Individuals,
however, appear to still deal in cryptocurrencies in China.

The decision to ban rather than regulate does not appear to take into
consideration the benefits and opportunities to be gained from the development
of the technologies. However, a decision to regulate may curtail illicit activities,
protect the financial system and take advantage of the technological
developments.

6. Conclusion

In 2017 there was a period of growth and increased investment in

cryptocurrencies where, at its peak, Bitcoin was valued at USD 20,000. Since
2018, there has been a sharp decline in the value of cryptocurrencies: in
December 2018 the value of Bitcoin slumped to USD 3,000. However, it is
unlikely that the cryptocurrency bubble has imploded as the value has been
steadily rising since then and it appears that the crypto winter may be over.

Over the last few years we have seen a rise in the number of insolvency
proceedings that comprise some form of cryptoasset. Notably, the formal
proceedings in MtGox demonstrates the issues that the insolvency professional
is required to contend with where the estate comprises cryptoassets. The MtGox
proceeding has been a long and arduous experience for all stakeholders

101
See, eg
https://www.dlapiper.com/en/us/insights/publications/2018/09/edny-us-securities-laws-can-be-used-to-p
rosecute-ico-fraud/; https://www.sec.gov/news/press-release/2018-218;
https://www.coindesk.com/us-department-of-justice-cftc-probe-crypto-market-manipulation-report;
https://www.bloomberg.com/news/articles/2018-05-24/Bitcoin-manipulation-is-said-to-be-focus-of-u-s-cri
minal-probe.
102
FinCEN Letter to Senator Ron Wyden (February 13, 2018);
https://coincenter.org/files/2018-03/fincen-ico-letter-march-2018-coin-center.pdf.

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involved and required guidance from the Japanese Courts to validate the
decisions taken by the trustee. It is also relevant that the proceedings have twice
changed; from a civil rehabilitation proceeding to a bankruptcy proceeding,
finally returning to a civil rehabilitation proceeding as the value of Bitcoin
increased.

As discussed in this paper, the current regulatory and legislative frameworks

around the world have not yet fully evolved to tackle the issues associated with
cryptoassets. This paper seeks to consider the rudimentary questions that arise
when a new asset class is created. It is clear from our analysis that the
legislative frameworks around the world fail to realise the complexities of
cryptocurrencies and the need for a sophisticated legislative regime. As with all
things, the uncertainty of an unstructured regulatory regime is likely to cause
great hindrance to the growth of the cryptocurrency market. It would appear that
regulators and legislators will continue to play a crucial role in determining the
future of cryptocurrencies.

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AlixPartners LLP
Allen & Overy LLP
Alvarez & Marsal
Baker McKenzie
BDO
Brown Rudnick LLP
Clayton Utz
Cleary Gottlieb Steen & Hamilton
Clifford Chance LLP
Conyers
Davis Polk & Wardwell LLP
De Brauw Blackstone Westbroek
Deloitte LLP
Dentons
DLA Piper
EY
Ferrier Hodgson
Freshfields Bruckhaus Deringer LLP
FTI Consulting
Goodmans LLP
Grant Thornton
Greenberg Traurig LLP
Hogan Lovells
Huron Consulting Group
Jones Day
King & Wood Mallesons
Kirkland & Ellis LLP
KPMG LLP
Linklaters LLP
Morgan Lewis & Bockius LLP
Norton Rose Fulbright
Pepper Hamilton LLP
Pinheiro Neto Advogados
PwC
Rajah & Tann Asia
RBS
RSM
Shearman & Sterling LLP
Skadden, Arps, Slate, Meagher & Flom LLP
South Square
Weil, Gotshal & Manges LLP
White & Case LLP

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