Cryptocurrencies from an insolvency perspective

Cosgrove Gaynard Solicitors

In the context of insolvency, insolvency practitioners now have to deal with a new class of “digital asset” which I expect will cause some difficulty in terms of tracing and identification of assets, particularly taking into mind that there are a number of privacy coins designed to specifically avoid tracking and, indeed, there are crypto exchanges registered outside of EU jurisdictions and therefore avoiding stringent privacy policies which you would expect in this jurisdiction.

It is probably clear that we believe cryptocurrencies and blockchain technology are here to stay.

 

Simple statistics on Google search results regarding the words “Cryptocurrency”, “Blockchain” and “ICOs” shows the intense level of interest  with investors from all over the world ready to discover the next big ICO or cryptocurrency in any given country.

 

It has been described as a new digital world order of kind but was does appear to be clear is that there is a new digital world unfolding and in its most simplistic form, this allows for secure money transactions to take place from one country to another in a matter of seconds.

 

A lot of Governments have been slow to recognise cryptocurrencies and, as such, there are still regulation and legislative issues out there that need to be resolved. 

 

In the context of insolvency, insolvency practitioners now have to deal with  a new class of “digital asset” which I expect will cause some difficulty in terms of  tracing and identification of assets, particularly taking into mind that there are a number of privacy coins designed to specifically avoid tracking and, indeed, there are crypto exchanges registered outside of EU jurisdictions and therefore avoiding stringent privacy policies which you would expect in this jurisdiction. 

 

You would expect that eventually insolvency practitioners will seek to put a mechanism in place to allow them access to exchanges or blockchain technology to investigate transactions from a forensic accountancy perspective, however, how this plays out is yet to be determined.  I expect there will be significant resistance to any such powers being granted given the whole basis for the invention of cryptocurrencies was decentralisation.

 

For now, insolvency practitioners will have to rely on the cooperation of a director or person in relation to declaring and liquidating digital assets unless they can otherwise trace them through bank accounts etc. 

 

Recent case law comes from Russia where an individual who was declared bankrupt was ordered to provide information about his cryptocurrency holdings.  However, interestingly enough, a decision is yet to be made on whether the cryptocurrency holdings of the bankrupt can be included in the bankruptcy estate and made available to the creditor.  Obviously our insolvency regime in Ireland is extremely different to Russia, however, it is interesting to note that this is an asset class that will have to be looked at in relation to defining whether it is actually an asset or money or whether, indeed, insolvency rules apply or need to be changed in relation to this new technology.

 

In relation to the Mt Gox case,  insolvency has shown quite a large number of issues in relation to this new crypto world.  In this case, there was an exchange that entered administration after hackers stole approx. 850,000 bitcoins forcing Mt Gox which was the biggest exchange for bitcoin at the time , into liquidation.  The trustees did subsequently recover some  of the bitcoins which were stolen and, indeed, the sale of these bitcoins has in recent months been blamed for volatility in the market and the fluctuations in bitcoin prices.

 

Interestingly enough, the value of the estate in this case grossly exceeded the claims of creditors as they only recovered the value of the coins they had at the time which was approx.. $550 per coin, however, on recovery the value was close to $1.5 billion.  In this case an interesting question arose as to whether creditors had a proprietary claim in respect of the digital currency or did they have a claim for the cash value of the bitcoin as at the date of the insolvency as mere creditors. 

 

Unfortunately for creditors, under Japan’s civil code the Court found that creditors could not have proprietary ownership in the bitcoins on deposit and, as such, they were only entitled to the cash equivalent at the date of the insolvency and this seems to have resulted in a billion dollar windfall for the majority shareholder of Mr Gox. 

 

Some Mt Gox creditors have, we believe, sought conversion of the bankruptcy proceeding into "civil rehabilitation" under the Japanese Companies Creditors Arrangement Act which  could result in a plan of compromise by which creditors could recover a pro-rata share of their original holdings in the form of bitcoin rather than yen, allowing them to benefit from the massive appreciation in bitcoin value post-filing.

 

It is likely this issue will arise again whether it be in Japan or in another jurisdiction whereby crypto owners will seek to assert a proprietary interest to recover tokens held on an  exchange .

 

 

It may be that we will have to look to current legislation to see if it is equipped to handle this new digital rising and either way it is clear that this technology will create some new and interesting issues for insolvency practitioners to overcome. 

 

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