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There have been several recent bankruptcy filings due to the dramatic drop in cryptocurrencies. This includes FTX Trading and Celsius Network. Deposit collection can be difficult for customers affected by these filings.
Crypto exchanges allow customers to buy, sell, and exchange digital assets. Customers can choose to deposit their assets on an exchange or move their assets to their personal wallets.
Cryptocurrency lenders, on the other hand, offer loans in cryptocurrencies or fiat currencies, which are government-issued currencies that are not backed by commodities such as gold. These lenders often offer their customers the ability to deposit cryptocurrencies on their platform. Lenders deploy to profit by lending, hypothesizing, staking, or selling assets.
Due to limited industry regulation, these companies operate with little government oversight and no uniform guidelines for managing customer deposits. In many cases, each lender or exchange must impose its own guardrails to control and protect customer deposits.
This uncertain situation contributes to confusion regarding the disposition of customers’ digital assets in the event of lender or exchange bankruptcy.
Nonetheless, some common threads have surfaced, such as:
- Who owns the digital assets deposited by the customer with the virtual currency company may depend on the contractual relationship between the customer and the virtual currency company
- Even if customers own digital assets, many bankrupt cryptocurrency companies may not be able to return customers’ assets in kind.
Who Owns Crypto Assets?
Default under bankruptcy law is to fix the value of a bond on the date the debtor files for bankruptcy. However, if a customer owns assets, those assets may be returned in kind, allowing the customer to benefit from the increased value of their digital assets during bankruptcy.
In the Celsius case, the Southern District of New York ruled that customer deposits in certain accounts were property of bankruptcy property, not customer property. The court ruled that the terms and conditions constitute a binding contract assigning ownership of the deposit to Celsius.
While the ruling is not binding on courts in other virtual currency Chapter 11 litigation, it represents a major development in the law regarding ownership and handling of digital assets. Parties have applied similar logic to their discussions in other cases.
For example, various groups of FTX customers recently argued that because the terms of service provided for customers to retain ownership of their assets, those assets did not become the property of FTX bankruptcy property upon filing. bottom.
The Celsius decision provides a roadmap for arguments that may soon apply to similar bankruptcy cases.
Property recovery
Even if a court decides that digital assets held by bankrupt exchanges and lenders are customer assets and not real estate assets, many bankrupt cryptocurrency companies may not be able to return customer assets in kind. there is.
In some cases, once deposited with an exchange or lender, customer assets are mixed with other customer assets or assets of an exchange or lender in a centralized wallet. This makes it difficult, if not impossible, to track ownership of titles in digital assets.
Additionally, cryptocurrency companies often manage billions of dollars of exposure through digital asset trading and loans, but often only hold a portion of those assets in their accounts.
As such, crypto bankruptcy customers face serious hurdles to recover from the risks posed by the rapid and unregulated growth of crypto lenders and exchanges.
For example, FTX recently disclosed $5.5 billion in various assets. Although significant, this number is not enough to cover all customer deposits.
Similarly, an interim report by a court-appointed examiner in the Celsius bankruptcy revealed that the crypto assets held by Celsius were approximately $50 million less than the amount deposited by its customers.
FTX’s rapid downfall has raised allegations of fraud and mismanagement. This includes allegations that founder Sam Bankman-Fried used customer deposits to purchase personal properties and contribute to political campaigns.
Similarly, according to court-appointed examiners in Celsius’ bankruptcy, customer deposits were mixed “without adequate accounting and operational controls or technical infrastructure.”
Advance
These circumstances complicate customers’ ability to recover assets from failed cryptocurrency companies, and identifying the owners of digital assets is the first in a potentially long-term battle to recover customers’ assets. It is clear that it is only a step of
If there are not enough digital assets to cover all of the customer’s claims, the customer may find themselves struggling to recover a proportionate portion of the assets they may legally own. No. Additionally, cryptocurrency bankruptcies involving fraud and Ponzi schemes may subject commingled customer assets to government confiscation or return orders, making customer recovery even more difficult.
Bankruptcies of crypto lenders and exchanges have revealed a lot about the sector and the disposition of distressed crypto assets. Ownership of crypto assets in bankruptcy may depend on the contractual relationship between the customer and the crypto company.
But even when customers own their assets, poor risk management and, in some cases, outright fraud complicate the process for customers to recover their assets.
As these cryptocurrency bankruptcies progress, the situation of distressed crypto assets may soon become apparent.
This article does not necessarily reflect the opinions of The Bureau of National Affairs, Inc., publishers of Bloomberg Law and Bloomberg Tax, or their owners.
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Jessica Liu Partner in Weil’s restructuring department. She represents and advises debtors, creditors, stockholders, investors and other stakeholders in all aspects of distress and bankruptcy situations.
John Marinelli Associate in Weil’s restructuring department.
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