Chasing the Intangible: Cryptocurrency Fraud and Disputes

Lee Shih

Lee Shih and Cheryl Yee write about the rise of cryptocurrency fraud and disputes.

With the rise in the value of Bitcoin and other cryptocurrencies, there is also a significant rise in fraud and disputes relating to cryptocurrency. We highlight some of the recent legal developments.

What is Cryptocurrency?

As an introduction, cryptocurrency is a form of digital money. Unlike fiat money, which is government-issued money, cryptocurrency is a medium of exchange that is digital, encrypted and decentralised. There is no central authority that manages and maintains the value of a cryptocurrency. Instead, transactions are verified and maintained through a peer-to-peer network called a blockchain.

In the most simple of words, cryptocurrency can be seen as a form of digital money. It is a digital store of value and acts as a medium of exchange. This means that you could possibly use cryptocurrency to buy a Tesla car or even to pay for space travel.

Cryptocurrency Fraud and Disputes

With all things that carry value, disputes may arise.

There may be outright theft and hacks involving cryptocurrency. Ransom may be demanded in cryptocurrency instead of money transfers. This is due to the perceived anonymity of being able to hide away large amounts of cryptocurrency and not be detected.

Some recent cryptocurrency fraud and hacks in the news:

  • June 2021: The US recovered most of the ransom paid through 75 bitcoins (approximately US$4.4 million at the time) arising from the Colonial Pipeline hack.

Keeping pace with cryptocurrency disputes, the legal issues and remedies have also continued to evolve. We deal with some of such issues.

#1: Is cryptocurrency ‘property’?

When assessing legal remedies, a critical element is whether the law recognises cryptocurrency as property. One argument may be that cryptocurrency is not property because it is virtual, intangible, and does not embody any right capable of being enforced by action.

Under English law, there is a strong suggestion that cryptocurrency, such as Bitcoin, is indeed property. See the English High Court decision in AA v Persons Unknown [2019] EWHC 3556. This decision also referred to the UK Jurisdiction Taskforce Legal statement on cryptoassets and smart contracts. The Taskforce statement essentially viewed cryptocurrency as having all of the indicia of property and that cryptocurrency is to be treated in principle as property.

The New Zealand High Court decision of Ruscoe v Cryptopia Limited (in liquidation) [2020] NZHC 728 held that cryptocurrencies are a form of property and capable of being held on trust.

Cryptopia was a cryptocurrency exchange. In January 2019, Cryptopia’s servers were hacked. Somewhere between 9% to 14% of its cryptocurrency valued at NZD30 million was stolen. In May 2019, Cryptopia’s shareholders placed the company into liquidation. The liquidators applied for guidance from the court on the legal status of the cryptocurrencies held by Cryptopia. The court decided that cryptocurrency was a species of property and could be held on trust.

In Malaysia, cryptocurrency is viewed as a form of securities. See the Capital Markets and Services (Prescription of Securities) (Digital Currency and Digital Token) Order 2019.  The term ‘securities’ relate to being a form of a financial instrument that can be traded.

Under this Digital Currency Order 2019, cryptocurrency is essentially defined as “digital currency”. The definitions in the Digital Currency Order 2019 seem to have indicia of property where cryptocurrency is recognised as “a medium of exchange”, “interchangeable with any money, including through the crediting or debiting of an account”, and “traded in a place or on a facility”.

There is also Malaysian case law that considered Bitcoin as akin to a commodity (see Robert Ong Thien Cheng v Luno Pte Ltd [2019] 1 LNS 2194). The court held that “it cannot be disputed that [Bitcoin] is a form of ‘commodity’ as real money is used to purchase the cryptocurrency.” The court ordered that the 11.3 bitcoins mistakenly paid out should be returned to the cryptocurrency exchange, Luno. The court applied section 73 of the Contracts Act 1950: “a person to whom … anything delivered, by mistake or under coercion, must repay or return it.” The bitcoins fell within that phrase “anything delivered”.

#2: Who are the targets?

 A claimant may have an identified respondent to bring a legal claim against. However, what if the perpetrator is anonymous or unknown?

An increasingly common feature of cryptocurrency fraud is to pursue legal relief against persons unknown. In the English High Court case of AA v Persons Unknown [2019] EWHC 3556, anonymous hackers had installed malware into the victim’s computer system, and demanded the victim pay a ransom in bitcoin to regain access to its system.

The court granted an injunction against “persons unknown who demanded Bitcoin on 10th and 11th October 2019” and “persons unknown who hold/controls 96 Bitcoins held in a specified Bitfinex Bitcoin address”.

Some examples of English cryptocurrency decisions involving persons unknown:

Similarly, Malaysia would allow for injunctions against persons unknown. In the Malaysian High Court case of Zschimmer & Schwarz v Persons Unknown & Anor [2021] 7 MJ 178, anonymous fraudsters had deceived a German company to pay funds into a Malaysian bank account. The court allowed orders against the persons unknown who perpetrated the fraud.

#3: Self-identification order

 A self-identification order, or sometimes referred to as a Spartacus order, requires the persons unknown to identify themselves and to provide an address for service.

In the English High Court case of PML v Persons Unknown [2018] EWHC 838 (QB), anonymous hackers stole a large quantity of data from the victim company. In addition to granting an injunction against the anonymous hackers, the court granted a self-identification order. The order would order the persons unknown to identify himself/herself and provide an address for service. As the court explained, very few defendants can remain confident that they will ultimately manage to evade identification. If they fail, they will face contempt of court.

Similarly, the Malaysian decision in Zschimmer & Schwarz v Persons Unknown & Anor (No 2) [2021] 3 CLJ 587 saw the court also making a self-identification order. This was to compel the persons unknown fraudsters to identify themselves.

#4: Mareva freezing injunction and proprietary injunction

A Mareva freezing injunction can be employed to prevent the perpetrator from dissipating his assets and thus, rendering any final court order nugatory.

A related remedy is that of the proprietary injunction. Such an injunction allows a claimant to injunct or freeze identified assets or property i.e. identified cryptocurrency.

Courts are prepared to adopt both types of injunctive tools. Some examples are seen below:

  • English High Court case of Fetch.ai limited and another v Persons Unknown and others [2021] EWHC 2254 (Comm): A worldwide Mareva freezing injunction and proprietary injunction were granted. Persons unknown accessed the claimant’s accounts with Binance holding various cryptocurrencies like Bitcoin and Tether (USDT). The persons unknown sold the cryptocurrencies at a massive undervalue to third-party accounts. The losses were more than USD2.6 million.
  • English High Court case of Elena Vorotyntseva v Money-4 Limited t/a Nebeus.com and others [2018] EWHC 2596 (Ch): In addition to the Mareva freezing injunction, the court granted a proprietary injunction over some of the disputed 293 bitcoins and 400 ethereum cryptocurrency (at the time, worth about GBP1.5 million).
  • English High Court case of Robertson v Persons Unknown: the court granted a proprietary injunction over Bitcoin that had eventually been transferred into the cryptocurrency exchange, Coinbase. The plaintiff was the victim of a spear phishing attack. As a result, the plaintiff had transferred the 100 bitcoins to the fraudster’s digital wallet, which the fraudster then subsequently transferred to various cryptocurrency exchanges.
  • English High Court decision of Ion Science Limited v Persons Unknown and others: the claimants stated they were victims of a cryptocurrency initial coin offering or ICO fraud. The claimants transferred about 64 bitcoins (around GBP577,000) to the persons unknown fraudsters thinking they were investing in real cryptocurrency products. The court granted orders for proprietary injunctions and a worldwide Mareva freezing order against the persons unknown.
  • Hong Kong Court of First Instance decisions in Nico Constantijn Antonius Samara v Stive Jean-Paul Dan [2019] HKCFI 2718 and [2021] HKCFI 1078. The claimant had sought the respondent’s help to sell the claimant’s bitcoins for a commission. The claimant transferred more than 660 bitcoins to the respondent’s nominated Bitcoin wallet on the cryptocurrency exchange, Gatecoin. The respondent then could not be contacted. The court granted a Mareva freezing injunction and a proprietary injunction over the remaining bitcoins held by Gatecoin.
  • The Federal Court of Australia decision in ASIC v Remedy Housing Ptd Ltd [2021] FCA 673. The Australian Securities and Investments Commission obtained urgent freezing orders and disclosure orders in relation to an unlicensed mortgage lender. The respondents had invested some of the unlicensed monetary deposits in cryptocurrency exchanges. Hence, the wording of the orders included references to cryptocurrency, cryptocurrency accounts, authentication devices to access the accounts, any public or private keys, and any hard wallet device containing cryptocurrency.

#5: Volatility in the Cryptocurrency Price: Impact on Injunctions

When deciding whether injunctions are an appropriate remedy, the court can also take into account the volatility of the cryptocurrency prices.

In the English High Court case of Toma v Murray [2020] EWHC 2295 (Ch), the claimants sold bitcoins to the respondent. The claimants were initially paid for the transaction but the payments were almost immediately reversed. The claimants obtained and sought to continue an injunction over the bitcoins. The court refused to continue the injunction. One of the factors that the court took into account was the volatile nature of Bitcoin. There may be a risk of loss to the respondent if the bitcoins continued to be injuncted. The court held that the balance of convenience lied in releasing the injunction. The claimants would have a personal remedy for damages against the respondent, rather than a proprietary remedy against the bitcoins.

This case demonstrates that while cryptocurrencies may very well be property, their volatile values may be taken into account when determining whether injunctions are the most appropriate form of remedy.

#6: Disclosure Orders and Other Orders against Cryptocurrency Exchanges

Courts have also been willing to grant non-party disclosure orders against third parties such as cryptocurrency exchanges.

These orders could be a Norwich Pharmacal order, being an order against a third party for the disclosure of documents or information. Or a Bankers Trust order which is a disclosure order made against banks or other entities holding misappropriated or stolen funds, or now, misappropriated cryptocurrency.

Some of the cryptocurrency exchanges subject to court decisions on disclosure:

  • Bitfinex: In AA v Persons Unknown, one aspect of the proprietary injunction was for the cryptocurrency exchange, Bitfinex, to identify the persons unknown, including their address, and to produce Bitfinex’s KYC material.
  • Binance: In Fetch.ai limited and another v Persons Unknown and others [2021] EWHC 2254 (Comm), the court allowed a Bankers Trust order against the cryptocurrency exchange, Binance. There was also some discussion on which was the correct Binance legal entity. The court commented that the “material generated by the Binance Group concerning which entities conduct what business is remarkably opaque.” The Bankers Trust orders were eventually made against Binance Holdings Limited (registered in the Cayman Islands) and Binance Market Limited (registered in the United Kingdom).
  • Coinbase: In Robertson v Persons Unknown, the victim applied for a Bankers Trust order against Coinbase to identify the individual who controlled the wallet containing 80 bitcoins.
  • Tether Holdings: Tether Holdings is not a cryptocurrency exchange but is a minter or issuer of the cryptocurrency known as Tether. In Lubin Betancourt Reyes v Persons Unknown and others [2021] EWHC 1938 (Comm), the claimant was a victim of a phishing fraud and transferred Tether into the fraudster’s wallet. Due to the operation of the Tether cryptocurrency, Tether Holdings had frozen the claimant’s Tether on a temporary basis to protect the status quo. The court then granted a proprietary injunction to further protect the Tether and also granted disclosure orders (Norwich Pharmacal and Bankers Trust orders) against Tether Holdings.

In Malaysia, while there are no known decisions for a cryptocurrency-related disclosure orders, courts here have readily granted Bankers Trust orders as well as third party discovery orders under Order 24 rule 7A of the Rules of Court 2012.

In cases of fraud, these orders are typically made against financial institutions to trace the fund flow. In the future, we would expect Malaysia cases to readily make the necessary orders to trace and order disclosure of the cryptocurrency flow as well.

Conclusion

We have no doubt that legal developments and judicial ingenuity will allow the law to keep pace with the technological developments in the cryptocurrency space.

 

Cheryl Yee is a graduate of the University of Warwick. She is an incoming pupil with Lim Chee Wee Partnership.

 

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