CRYPTOCURRENCY TRADING AND INSOLVENCY REGULATION IN NIGERIA

At the international level, given the cross-border nature of cryptocurrency networks, a key question is who should oversee the markets for cryptocurrencies and financial market infrastructure (FMI) that interact with crypto-assets[7] in payment, settlement and other activities. These potential ecosystem risks lead to fragmentation of solutions and inconsistencies in interpretive guidance that may eventually hurt consumers and investors in the long term. Already, certain cryptocurrency market intermediaries have suffered disruptions with some frequency, most notably the bankruptcy of notable exchange platforms (e.g. Mt. Gox)[8]. And, as the Federal Trade Commission (FTC) in the United States reported in May 2021, “Since October 2020, reports [of cryptocurrency theft] have [increased], with nearly 7,000 people reporting losses of more than $80 million”.[9]

We will examine peculiar characteristics of crypto assets which are likely to pose unique challenges in insolvency proceedings and possible solutions:

i.         Cross-border and Jurisdictional Issues:

Crypto-transactions usually involve parties in different countries or jurisdictions. For example, as of 2013, insolvent Japanese crypto-currency exchange, Mt Gox Co. Ltd, had nearly 1.1 million active accounts from 239 countries[10]. The transnational nature of crypto-transactions may give rise to complex issues in insolvency. Determining the jurisdiction where crypto-assets are based may be problematic considering the virtual nature of crypto-assets. It has been mooted that crypto-currencies are located in the jurisdiction of the crypto-currency exchange hosting the crypto-currencies. Where an exchange’s server is based in a different jurisdiction from the exchange, it has been suggested that the crypto-currencies are located in the server’s jurisdiction. A shortcoming of these propositions is that they are premised on the flawed assumption that crypto-currencies have physical form(s) identifiable to a particular crypto-currency exchange or server.

Officeholders of insolvent crypto-investors may have to seek the assistance of courts in jurisdictions where crypto-currency exchanges are located to prevent crypto-assets from being dissipated or put out of reach. This is imperative considering that the insolvency provisions in the Companies and Allied Matters Act, 2020 (as amended) “CAMA” do not have extra-territorial effect.

In Ruscoe & Moore v Cryptopia Ltd [2020] NZHC 728[11], insolvency proceedings for Cryptopia (a crypto-currency exchange) were commenced in New Zealand. Crytopia’s data was stored in servers in a US-based web services company. The US based company demanded for US$2million before granting access to data in its servers, which were required to determine owners of millions of crypto-currency tokens held by Cryptopia. Cryptopia’s liquidators had to file an insolvency petition in the US for recognition of the New Zealand liquidation, so as to apply for interim relief to preserve Cryptopia’s data in the US-based server.

ii.         The Property Question:

Crypto-currencies are stored in digital wallets which are hosted in online crypto-currency exchanges such as Buycoins, Bundle, Luno, Quidax, Binance, Xend etc. These exchanges enable storage, purchase and transfer of crypto-currencies. Each unit of crypto-currency has a public-key and private-key. The public-key is similar to a username whilst the private-key is a unique string of alphanumeric required in accessing a user’s wallet[12].

A significant issue which courts have had to address in insolvencies relating to cryptoassets is whether or not crypto-assets constitute property. The categorisation of cryptoassets will influence how they are treated in insolvencies. Where crypto-assets are categorised as property, crypto-investors would have proprietary rights in crypto-assets in an exchange’s insolvency, as opposed to mere personal rights against the cryptocurrency exchange. Such categorization would also enable crypto-assets to be held on trust and for security to be created over crypto-assets. Furthermore, in the event of an exchange’s insolvency, crypto-currencies would not be available for distribution to the exchange’s general body of creditors. Rather, crypto-investors will be entitled to a refund of their crypto-currencies or an equivalent value.

Common law traditionally categorises property into real and personal property. Personal property may either be tangible i.e. choses in possession or intangible i.e. choses in action. Crypto-currencies are not tangibles because they have no physical form and cannot be possessed. There is difficulty in categorizing crypto-currencies as intangibles considering that they do not embody any right capable of being enforced by action. Regardless of the foregoing, a number of courts in common law jurisdictions have recognized crypto-asset as a specie of intangible personnel property.

In a similar vein, in Ruscoe & Moore v Cryptopia Ltd [supra], a New Zealand Court held that crypto assets are “property” within the definition in section 2 of the New Zealand Companies Act 1993 and more generally, under common law[13]. Gendall J. stated that crypto-currencies met Lord Wilberforce’s indicia for property laid down in National Provincial Bank Ltd v Ainsworth[14] and that his conclusion accorded with UKJT’s [15]position that crypto-assets possess all the characteristics of property and that their intangibility ought not to disqualify them. Gendall J. also held that the $170million worth of crypto-currencies held by Cryptopia were held in trust for account-holders of Cryptopia and were not the property of Cryptopia.

It is apposite to note that while CAMA does not define property, the above decisions from other common law jurisdictions have persuasive effect on Nigerian Courts. Save for those hinged on specific foreign statutes, they may serve as useful guides in Nigeria. The Bankruptcy Act[16] defines property to include “money, goods, things in action, transferable interests and every description of property. whether real or personal and whether situate in Nigeria or elsewhere, also obligations, easements and every description of estate, interest and profit, present or future, vested or contingent, arising out of or incidental to property as above defined”. This definition is similar to the definition of property under Section 2 of Canada’s Bankruptcy and Insolvency Act[17]. It is thus arguable that it is capable of accommodating crypto-assets in the context of personal bankruptcy.

iii.         The Pseudonymity barrier:

The pseudonymous and borderless nature of cryptocurrency systems and the fact that virtually anyone can create a new cryptocurrency and send it to other addresses raises potential financial integrity risks. Presently, there are no (public) registers of ownership of crypto-assets. Accordingly, an officeholder may have an uphill task ascertaining whether an insolvent entity has crypto-assets and (if it does) the exchange(s) where those crypto-assets are hosted. Even where crypto-assets and the relevant exchange(s) have been identified, an officeholder may face the challenge of ascertaining the insolvent entity’s private-key to facilitate access to and control of the crypto-assets. While pseudonymity hides personally identifiable information, the strings of data representing holders’ public key addresses can, with significant effort, be linked back to identifiers, thereby compromising the identity of users and their privacy.

In Quadriga Fintech Solutions Corporation’s case, crypto-currencies of 115,0000 clients of crypto-exchange Quadriga CX valued at US$196 million were inaccessible. This followed the demise of Quadriga’s chief executive, Gerald Cotton, who was the only person with the passkey to the off-line cold wallets holding the crypto-currencies[18].

An officeholder may have to seek for the assistance or cooperation of the insolvent’s officials to make disclosures regarding crypto-assets. An officeholder may also consider searching the insolvent’s books, records, bank statements, mobile applications, emails, and internet browsing history for evidence or hints of crypto-transactions and private keys. Where the insolvent’s or exchange’s officials are uncooperative, the officeholder may seek court orders to compel disclosure, restrain transfer of crypto-assets or a turnover of private key information.

iv.         Preservation and Valuation:

After assuming control of crypto-assets via private-keys, an officeholder may have to explore ways of protecting and preserving the crypto-assets. In this regard, the officeholder may consider holding the cryptoassets in a cold storage pending their sale. A cold storage is an offline wallet for storing cryptocurrencies. This protects the cryptoassets from cyber-hacks, unauthorized access and other internet-related risks.

A notable characteristic of cryptocurrencies is their price volatility. This may form an additional layer of complexity in a valuation process. For crypto-investors, depending on the circumstances, price fluctuations may be beneficial or detrimental to their commercial interests.

Where the value of cryptocurrency is not fixed/determined on the date of the commencement of the formal insolvency proceedings, a plummet in price could result in losses. In contrast, crypto-investors could reap a windfall if prices skyrocket. In Mt Gox’s case, bitcoin was priced at about $500 at the time of its insolvency filing. Four years later, when some of the sales of the insolvency estate’s bitcoins were carried out, they were done at an average price of about $8,000. An officeholder may optimise returns to crypto-investors by strategically refraining from selling when prices tank, and selling when prices soar.