Trading Halt: Capturing Cryptocurrency via the Courts
6 mins reading time
The law can be slow to adapt to emerging technologies such as cryptocurrency. However, with a thorough knowledge of existing legal avenues, adaptation is not always necessary. Macpherson Kelley recently acted in a case that demonstrates how trustees in bankruptcy can use existing tools at their disposal to investigate, and ultimately recover, cryptocurrency held by bankrupts.
Identifying and locating cryptocurrency
If a trustee becomes aware that a bankrupt has owned or traded in cryptocurrency assets, the trustee will normally:
- take steps to secure that cryptocurrency, to prevent the dissipation of that asset; and
- if necessary, make inquiries to ascertain whether:
- the bankrupt has failed to disclose any other cryptocurrency that remains in their possession or control; or
- there are any voidable transactions claims arising from cryptocurrency trading.
Cryptocurrency exchanges operating in Australia are required to comply with Australia’s anti-money laundering and counter-terrorism financing legislation, which includes requirements to implement ‘know your customer’ (‘KYC’) identification procedures. Those procedures require trading platforms to ensure customers provide 100 points of identification to be registered as a user. Those KYC procedures enable trustees to identify the owner or controller of a cryptocurrency account.
A trustee’s inquiries can range from:
- writing to cryptocurrency exchanges requesting information (as one may write to banks or share registries);
- invoking the Official Receiver’s information-gathering powers to further investigations; or
- conducting ‘tracing’ investigations to identify the end recipient of cryptocurrency transactions.
Tracing cryptocurrency to a specific wallet address can be a relatively straightforward process. However, while securing (and realising) the cryptocurrency can be another challenge altogether, though it is often not insurmountable.
Securing cryptocurrency
The steps necessary to secure any cryptocurrency will depend on a range of factors, most particularly the manner in which the cryptocurrency is held and whether the bankrupt is assisting the trustee in their inquiries.
If the cryptocurrency is held on a cryptocurrency trading exchange, the trustee may direct the bankrupt to hand over details of any account passwords or private keys. A trustee should also write to all trading platforms within Australia to enquire whether any accounts are held in the bankrupt’s name, instruct them to freeze all such accounts and deliver up details of any access codes and passwords under the powers granted to trustees under the Bankruptcy Act 1966.
Trustees face greater difficulties where cryptocurrency is held in a software (or soft) wallet (such as Metamask), or offline in a hardware (or hard) wallet (such as a Ledger or Trezor). A hard wallet is a device the size of a small USB stick that stores the user’s private access keys.
Where cryptocurrency is stored on a hard wallet, securing the cryptocurrency requires the trustee to physically obtain the hard wallet device itself as well as the access password or pin. Alternatively, locating the ‘seed’ recovery phrase to the hard wallet (a 12 or 24 random word passphrase) can be used to recover the cryptocurrency in the event the wallet device is misplaced or destroyed.
Hard wallets can, therefore, be easily concealable, and the assets held on them can very quickly be moved to another location or account. If a trustee suspects a bankrupt is seeking to hide cryptocurrency, swift and decisive action may be required to prevent the dissipation of those assets, including via the courts where necessary.
Search Warrant
Under section 130 of the Bankruptcy Act 1966, a trustee may, in some circumstances, apply to a Court for a warrant to search a premises in which they suspect there is property of the bankrupt or property connected with a bankrupt’s examinable affairs and, if any relevant property (such as a hard wallet) is located, seize that property or secure it against interference.
In order to succeed in an application of that nature, the trustee must satisfy the Court that there are reasonable grounds to issue a warrant.
Broadly, the trustee must adduce evidence to satisfy the Court that the issuing and execution of the warrant will:
- assist the trustee in their investigations into the bankrupt’s examinable affairs; and/or
- enable the trustee to seize property of the bankrupt that has vested in the trustee (normally, property that has otherwise not been disclosed by the bankrupt).
What does this look like in practice?
Macpherson Kelley recently acted for a trustee who successfully applied to obtain a warrant to search a premises and seize property connected with cryptocurrency that the trustee believed was being concealed by the bankrupt.
In order to obtain that warrant, the trustee provided the Court with evidence, gathered from their inquiries, that showed the bankrupt was likely concealing cryptocurrency. That evidence included wallet addresses and the results of a ‘tracing’ exercise that revealed the bankrupt’s assets has been transferred through various cryptocurrency wallets and was held in various cryptocurrencies including Ethereum and Ripple.
The trustee also provided evidence regarding how cryptocurrency is held and transferred, and demonstrated how hard wallet devices can be concealed to substantiate how issuing the warrant would assist the trustee’s investigations.
The Court ultimately accepted the trustee’s evidence and issued the warrant. The warrant then had to be executed with the assistance of the police and Principal Lawyer Daniel Wignall, who had experience in identifying any cryptocurrency wallets at the premises or other property that may be related to the bankrupt’s cryptocurrency trading activity.
On execution of that warrant, the trustee located and seized several hard wallet devices and other IT equipment. The trustee also seized other evidence that led to discovery of significant but previously undisclosed cryptocurrency accounts.
Execution of the warrant, and the evidence obtained as a result, advanced the trustee’s efforts to recover assets for the benefit of creditors and enabled further investigation into the bankrupt’s cryptocurrency trading activity.
Key take aways
- Now that trading platforms are required to properly identify all account holders, truly anonymous cryptocurrency trading is increasingly difficult to achieve.
- We expect that trustees will increasingly need to rely on their investigative powers, such as those used in the above case, as cryptocurrency becomes a more frequent asset in bankrupt estates.
- For bankrupts attempting to hide or conceal assets via cryptocurrency, the Courts are alive to those issues and may assist trustees to locate and secure cryptocurrency assets, as this example shows.
If you are looking to recover cryptocurrency held by bankrupts, it’s important to engage with a legal team that has genuine knowledge of the crypto industry and experience in cryptocurrency recovery. Please reach out to our knowledgeable team to learn more.
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Trading Halt: Capturing Cryptocurrency via the Courts
The law can be slow to adapt to emerging technologies such as cryptocurrency. However, with a thorough knowledge of existing legal avenues, adaptation is not always necessary. Macpherson Kelley recently acted in a case that demonstrates how trustees in bankruptcy can use existing tools at their disposal to investigate, and ultimately recover, cryptocurrency held by bankrupts.
Identifying and locating cryptocurrency
If a trustee becomes aware that a bankrupt has owned or traded in cryptocurrency assets, the trustee will normally:
- take steps to secure that cryptocurrency, to prevent the dissipation of that asset; and
- if necessary, make inquiries to ascertain whether:
- the bankrupt has failed to disclose any other cryptocurrency that remains in their possession or control; or
- there are any voidable transactions claims arising from cryptocurrency trading.
Cryptocurrency exchanges operating in Australia are required to comply with Australia’s anti-money laundering and counter-terrorism financing legislation, which includes requirements to implement ‘know your customer’ (‘KYC’) identification procedures. Those procedures require trading platforms to ensure customers provide 100 points of identification to be registered as a user. Those KYC procedures enable trustees to identify the owner or controller of a cryptocurrency account.
A trustee’s inquiries can range from:
- writing to cryptocurrency exchanges requesting information (as one may write to banks or share registries);
- invoking the Official Receiver’s information-gathering powers to further investigations; or
- conducting ‘tracing’ investigations to identify the end recipient of cryptocurrency transactions.
Tracing cryptocurrency to a specific wallet address can be a relatively straightforward process. However, while securing (and realising) the cryptocurrency can be another challenge altogether, though it is often not insurmountable.
Securing cryptocurrency
The steps necessary to secure any cryptocurrency will depend on a range of factors, most particularly the manner in which the cryptocurrency is held and whether the bankrupt is assisting the trustee in their inquiries.
If the cryptocurrency is held on a cryptocurrency trading exchange, the trustee may direct the bankrupt to hand over details of any account passwords or private keys. A trustee should also write to all trading platforms within Australia to enquire whether any accounts are held in the bankrupt’s name, instruct them to freeze all such accounts and deliver up details of any access codes and passwords under the powers granted to trustees under the Bankruptcy Act 1966.
Trustees face greater difficulties where cryptocurrency is held in a software (or soft) wallet (such as Metamask), or offline in a hardware (or hard) wallet (such as a Ledger or Trezor). A hard wallet is a device the size of a small USB stick that stores the user’s private access keys.
Where cryptocurrency is stored on a hard wallet, securing the cryptocurrency requires the trustee to physically obtain the hard wallet device itself as well as the access password or pin. Alternatively, locating the ‘seed’ recovery phrase to the hard wallet (a 12 or 24 random word passphrase) can be used to recover the cryptocurrency in the event the wallet device is misplaced or destroyed.
Hard wallets can, therefore, be easily concealable, and the assets held on them can very quickly be moved to another location or account. If a trustee suspects a bankrupt is seeking to hide cryptocurrency, swift and decisive action may be required to prevent the dissipation of those assets, including via the courts where necessary.
Search Warrant
Under section 130 of the Bankruptcy Act 1966, a trustee may, in some circumstances, apply to a Court for a warrant to search a premises in which they suspect there is property of the bankrupt or property connected with a bankrupt’s examinable affairs and, if any relevant property (such as a hard wallet) is located, seize that property or secure it against interference.
In order to succeed in an application of that nature, the trustee must satisfy the Court that there are reasonable grounds to issue a warrant.
Broadly, the trustee must adduce evidence to satisfy the Court that the issuing and execution of the warrant will:
- assist the trustee in their investigations into the bankrupt’s examinable affairs; and/or
- enable the trustee to seize property of the bankrupt that has vested in the trustee (normally, property that has otherwise not been disclosed by the bankrupt).
What does this look like in practice?
Macpherson Kelley recently acted for a trustee who successfully applied to obtain a warrant to search a premises and seize property connected with cryptocurrency that the trustee believed was being concealed by the bankrupt.
In order to obtain that warrant, the trustee provided the Court with evidence, gathered from their inquiries, that showed the bankrupt was likely concealing cryptocurrency. That evidence included wallet addresses and the results of a ‘tracing’ exercise that revealed the bankrupt’s assets has been transferred through various cryptocurrency wallets and was held in various cryptocurrencies including Ethereum and Ripple.
The trustee also provided evidence regarding how cryptocurrency is held and transferred, and demonstrated how hard wallet devices can be concealed to substantiate how issuing the warrant would assist the trustee’s investigations.
The Court ultimately accepted the trustee’s evidence and issued the warrant. The warrant then had to be executed with the assistance of the police and Principal Lawyer Daniel Wignall, who had experience in identifying any cryptocurrency wallets at the premises or other property that may be related to the bankrupt’s cryptocurrency trading activity.
On execution of that warrant, the trustee located and seized several hard wallet devices and other IT equipment. The trustee also seized other evidence that led to discovery of significant but previously undisclosed cryptocurrency accounts.
Execution of the warrant, and the evidence obtained as a result, advanced the trustee’s efforts to recover assets for the benefit of creditors and enabled further investigation into the bankrupt’s cryptocurrency trading activity.
Key take aways
- Now that trading platforms are required to properly identify all account holders, truly anonymous cryptocurrency trading is increasingly difficult to achieve.
- We expect that trustees will increasingly need to rely on their investigative powers, such as those used in the above case, as cryptocurrency becomes a more frequent asset in bankrupt estates.
- For bankrupts attempting to hide or conceal assets via cryptocurrency, the Courts are alive to those issues and may assist trustees to locate and secure cryptocurrency assets, as this example shows.
If you are looking to recover cryptocurrency held by bankrupts, it’s important to engage with a legal team that has genuine knowledge of the crypto industry and experience in cryptocurrency recovery. Please reach out to our knowledgeable team to learn more.