Crypto and the big freeze

Posted on 03 May 2019

Crypto and the big freeze

Obtaining a freezing order against digital assets is no different to obtaining a freezing order over money in a bank account. The English Court therefore already has the tools at its disposal to secure digital assets. However, careful consideration needs to be given to the terms of the freezing order sought and how it might be implemented. 

Crypto-assets can be highly volatile, changing value often as well as being easy to move between currencies and exchanges. This can reduce the effectiveness of the measures which can be used to take control over them.  However, our experience shows there are some key points to consider when freezing digital assets:

  1. Securing the assets – Knowing who to serve with a freezing order covering crypto-assets can be difficult.  Beyond the owner, it is important to serve any exchanges which deal with the relevant asset and anyone who holds the private key to the assets.  Exchanges which are regulated will hold KYC information about their cryptocurrency holders and enforcing the freezing order should be relatively straight-forward.  However, Applicants serving freezing orders on unregulated exchanges - particularly those in countries with less developed banking and legal systems - may face greater uncertainty, because these exchanges are less likely to hold accurate KYC information for their users and are less likely to comply with the freezing order.  As the prevalence of digital assets increases, so will the sophistication of the fraudster, which will mean they will seek to use exchanges which hide their identity and will not adhere to orders of the English Courts.
     
  2. Seeking disclosure – An Applicant would want to seek disclosure regarding any crypto-assets and who has control over them via wallets / exchanges and private keys.  Applicants may also want to consider seeking disclosure of the private keys themselves or an order requiring an independent third party to take a copy of the private key - and hold it pending trial - to prevent the dissipation of the funds.  The contents of the private keys would have to be closely guarded, perhaps only given to independent solicitors, because anyone with access could effect a sale of the crypto-asset, putting the Applicant at risk under the cross-undertaking for damages. 
     
  3. Allowing disposals – As mentioned above, one of the volatilities of digital assets is their value.  A question therefore arises: in order to protect the value of the digital asset, do the normal restrictions in a freezing order regarding "dealing, disposal or dissipation" need to be dis-applied?  Consideration needs to be given to whether the Respondent should be allowed to continue trading in his or hers digital assets throughout the time the freezing order applies, with a proviso that if the crypto-assets are turned into a fiat currency, then they would be frozen in the normal course, i.e. no dealings, disposals or dissipations would then be allowed.  However, this cedes power to the Respondent to deal with the digital asset and by doing so the risk of dissipation will no doubt increase.  An Applicant may therefore wish to consider having a notification regime under the freezing order to allow it to consent to a dealing, disposal or dissipation of the digital assets.  However, that could risk the Applicant leaving himself exposed under the cross-undertaking for damages should the value of the remaining digital asset fall and he have refused to consent to a dealing, disposal or dissipation.  An independent expert could be appointed by the Applicant to manage this in order to alleviate those concerns. 
     
  4. Continuing disclosure – If Respondents are allowed to continue trading in their crypto-assets, Applicants will require a continuing disclosure regime to ensure they can adequately police the terms of the freezing order and remain aware of the underlying assets belonging to the Respondents at all times for enforcement purposes.  The challenge for Applicants will be to find a sufficiently robust method of monitoring the trading activity to ensure that the assets remain protected by the orders obtained.

The issues highlighted are not new problems - the same are true for a Respondent holding stocks and shares. Here, however, the issues are amplified by the highly volatile nature of cryptocurrencies.  Before applying for a freezing order over crypto-assets, it will be vitally important to consider what type of Respondent is being dealt with, their international footprint and sophistication, and the sums at stake held through digital assets.  Each freezing order is likely to be highly fact specific because of these issues and, if non-compliance is evident from the start, it may lead to Receivers needing to be appointed to take control over digital assets to ensure they are properly preserved.

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