THE UK CONTINUES TO PLAY A LEADING ROLE IN THE REGULATION OF CRYPTOCURRENCY AND DIGITAL ASSETS

The UK Government's consultation on what it calls a "world first" new regime of cryptocurrency regulations promises to bring the regulation of digital assets closer in line with traditional financial instruments.

Similar developments in English law jurisprudence, most recently in the Tulip Trading Ltd case, portend greater regulation, scrutiny of and potential responsibility for actors in the blockchain. The case, and others we have previously reported on, show that, independent of current pending legislation, the common law will step in where the facts require. They also indicate a potential, incremental development of legal concepts (such as fiduciary duties) to deal with this novel asset class.

Given recent market turbulence, there will be strong views about these developments, and they are set to make 2023 another interesting and fast-moving year for digital assets.

UK MOVES TOWARDS CRYPTO REGULATION

In the short time since our recent articles1 We recently wrote on the following subjects: How to get your money back in a cryptocurrency demise or cryptocurrency fraud?; and Locating stolen cryptocurrency: how disclosure orders can help. about digital assets, a number of noteworthy developments have emerged in the UK.

In February, the UK Government launched a 3-month consultation on its proposals for a new regulatory regime for crypto assets in order to bring the sector in line with its approach to traditional banking and finance instruments (the Consultation). Some of the key proposals in the Consultation include:

  • Expanding the scope of Financial Services and Markets Act 2000 to add "crypto assets" as a new type of "specified investments" as defined in the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001.
  • Implementing a definition of crypto asset which defines crypto assets as "any cryptographically secured digital representation of value or contractual rights that: (a) can be transferred, stored or traded electronically, and (b) that uses technology supporting the recording or storage of data (which may include distributed ledger technology)."
  • Listing the tokens covered by the definition of crypto assets: exchange; utility; security; non-fungible; (fiat-backed) stable coins; asset-referenced tokens; commodity-linked; crypto-backed; algorithmic; governance; and fan tokens.
  • Applying future financial services regulation of crypto assets to a particular subset of crypto assets depending on the matter being regulated, and accordingly use narrower definitions for each.
  • Strengthening the rules for crypto trading platforms, financial intermediaries and custodians, responsible for facilitating transactions and storing customers' assets.
  • Creating a robust top-world regime for crypto lending and delivering a financial services roadmap by embracing technological change and innovation to grow the economy.
  • Implementing more transparency and protections for consumers and businesses and improving market integrity to limit market and price volatility.
  • Placing responsibility on crypto trading platforms for defining the detailed content requirements for admission and disclosure documents to ensure fair standards.

The UK Treasury's messaging on the proposals is that it intends to lay down sensible, transparent rules on crypto assets, enhance reporting and prevent market abuse such as so-called pump and dump, where an individual artificially inflates the value of a crypto asset before selling it.

We expect, nevertheless, that the Consultation will elicit strong views both from:

  • those who will not view these changes as sensible and will oppose stripping cryptocurrency of its unique independence, and
  • those in favour of greater regulation.

The Consultation will close on 30 April, with any responses then considered by ministers. We will keep you updated as the proposals make their way through.

The courts are following suit – and greater scrutiny looms following the Tulip Trading Bitcoin case

A similar movement towards greater scrutiny can be seen in the UK courts, which have been increasingly willing to use the tools they have at their disposal under English law to assist victims of crypto scams and thefts to track their stolen assets, identify the wrongdoers, and obtain appropriate remedies.

We previously wrote on Locating stolen cryptocurrency: how disclosure orders can help (which discussed the LMN v Bitflyer Holdings Inc and others case) and How to get your money back in a cryptocurrency demise or cryptocurrency fraud?.

The latest development is a case involving Dr Wright, a purported creator of the Bitcoin system, Tulip Trading Ltd v Wladimir Jasper van der Laan & ors [2023] EWCA Civ 83 (3 February 2023), in which the English courts have to deal with novel issues regarding the role and obligations of crypto software developers and the duties they owe to crypto assets owners.

Tulip Trading Ltd (TTL), the claimant in the action, is a Seychelles registered company whose main beneficial owner is Dr Wright. TTL claimed to own a considerable sum of Bitcoin, as well as other crypto assets on 4 blockchain networks (BSV, BTC, BCH, BCH ABC), but is unable to access these assets as the keys to them have been locked in a hack, likely stolen.

The initial decision: dismissal for lack of jurisdiction

In a judgment in early 2022, High Court Justice Sarah Falk denied jurisdiction over TTL's claim against the 16 Bitcoin developers alleged to be in charge of the 4 Bitcoin blockchains.

TTL had commenced proceedings in the High Court, arguing that the 16 developers owe fiduciaries and tortious duties to crypto owners and should assist TTL in regaining control of its assets. The defendants challenged the jurisdiction of the courts and in its 25 March 2022 judgment, the High Court accepted the defendants' objection and set aside the order granting permission to serve the defendants out of jurisdiction, finding that it lacked jurisdiction to hear the dispute because TTL did not satisfy the first limb of the test for service out. That is, there was no serious issue to be tried.

The Court of Appeal's decision: sensationally overturning the earlier decision

The Court of Appeal's recent decision sensationally overturned the lower court's judgment, finding that the High Court had jurisdiction to hear the claim because:

  • TTL had a real prospect of establishing that the developers owed fiduciary duties to crypto owners, and therefore there was a serious issue to be tried; and
  • dismissing TTL's case as unarguable without a full trial on the merits would mean assuming facts in the developers' favour, and ruling against TTL based on findings impermissibly assumed against TTL.

Ramifications for crypto companies

Although the Court of Appeal did not conclude on the merits (this will be resolved in a further hearing), by considering that there was a serious issue to be tried, it indicated that it was open to hearing arguments on the potential duties owed to Bitcoin owners.

This could have significant ramifications for the crypto sector and all the basic principles on which it is based (decentralization, anonymity...!). However, the Court of Appeal's decision is a long way from establishing the existence of fiduciary duties as alleged, as it would involve a significant development of the common law of fiduciary duty. We will report further once the High Court decides on the merits of this key dispute.

Is crypto 'property'? A possible new category of property

Although the Court of Appeal did not rule on this point, by holding in obiter that digital assets such as Bitcoin are property, its judgment appeared to endorse the Law Commission's recommendations that none of the categories of personal property are adapted to crypto assets and that a third category of personal property known as "data objects" might be properly created to cover digital assets.

RECENT ARBITRATION CLAIMS IN THE CRYPTO SECTOR HAVE ALSO ADDRESSED JURISDICTION

The issue of jurisdiction in relation to crypto asset claims has also come up in the context of arbitration, with the arbitrability of such claims being addressed by the English courts in two recent cases: Soleymani v Nifty Gateway LLC (Nifty) (The Competition and Markets Authority intervening) [2022] EWCA Civ 1297 (6 October 2022)2 On which we briefly commented in our previous post: Using arbitration to resolve cryptocurrency disputes, NFT disputes, and other digital asset disputes. (Soleymani) and Chechetkin v Payward Ltd & Ors [2022] EWHC 3057 (Ch) (25 Oct. 2022) (Chechetkin).

1. Soleymani

In Soleymani, UK-based art and non-fungible token (NFT) collector Amir Soleymani participated in an online auction on the US-registered digital art blockchain site Nifty. Despite having agreed to Nifty's terms and conditions, which contained a Judicial Arbitration and Mediation Services (JAMS)3 JAMS is a United States based alternative dispute resolution center. arbitration clause, when a payment dispute arose, Soleymani sought to avoid the arbitration clause by filing an English court claim against Nifty.

Soleymani argued that as a consumer, the JAMS arbitration clause was unfair and non-binding. Claiming that the dispute fell under the 'arbitration exception' of the Regulation (EU) No 1215/2021 (Brussels Recast Regulation), Nifty challenged the jurisdiction of the English courts under CPR Part 11, and applied for an order to stay the proceedings in favour of the JAMS arbitration pursuant to s. 9 of the Arbitration Act 1996 (AA).

The High Court considered that, although it had jurisdiction to hear the gambling and governing law claims, it lacked jurisdiction to decide on the validity of the arbitration claim and granted a stay of proceedings. According to the High Court, it was not necessary to investigate whether the claimant acted as a "consumer".

The Court of Appeal rejected the two first grounds of appeal, (i) the 'arbitration exception', and (ii) the application of s. 15D of the Civil Jurisdiction and Judgments Act 1982 (CJJA), but allowed the third ground (under s. 9 of the AA), and set aside the lower court's direction ordering a stay of the proceedings. The Court of Appeal considered that the case should proceed to trial and that the English courts should determine whether under s. 9(4) of the AA, the arbitration clause was "null and void, inoperative, or incapable of being performed".

2. Chechetkin

In line with the Soleymani judgment, in Chechetkin, the High Court dismissed an application challenging its jurisdiction to hear the dispute by reason of an existing JAMS arbitration award on the same issues.

Mr Chechetkin lost £600,000 whilst trading on Payward, a cryptocurrency trading platform. Payward consequently brought arbitration proceedings against Mr Chechetkin pursuant to a JAMS arbitration clause in Payward's terms and conditions. Chechetkin similarly sought to evade these proceedings by filling an English court action, arguing that, as a consumer, he fell within the provisions of s. 15B of the CJJA and could commence a claim in the English courts in that capacity.

In rejecting Payward's jurisdictional objection, the Court held that, although Mr Chechetkin was a banking lawyer with a pro trading account, he was nevertheless a consumer dealing outside his profession, and concluded that neither the arbitration clause, nor the arbitral award, deprived the English courts of their jurisdiction to hear the case.

CRYPTO ARBITRATION CLAUSES WILL NOT EVADE THE COURT'S CONSUMER SCRUTINY

These two cases illustrate the complexities which may arise in crypto consumer arbitration disputes where the consumer/crypto user objects to the validity of the arbitration clause and/or the other party challenges the jurisdiction of the English courts. Although the merits of the case have not yet been heard by the English courts, these two cases should be taken as a warning for crypto businesses that merely including arbitration clauses in their terms and conditions will not exempt them from court scrutiny if such clauses are unfair to consumers.

Footnotes

1. We recently wrote on the following subjects: How to get your money back in a cryptocurrency demise or cryptocurrency fraud?; and Locating stolen cryptocurrency: how disclosure orders can help.

2. On which we briefly commented in our previous post: Using arbitration to resolve cryptocurrency disputes, NFT disputes, and other digital asset disputes.

3. JAMS is a United States based alternative dispute resolution center.

Originally published 20 March 2023

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