The crypto conundrum
Civil remedies can be a more meaningful tool than the criminal process to combat crypto fraud, as Jason Woodland explains
Over the past two decades we have been moving increasingly online.
The way we shop, the way we bank, the way we connect with each other – all key platforms that have transitioned onto vast cybernetic platforms.
Now in 2020, when we have been forced to keep our distance and seek interconnectivity through electronic means, we are able to witness the full extent of the role that technology plays in our day to day lives.
This dependency on technology has provided the perfect conditions for the accelerated adoption of virtual products.
Why go out, when you can have your groceries delivered to your door? Why go to a bank when you can control your accounts from a mobile device?
Is it so far removed to think that the next stage of progression might be to question, ‘why use a bank at all, when you can use virtual assets instead?’
Virtual assets, the most popular of which is cryptocurrency, have been steadily gaining prominence as financial instruments that can be used in trade; much like fiat monies but without the need for centralised third-party intermediaries to regulate transactions.
The problem that has hindered their wider-scale adoption has been one of image.
Cryptocurrencies undoubtedly have a bad reputation. It appears as if every day we are treated to a new headline touting the latest crypto scandal.
The most recent developments have seen India initiate plans to impose an outright ban on trade in cryptocurrencies, rather than considering more moderate methods of regulation.
This is a somewhat unsurprising move given the overall picture of global financial crime, to which crypto frauds and crypto-centric money laundering, contribute a sizable amount.
The United Nations Office on Drugs and Crime estimates that up to $2tn is laundered globally each year.
According to CipherTrace, banks and other financial institutions are not identifying 90 per cent of the suspicious transactions linked to money laundering that carry a cryptocurrency nexus.
It is therefore no wonder that cryptocurrencies have become synonymous with being the tool of the criminal.
However, while crypto frauds present a significant problem, there are solutions to be found in English law – and in particular civil remedies – which provides a welcome array of tools that can make meaningful inroads by tracing and recovering crypto assets.
What’s in a name?
Cryptocurrencies, by their very nature, present us with unique obstacles when it comes to fraud investigation and prosecution.
The first hurdle to surmount is the issue of anonymity. All crypto transactions are anonymised and, as a result, the ability of criminals to evade legal scrutiny is a significant problem.
The anonymity of cryptocurrencies can be manipulated in various ways.
For example, via the use of public keys, which are the cryptographic public addresses that blockchain participants use to send cryptocurrencies to one another.
The public key address is the only potential identifying information available on the blockchain, which therefore creates a substantial impediment for enforcement agencies when identifying fraudsters.
Nefarious users could create several addresses on the blockchain under various pseudonyms to conceal their true identity.
Following the Bitcoin will only ever lead to an account holder’s public key.
With no identifying information, and the fact that this could merely be one of many accounts held by the individual using false identities, prosecution and asset recovery becomes exponentially more difficult.
Decentralisation is another substantial hindrance to the retrieval of stolen funds.
In cases of traditional fiat frauds – in which a bank account has been compromised or utilised to process stolen money – the victim has a regulated third party who will comply with court orders to freeze accounts and disclose information.
While it may be possible to trace the location of misappropriated funds to an encrypted public key address or wallet via the blockchain, the question remains as to how the individual behind that public key can be identified in the absence of any central authority figure who can be targeted with such orders.
Rather, there are the network participants who give legitimacy to transactions, but who are likely to know only as much information as is publicly available on the distributed ledger.
Nevertheless, both the issues caused by anonymity and decentralisation are exacerbated by the general problems created by the lack of an international definition on what cryptocurrencies are.
There is a culture of uncertainty caused by disparate global definitions where cryptocurrencies are defined as different asset classes in different jurisdictions.
The UK, however, has recently made strides in this area. One of the most important developments has been the UK Jurisdiction Taskforce’s (UKJT) legal statement on crypto assets and smart contracts, which has now defined cryptocurrencies as property under English law.
This has provided the impetus for the English courts to adapt to the unique challenges presented by the technology in a string of recent judgments that have attempted to clarity the issue.
Keeping it civil
As with traditional frauds, there are a number of options available to victims in the investigation, prosecution and recovery of assets linked to crypto centric crimes.
One route would be to pursue a criminal prosecution. Now that English law recognises cryptocurrencies as property, this creates a range of opportunities for redress under the existing criminal law.
For example, many crypto frauds may be caught under the provisions of the Fraud Act 2006.
Section 2 provides for the offence of fraud by false representation, which involves the dishonest and intentional making of a false representation either to make a gain for the maker or to cause loss to another.
The gain/loss referred to is defined in section 5(2)(a) of the 2006 Act as extending to the “gain or loss in money or other property… ’property’ means any property whether real or personal (including things in action and other intangible property)”.
With the new legal statement confirming crypto assets as property, section 2 could be engaged to tackle crypto frauds.
However, there is limited judicial engagement on the subject to date, coupled with the fact that –even prior to the pandemic – the criminal process can be lengthy and less nimble in taking interim steps to preserve assets.
Due to the speed and relative ease with which cryptocurrencies can be transferred from jurisdiction to jurisdiction (far quicker than fiat monies), it is vital to note that in cases such as these, time is of the essence.
Additionally, the criminal process tends to focus on punishment for the criminal act, not restitution for the victim. Consequently, it may be more fruitful to pursue civil remedies.
One of the first ports of call for any practitioner engaged in a crypto fraud case would be to locate and freeze the assets.
The civil law offers a plethora of legal tools that can be deftly employed to ensure the recovery of stolen funds.
For instance, worldwide freezing orders, Norwich Pharmacal relief and search orders are a few of the essential interlocutory remedies that can be considered to stop the assets disappearing.
However, as discussed, the difficulty of decentralisation rears its ugly head when it comes to enforcing these orders against a group of unspecified individuals instead of a centralised authority.
Nonetheless, freezing orders can be sought in respect of the wallet linked to any suspicious transaction, prohibiting movement of the funds.
It may then be possible to obtain relevant details such as names and fiat bank account information from crypto exchanges, which act as quasi-intermediaries.
The fact that crypto exchanges are now classed as ‘obliged entities’ requiring them to carry out ‘know your customer’ (KYC) checks under the Fifth Anti-money Laundering Directive (5AMLD), means that they are likely holders of this information.
It would therefore be relatively simple to obtain disclosure orders against them and, on the basis of the information unearthed, seek freezing orders on the fiat accounts of the individuals in question.
Moreover, now that English law recognises crypto assets as property, existing civil tools that have traditionally been used in relation to fiat property can directly translate to misappropriated cryptocurrencies in the same way.
AA v Persons Unknown  EWHC 3556 (Comm) is one such case that exemplifies the flexibility of the English civil law in this way.
The case concerned the ransomware hack of an insurance company where the hackers demanded $1.2m in Bitcoin in exchange for decryption codes.
On paying the hackers, the company’s English insurer employed specialist tracers to track the Bitcoin that had been paid as ransom.
Ninety-six Bitcoin had been moved to a wallet located on the Bitfinex exchange.
The English insurers sought a proprietary injunction against the (unknown) persons who were deemed to be the wallet owners.
They also sought disclosure orders against the crypto exchange to compel Bitfinex to provide KYC information so that the wallet owners could be located.
The commercial court found that all of the criteria for granting a proprietary injunction were met, in that there was:
- a serious issue to be tried;
- the balance of convenience was in favour of granting the injunction; and
- it was just and convenient to do so.
The court also granted the disclosure orders. This case is significant for a number of reasons.
First, it was the first judgment to be handed down after the legal statement, and reaffirmed the reasoning applied by the UKJT to conclude that crypto assets are ‘property’.
While it was noted that the legal statement does not constitute binding law, the analysis should be adopted by the courts both now and in the future.
At present, this is the definitive English judgment on the classification of crypto assets as property.
Previous cases had alluded to the fact that cryptocurrencies were capable of being treated as property but had not entered into an extensive discussion on the subject (Robertson v Persons Unknown (2019, unreported)).
Second, this case is in lockstep with other common law jurisdictions where similar reasoning has been employed in Singapore in Quoine Pte Ltd v B2C2 [2020 SGCA (I) 02)] and in New Zealand in Ruscoe & Moore v Cryptopia Ltd [CIV-2019-409-000544]  NZHC 728 to determine that cryptocurrency bares the hallmarks of property and should therefore be treated as such.
In light of the volume of recent cases that have been handed down across the globe in rapid succession, it is clear that crypto frauds are likely to be an important litigation trend for the foreseeable future.
The fact that the English courts have ruled that cryptocurrencies should be treated as property, and have begun to deploy extensive civil orders against crypto criminals in these instances, demonstrates two key findings.
First, meaningful steps can be taken in cryptocurrency cases to ultimately recover assets despite the inherent barriers created by the technology itself.
Second, that judicial action appears to be centred on utilising civil tools as opposed to criminal ones and that the English courts have placed themselves at the forefront of this movement.
Whether this pattern continues remains to be seen but, for now, the versatility of the English civil law provides a vital lifeline to victims in the fight against crypto frauds.
Jason Woodland is a partner at Peters & Peters petersandpeters.com. Amalia Neenan, a legal researcher, also contributed to the feature