Attorney’s Guide to the Unraveling of Cryptocurrency, Article 9 and Bankruptcy
The use of cryptocurrency is becoming more prevalent throughout the world. Until recently, it has pretty much been an economic free-for-all with little regulation or even definition by governments. As in most matters, however, governments are starting to express themselves on what position cryptocurrency occupies with respect to regulations and law.
Cryptocurrency is an example of blockchain technology. This distributed ledger technology (DLT) is the underlying force behind bitcoin, ethers and other blockchain projects. DLT is decentralized – transactions are recorded onto millions of computers simultaneously. Each block of data is linked to a previous block of data, that is, “chained” together. The transaction is synchronized and all nodes reflect the updated data as it occurs. Once a transaction is validated and added to a blockchain the transaction or asset is theoretically immutable.
An anonymous group who called themselves Satoshi Nakamoto introduced the first bitcoin in 2009. It’s taken off in the last few years as both currencies and as an investment tool. Meanwhile, the world’s legal and government sectors have been playing catch up regarding what to do with cryptocurrency.
One area of law that is beginning to see movement involving cryptocurrency is bankruptcy law.
For the purposes of the bankruptcy court, Judge Montali of the Northern District of California’ s U.S. Bankruptcy Court issued an order that made clear what cryptocurrency is not. In an order filed Feb. 22, 2016, the judge wrote, “The court does not need to decide whether bitcoin is currency or commodities for purposes of the fraudulent transfer provisions of the bankruptcy code. Rather, it is sufficient to determine that, despite defendant’s arguments to the contrary, bitcoin is not United States dollars.”
Since the currency in question is not a dollar, how then should it be classified for the purposes of bankruptcy? It seems logical to look to the Uniform Commercial Code for answers. In addition to Judge Montali’s thoughts, the UCC rules out the notion that bitcoin is money. It is not a “medium of exchange currently authorized or adopted by a domestic or foreign government.”
UCC Article 9, Secured Transactions, might provide an answer.
Cryptocurrency seems to fall under “general intangible,” which “means any personal property, including things in action, other than accounts, chattel paper, commercial tort claims, deposit accounts, documents, goods, instruments, investment property, letter-of-credit rights, letters of credit, money, and oil, gas, or other minerals before extraction.”
Once classified as a “general intangible,” a debtor’s personal property becomes subject to a creditor’s interest in the property. The creditor now has a “security interest” in the cryptocurrency. As such, the creditor may sell the property to satisfy a debt if the debtor defaults.
With the cryptocurrency classified as a “general intangible,” the financial statements creating a perfection may be filed in the debtor’s jurisdiction and do not rely on possession or control. Once perfected, the security interest “continues in collateral notwithstanding sale, lease, license, exchange or other disposition thereof unless the secured party authorized the disposition free of the security interest[.]” UCC § 9-315(a)(1). Finally, a security interest will be attached and perfected to any proceeds of the cryptocurrency for at least 20 days. UCC §§ 9-315(e).
Turning to the bankruptcy code, it seems clear that cryptocurrency falls under “property of the estate” according to Section 541, which includes “all legal or equitable interests of the debtor in property as of the commencement of the case.”
As for the traceability of cryptocurrency, the blockchain’s decentralized leger system renders transactions capable of discovery through a debtor’s various financial statements, since the asset itself is in the public domain.
The volatility of cryptocurrency may create problematic issues regarding valuation. An estate may have more than enough cryptocurrency to pay off debts on one day, but could easily lose that value the very next day, or even in a matter of hours.
There are many, many forms of cryptocurrencies available and more are being created every day. One can speculate how the courts and perhaps legislation will eventually treat bitcoin. It’s an issue that will be worked out soon. In the meantime, one can look for guidance through a careful review of Article 9, the bankruptcy code and the mechanisms of bitcoin and how it works.