Can the controllers of crypto exchanges in offshore jurisdictions be held responsible for the funds stolen by crypto fraudsters through these exchanges? | Hikers

Courts in offshore jurisdictions have begun to adopt the decisions of the English courts when granting relief with respect to the dispersal and recovery of crypto-assets. An example is the recent decision in ChainSwap v Persons Unknown where the BVI court granted a freezing order over assets held by persons unknown in relation to a crypto scam and follows similar decisions in the UK and other Commonwealth countries where such relief is now commonly granted. Therefore, we consider the recent English decision in D’Aloia v. persons unknown and others [2022] EWHC 1723 (Ch) which highlights the possibility that the controllers and operators of a crypto exchange could be considered a trustee of unauthorized assets flowing through any crypto wallet it maintains, and that it would therefore have a duty to account for unauthorized profits or gains to victims of the misappropriation. made as executor.

Background

The case concerns an application by Fabrizio D’Aloia for a temporary injunction and disclosure against a number of defendants, arising out of what he alleged was the fraudulent misappropriation of cryptocurrency in the form of approximately 2.1 million USDT and 230,000 USDC by persons unknown. Mr. D’Aloia alleged that he was induced, by fraudulent misrepresentation, to transfer USDT and USDC from the Coinbase and Crypto.com wallets to the operators of the “tda-finan” website, who were unknown persons. Using crypto-investigation specialists, Mr D’Aloia confirmed that around 2.175 million USDT and USDC were transferred to a number of private addresses and wallets operated by, or under the control of, various cryptocurrency exchanges. The decision largely considers the satisfaction of the test for injunction as it relates to cryptoassets, including whether the English courts are the most appropriate forum for such an application with reference to lex situs of the crypto assets in question and where the damage occurred.

Can an exchange be liable for lost revenue?

One of the most significant developments from the decision stems from the court’s ruling that there was a good case for D’Aloia to have a claim not only against the fraudsters who stole his cryptocurrency, but also against the controller and operator of one of the exchanges that controlled the wallets there it was possible to trace the crypto assets stolen from Mr D’Aloia. In doing so, it highlighted the possibility that an exchange with sufficient control over wallets that it maintains would be considered a fiduciary of unauthorized assets flowing through those wallets, and in turn have a duty to account to victims for unauthorized profits or gain. made as a result of his role as executor. It remains to be seen whether Mr D’Aloia’s claim in this regard will be successful at trial. Nevertheless, the fact that such a claim has been allowed to proceed is a significant decision not only in England and Wales, but also offshore and specifically in the Cayman Islands and BVI where such decisions are highly persuasive and likely to be followed.

Practical consequences

The decision in D’Aloia v. Persons Unknown is significant as it demonstrates the possibility for victims of crypto fraud to have direct claims against controllers and operators of crypto exchanges for equitable compensation where a constructive trust claim is made. In circumstances where it is usually very difficult to take action against the fraudsters given the pseudonymous nature of cryptoassets and the associated difficulties in identifying the fraudsters, victims of crypto-related fraud will now consider the availability of direct claims against crypto exchanges, as known parties. , where these exchanges have been notified that they are in possession of fraudulently misused crypto assets. Where crypto-assets are the subject of a potential dispute, a court may issue an order requiring such assets to be properly ring-fenced and not withdrawn. Crypto exchanges in the Cayman Islands and BVI must consider best practices, including the level of control they exercise over wallets, and the procedures necessary to mitigate the risk of misused funds being held in wallets maintained by the exchange.

For more information on this issue, or if you require advice on such matters or any other legal matter in the Cayman Islands or the BVI, please contact one of the main contacts of the Dubai Insolvency and Dispute Resolution team listed below.