NFT at your service – English court issues notice of blockchain proceedings | Hogan Lovells

IN D’Aloia v. Person Unknown and others [2022] EWHC 1723 (Ch), the English court has for the first time given permission for service to be carried out with non-fungible token (NFT) on the blockchain.

The option to serve by NFT can be crucial for victims of cryptocurrency fraud in circumstances where it is possible to identify a relevant wallet address, but the identity of the defendant behind the address is unknown. Service using blockchain technology also provides immutable and verified proof of effective service given the tracking features (see Hogan Lovells Alert USD 4.5 Billion Bitfinex Hack – Five Things You Should Know).

IN D’Aloia, the claimant was the victim of a scam in which he was tricked into transferring approximately 2.1 million Tether (a cryptocurrency, also referred to as USDT) and 230,000 USD Coin (another cryptocurrency, referred to as USDC) into two wallets linked to a fake online brokerage website viz “www.tda-finan.com”which was registered in Hong Kong and operated by unknown persons.

The plaintiff instructed an expert in crypto forensics who traced the assets to several private addresses managed by five cryptocurrency exchanges (the exchange defendants) located in various countries outside the jurisdiction.

The plaintiff has requested a freezing of the assets transferred to the wallets, a disclosure order requiring the defendants to exchange information to enable the claimant to trace the assets and/or identify the unknown persons, permission to serve the defendants with jurisdiction and to serve the people who are unknown by NFT in the wallet.

Continuation of a trend

This decision followed earlier English authorities recognizing cryptocurrencies as “property”, thus enabling the court to make them the subject of a proprietary or freezing order (see Hogan Lovells Warns Cryocurrency? Hong Kong Court Grants Freezing Order Over Bitcoins and Into the Unknown – Cryptocurrency is property, says English court in extortion dispute).

It has also previously been established that under English law the location of a crypto-asset will probably be the place where the person who owns it is resident or domiciled. Since the claimant was domiciled in England, the USDT and USDC, which he was deprived of as a result of the fraudulent misrepresentation by the unknown persons, were also deemed to be located in England.

The court also accepted that the claim itself was governed by English law because the relevant damage arose in England when the English assets were misused.

New forms of alternative service

In Hong Kong, Order 10, r.1 of the Rules of the High Court (Cap. 4A) provides that a summons may be served personally, by registered post or by placing it in a letterbox. Similar to the position in English law, any alternative means of service can only be made with the permission of the court.

In cryptocurrency disputes, when the interim relief sought is against anonymous defendants, new forms of alternative service may become necessary. For example, alternative service by email was allowed in a recent English case (see Hogan Lovell’s warning Into the Unknown – cryptocurrency is property, says English court in extortion case).

In this case, in addition to service by e-mail, which was the method of communication between the plaintiff and the unknown persons, the court allowed alternative service by sending NFTs into the wallet, suggesting that “it is likely to lead to a greater prospect of those behind tda finan the website is notified of this order, and the start of these procedures.” Airdropping in this sense simply means the unsolicited transfer of a digital asset to a wallet address on the blockchain.

It should be noted that the court was hesitant to order service from the NFT only without service by email, so it remains to be tested in court whether service from the NFT alone is sufficient for valid service, especially when there is no email exchange or other communication between the claimant and the fraudsters.

Replace the defendant as constructive trustee

The court found that there was a good argument for the exchange defendants holding the signed assets on constructive trust. The effect was that the exchange defendants could be held liable for breach of trust if they failed to take measures to limit the cryptocurrencies in question after they had been notified. This was particularly important as it provides a direct route for a claimant to seek redress against the exchange, particularly when the identity of the fraudsters is unknown.

However, there are practical problems with ringfencing the fake cryptocurrencies because deposits are often mixed with other users’ cryptocurrencies in an exchange.

It is also worth noting that this was an application without notice, meaning that the court made this preliminary finding without the benefit of input from the exchange defendants.

New hope for victims of crypto asset scams

This decision demonstrates the commitment of the English courts to embrace new technologies within the context of crypto-based disputes. It will be interesting to see if the Hong Kong courts will join forces and use blockchain technology in litigation.

Service of court documents is just one potential application for blockchain technology in dispute resolution. Blockchain is also theoretically capable of being used in circumstances such as disclosure, digital signatures and document exchange.

On the other hand, the preliminary finding of cryptocurrency exchanges acting as constructive trustees for misused cryptocurrency is a wake-up call for exchanges to invest in compliance and security infrastructure to prevent fraud in the first place.

Closer attention should be paid to these proceedings as they progress to see if the court provides further analysis of this issue and what kind of obligations are imposed on a cryptocurrency exchange found to be a constructive trustee.