Recovering Cryptocurrency – Practical Legal Considerations

Cryptocurrencies are dominating the news headlines. The price of Bitcoin continues to hit record high, Dogecoin is now being reported to fund a mission to the moon by Space X and the Commonwealth Bank of Australia announced that it would be the first Australian bank to allow its customers to buy, sell and hold cryptocurrency. The insurance industry is also starting to consider how they might be able to provide cover for these products if they are stolen. However, as products only exist online, largely stored in e-wallets means that these products are at risk of theft from cyber-criminals. If the worst happens, what options exist for parties to seek to recover them or are they simply lost to cyberspace?

Practical legal considerations arise when considering the recovery of stolen cryptocurrency. Australian Courts are yet to deliver a published decision regarding cryptocurrency's legal status; however, common law courts in England, Singapore, and New Zealand can provide some helpful guidance on how Australian Courts may approach these issues.

A primary legal issue is whether cryptocurrency can be considered property. There are also unique issues of governing law and jurisdiction to ensure that the Australian Court have jurisdiction to hear such matters and have the power to make the necessary orders to discover, freeze and arrange for the recovery of cryptocurrency. Finally, critical procedural matters must be considered, including the evidence required to establish the right to those orders.

In this article, Clyde & Co partners Matthew Pokarier and Darryl Smith consider these issues in detail.

What is Cryptocurrency?

Before considering the legal issues, it is worth highlighting some of the technological and practical features of cryptocurrency to understand better the context of the legal attempts to recover them.

Cryptocurrency is a digital currency that uses encryption techniques to control its creation and verify the transfer of funds. The underlying technology of cryptocurrency is blockchain. A blockchain is a decentralised ledger across a network of computers that records transactional records across many computers. Cryptocurrency is not linked to any fiat currency, nor is it regulated by any central monetary authority. Its value is only what the market prescribes to it. It has no intrinsic value and has no physical form, and it only exists online the network. It is, therefore, an intangible and decentralised property that does not necessarily exist in any one place.

In addition to blockchain, the other important feature is the encryption technique used, called public-key cryptography. This mathematical function is easily solved in one direction but almost impossible to crack in reverse. Cryptocurrency works by using a public key and a private key. The public key allows others to verify your ownership of cryptocurrency on the blockchain, while the private key proves your ownership and allows it to be used as a medium of exchange. As we will see, cryptography's public/private nature is essential in considering the legal characteristics of cryptocurrency.

Private keys are often stored in e-wallets or on bitcoin exchanges. These exchanges act as brokerages that allow cryptocurrencies in their wallets/accounts to be exchanged for fiat currency.

Is Cryptocurrency property?

To seek an order for recovery of cryptocurrency, a court will need to be satisfied that cryptocurrency is "property", and there is currently no published Australian decision on this issue. The chief difficulty in considering cryptocurrency is that it does not fit neatly within the traditional division of the concept of property between a chose in action, and a chose in possession. By its nature, cryptocurrency is intangible; it does not physically exist and therefore cannot be a chose in possession. Most cryptocurrency is a pure medium of exchange and offers no legally enforceable rights and are not a chose in action. For example, it isn't easy to conceptualise a valid contract between parties mining tokens on a blockchain.

In analysing this issue, several foreign Courts have examined whether bitcoins are a new form of property that satisfies the common law legal test that to be "property" by considering whether it is:

• definable,
• identifiable by third parties,
• capable in its nature of assumption by third parties, and

has some degree of permanence or stability[1]. For example, in Ruscoe & Anor v Cryptopia Limited[2], the New Zealand High Court accepted that cryptocurrency was a type of property. This was due to the combination of three interdependent features related to the features of the public and private keys. The public key provides a definable structure that records a unit of currency. At the same time, the private key provides the control and stability necessary for ownership and the creation of the market. English Courts and Singapore's International Commercial Court have also accepted that cryptocurrency is property based upon similar reasoning.[3] While these decisions are not binding on Australian Courts, the basic analytical tools these decisions rely on is accepted authority. It is reasonable to assume that an Australian Court would accept that bitcoin is considered property.

Do Australian Courts Have Jurisdiction to Make Orders in Respect of Cryptocurrency?

Australian Courts must have jurisdiction before they can make orders for the recovery of property. As cryptocurrency doesn't exist within any particular legal jurisdiction but is spread worldwide across a distributed decentralised network of computers means that Courts have to consider which jurisdictions law governs the transfer of the property. Unlike other assets, cryptocurrency is not situated in a single jurisdiction. Further, it is unusual that the identity of any cybercriminal and what jurisdiction they reside in is known. In the English decision of Ion Science v Persons Unknown & Ors[4], the Court accepted that England was the appropriate jurisdiction and English law would govern the recovery of a cryptocurrency. The Court was satisfied that the plaintiff's claims in deceit and unlawful means conspiracy would be governed by English law as fraudsters had made the representations to the Plaintiff in England. His e-wallet was controlled from England before the transfer by the fraudsters. Australian Courts are likely to reason similarly to Ion Science, and they would need evidence that the owner's access to the currency was within Australia when it was stolen.

What Court Orders Should be Considered?

When seeking orders for the recovery of crypto assets, a raft of Court orders is needed to identify, freeze and recover the stolen assets. Ensuring that the victim's identity is protected is also an important consideration.

In the English decisions, the following orders are commonly sought:

• An anonymising order, concealing the identity of the plaintiff and, in some cases, their insurance company
• A closed court order to protect the plaintiff's identity and avoid any risk of tipping off any potential fraudster.
• A worldwide freezing order against the cybercriminal's assets. This will also stop any third party, including any exchange dissipating the coins.
• A proprietary injunction seeking the return of the specific bitcoins.
• A Norwich Pharmacal order against any bitcoin exchange or e-wallet holding the crypto-assets and to obtain information.
• A Bankers Trust order, for the same reason as the Norwich Pharmaceutical orders.
• Orders for alternative service. As crypto-exchanges can be situated in offshore jurisdictions, alternative service is sought to avoid delay issues in serving documents under the Hague Service Convention.

Cross-undertakings in damage?

One matter to be alive to in respect of an interim proprietary injunction or a freezing order is that a plaintiff will have to make an undertaking in damages. If the Court ultimately does not grant the final injunction, then the plaintiff must pay any damages they might suffer due to the injunction. Because the price of some crypto assets rapidly fluctuates, there is a potential for significant compensation if a downturn in the market occurs between granting the interim and final order.

While not likely to be an issue in a case of outright theft or fraud when the defendant is an unknown party, consideration should be made to whether the plaintiff would be able to satisfy a claim for damages if the defendant is known and there is a genuine dispute over ownership. In Toma & Anor v Murray[5], an interim injunction was lifted, primarily due to the Claimants' ability to satisfy any cross undertakings. One possibility of addressing any issue with a cross-undertaking is obtaining a legal expenses insurance policy to cover any risk, and this policy would operate similarly to ATE insurance.

What evidence is needed?

The success of the interim recovery application will hinge on the expert evidence, which will require an appropriate expert in cryptocurrency. The expert will be able to trace the misappropriated cryptocurrency by tracking the crypto asset's public key and provide evidence setting out how the fraudsters transferred the cryptocurrency, as well as which exchange or exchanges the crypto-assets, or their traceable proceeds, have ended up.

The expert will also need to provide evidence as to the types of information that the exchanges hold on their customers, which is necessary to identify them. Given the potential for judicial unfamiliarity with this technology, expert evidence must be carefully considered and as simple as possible.

Subrogation issues

If an insurer is pursuing recovery, there may also be further practical considerations. In AA v Persons Unknown[6], an insurer sought recovery of 96 bitcoins paid as a ransom after a ransomware attack. In addition to paying the ransom, the Insurer also sought to subrogate the rights of the Insured Customer, and there was an express assignment of those rights. There was an unnecessary delay at the interim hearing as the Claimant was required to replead their causes of action to identify whether the insurers could maintain the claim in their own right or should be in the name of their insured. Care needs to be taken to ensure that the correct party is bringing the claim, as this could jeopardise the success of the recovery effort.

Final Comment

The nature of cryptocurrency and cryptocurrency fraud means that experienced legal advisers need to work effectively alongside cybersecurity experts to ensure that maximum effort is brought to bear to recover any misappropriated assets quickly. For insurers looking to provide coverage to protect these assets, the key is to start preparing early and ensure that you have a team of lawyers and experts on hand who can fast track urgent applications and that you do not wait around for the inevitable to occur.

Clyde & Co has the largest dedicated and rapidly expanding cyber-attack response practice in Australia and New Zealand. Our experienced team has dealt with thousands of data breaches and technology-related disputes in recent times, including several of the most significant and most complex incidents in Asia Pacific to date.

If you wish to discuss how to prepare for the cryptocurrency fraud event or discuss this issue in more detail, don't hesitate to contact Clyde & Co partners Matthew Pokarier and Darryl Smith.