Crypto Caselaw Minute #17 -1/3/2019
By: Stephen Palley
Tags: Cryptocurrency, Law, Ethereum, Bitcoin, Investing

There are four billion reasons to read this week’s CCM. Palley looks at a Florida case that deals with the alleged misappropriation of $4 Billion USD in bitcoin, Rosario writes up a new lawsuit filed in federal court in NY that concerns a crypto investment scheme gone wrong, and finally we are lucky to have another guest post from attorney Andrés Chomczyk who gives us the 411 on a bad case for crypto from the Chilean Supreme Court. (As always, Rosario summaries are “NMR” and Palley summaries are “SDP”, and for this week our guest summary is labeled “ACH.”)

Disclaimer: These summaries are provided for educational purposes only by Nelson Rosario [twitter: @nelsonmrosario] and Stephen Palley [twitter: @stephendpalley]. They are not legal advice. These are our opinions only, aren’t authorized by any past, present or future client or employer. Also we might change our minds. We contain multitudes. (Picture credit : https://pixabay.com/en/adirondack-adirondack-chair-3814584/; CC0 Creative Commons)

Kleiman v. Wright, №18-CV-80176, 2018 U.S. Dist. LEXIS 216417 (S.D. Fla. Dec. 27, 2018)

Link to opinion: https://www.courtlistener.com/docket/6309656/68/kleiman-v-wright/

This opinion involves a lawsuit over ownership of more than a million bitcoin. (If like me you still think in dirty old fiat currency that’s about 4 Billion Dollars at current exchange rates, or nearly 5 percent of the total 21 million bitcoin that will ever exist). It dives deep into esoteric questions of civil procedure, the mechanics of dispute resolution between parties in different countries, and a crypto-existential question that will be the primary focus of this summary: what is bitcoin for purposes of saying that someone stole yours? Is it money? Something else? And why does it matter?

First, some background. The dispute itself goes back to the early days of bitcoin and involves a fella named Craig Wright, who made news in recent years by claiming that he was the inventor of Bitcoin and then backing off of that claim not too long after. To say that Mr. Wright is controverial in Bitcoin and cryptocurrency circles would be an understatement.

Mr. Wright is the defendant in this lawsuit. There are two plaintiffs, the estate of David Kleiman and a company called W&K Defense Research LLC (“W & K”). Mr. Kleiman died in April 2013. The Court describes the relationship between Mr. Wright and Mr. Kleiman and the nubbin of the dispute as follows:

Dave and Craig met in or around 2003. Their relationship centered around their mutual interest in cyber security, digital forensics, and the future of money. Around 2008, Dave and Craig began to speak about ways to use peer-to-peer file sharing to solve issues in cryptography. The Amended Complaint alleges that for the next several years, Dave and Craig worked together in developing Bitcoin, and that through their collaboration they mined over a million bitcoins together. These bitcoins were stored in specifically identifiable bitcoin wallets, over which Craig now asserts ownership.

The word “identifiable” is going to be key, as we will see below.

Plaintiffs allege that Dave Kleiman created intellectual property on his own and through W & K and that the Estate and/or W & K own all of this IP. There is some dispute as to Mr. Wright’s role in the creation of W & K.

After Mr. Kleiman died, the Plaintiffs allege that Wright “unlawfully and without permission took control of the bitcoins from the Estate and from W&K once he had exclusive possession over the private keys necessary to own, move, or sell the bitcoins belonging to Dave and/or W&K.”

Because this post is called Crypto Caselaw Minute, not hour, I am going to skip over some really interesting back story involving Australian judgments and a long section of the opinion that deals with the doctrine of forum non convenience and something called international abstention. There’s also some interesting dicta on forks, noting that the dispute actually involves not just the original bitcoin but forked stuff too (e.g., bitcoin cash I am looking at you). Summarizing this stuff quickly before I get to existential issues adverted to at the outset: the court dismised a couple of claims for statute of limtiations reasons but refused to dismiss this lawsuit entirely, so this FOUR BILLION DOLLAR BITCOIN LAWSUIT will continue.

One of the claims that is being allowed to continue is a claim for conversion. Conversion is an intentional tort — specifically, it’s a cause of action that you can bring against someone if they wrongly asssert dominion over your property. Say that your neighbor Satoshi wrongfully takes your deckchairs — you could sue him for conversion in order to recover the value of the chairs. That’s right — value of the chairs, not the chairs themselves. See, conversion is a legal remedy where you get damages. If you want to get the chairs themselves you’d sue for detinue or a relative of that equitable cause of action , and get the court to order the chairs themselves to be returned.

It’s usually hard to win on a claim for conversion of money because well, the stuff all looks the same — it’s fungible. In order to succeed under Florida law the Court says that you have to show “(1) specific and identifiable money; (2) possession or an immediate right to possess that money; (3) an unauthorized act which deprives plaintiff of that money; and (4) a demand for return of the money and a refusal to do so.”

Here, the court held that plaintiffs had sufficiently alleged a claim for conversion of bitcoin under Florida law:

Whether or not bitcoin is “money” for the purposes of a conversion claim, the Court agrees with the Plaintiffs that they have sufficiently (and with specificity) alleged a claim for conversion. In regards to the bitcoin’s specificity and identity, Plaintiffs have alleged that the bitcoin blockchain is “a giant ledger that tracks the ownership and transfer of every bitcoin in existence and that every [ bitcoin wallet and the number of bitcoin inside that particular wallet can be identified on the blockchain by referring to its “public key.” Further Plaintiffs claim that the bitcoin at issue were “stored in specifically identifiable bitcoin wallets.” Defendant also argues that Plaintiffs have failed to “allege exactly how many bitcoins Dave Kleiman supposedly owned at any time in the past.” Plaintiffs, however, have directly alleged that Defendant admitted that Dave owned at “least 300,000 of the 1,000,000+ bitcoins allegedly held in trust.” The Plaintiffs have also alleged that the bitcoins were transferred to trusts located in “Seychelles, Singapore, and [the] UK.”

In short, the existential question of “what is bitcoin, really, man?” looks like it didn’t matter to this court. What mattered is that — money or not — it could be identified with particularity. My friend Drew Hinkes (@propelforward on twitter), who happens to be a Florida lawyer, pointed out to me that on this reasoning and under Florida law even if Bitcoin is money if you can identify the UTXO’s, you can probably make out a claim for conversion. So … maybe it doesn’t matter if bitcoin is or isn’t money.

This lawsuit involves a substantial dispute and will be allowed to go forward. I’m confident we will see more caselaw and more precedent from it. And when that happens you can be sure we’ll cover here.

Lagemann et al. v. Spence et al., № 1:18-CV-12218, (S.D. NY Dec. 26, 2018)

Link to complaint: https://www.scribd.com/document/396682321/Silver-Suit

Picture this. It’s December 2017 and the Great Crypto Bull Run of 2017™ is at its peak. Naturally, with nothing but blue skies ahead this is the perfect time to start a crypto hedge fund. So, you take to Telegram and start advertising your great new investment opportunity. People contribute, you set out with your plan of making money, and then, things change. The market tanks. Investors get jumpy. They want their money back. They don’t receive it. Now it turns out there may have never been a hedge fund. A lawsuit is filed. This story format is not unique to crypto, but stories like this may become more common in this space. So, what happened to prompt this lawsuit?

As alleged in the complaint on or about December 2017, Jeremy Spence created a group on Telegram to solicit investment in a company he was allegedly operating called Coin Signals. In particular, Spence represented that Coin Signals “utilized trading algorithms and unique models to process cryptocurrency trading data and exploit trading opportunities in such a way that would generate significant investment returns for the company’s investors.” Apparently, in one particular post Spence stated “[i]f you guys stick with me in 2018[,] you have no excuse not to 20x your money. If you don’t[,] you will get a full group refund . . . .” (emphasis added). People were interested, and Spence was off to the races.

The plaintiffs allege that much of what Spence was representing about himself, and what he was promising in terms of returns, was simply not true. In addition, Spence allegedly had some help. Enter CryptoSpaceGuy and BlackXantus.

CryptoSpaceGuy is the alleged screen-name of one of the co-defendants in this case Jamie Cruz-Herrera. BlackXantus’s real name is at the moment unknown. These two allegedly assisted Spence with his endeavours with Cruz-Herrera functioning as a hype-man in Discord chat rooms setup for investors, and BlackXantus operating the “trading algorithm” for the fund and serving as intake for cryptocurrency investments from the plaintiffs. Incidentally, Cruz-Herrera and Spence were allegedly roommates and business partners from their time together at NYU.

All told, during 2018 the plaintiffs invested 116.5 bitcoin and 28 ether. Making poor investment choices happens all the time, but you may have a cause of action if you can show that you were induced to make those choices based off of lies and other such nefarious activity. Lies, misrepresentations, fraudulent inducement and a conspiracy are what is generally alleged here, and serves as the basis for multiple causes of action in the lawsuit.

Two more points are worth covering in this case. The first is that the plaintiffs are seeking return of the specific cryptoassets they invested in the fund from Spence. This may difficult; however, because the plaintiffs claim that Spence roped in his parents to hold some of the assets themselves in wallets or trading accounts in their names. If this is true wallet services or crypto exchanges may be hearing from plaintiffs soon for information concerning the Spences.

The second point is the plaintiffs allege a civil conspiracy between Spence, Cruz-Herrera, and BlackXantus to solicit funds from the plaintiffs on the basis of false statements to enrich themselves in what amounted to a traditional Ponzi scheme. Recently, the plaintiffs discovered a private chatroom message that simply must be included in this post:

BlackXantus is apparently the bigfoot looking “BX” in the above image. The complaint has this to say about the above image “[a]s BLACKXANTUS admitted, investors’ deposits did not go toward an investment program; rather, the funds were taken by the CSM FUND Defendants to, inter alia, pay off their own debts.” As always, everything you put in writing on any platform can be evidence.

It will be interesting to follow this case to see if: 1) the cryptoassets can actually be recovered; and 2) anyone knows who Big Foot, I’m sorry, BlackXantus actually is. Assuming the allegations in the lawsuit are true, of course.

Orionx SpA contra del Banco del Estado de Chile (Chilean Supreme Court, 3d Chamber, 12/3/2018). [ACH]

Link to opinion: Orionx Supreme Court judgment.

On the eve of laBITconf, the most important conference in Latin America on Bitcoin and held in Santiago, Chile on December 3, 2018, the Third Chamber of the Supreme Court of Chile rejected an appeal filed by the Chilean exchange Orionx against Banco del Estado de Chile (“BancoEstado”). Orionx initiated the case with the filing of a “recurso de protección”; this is a kind of procedure where the plaintiff seeks a writ from a court against a defendant that is acting in a way that the constitutional rights of the plaintiff are affected in a manner where a quick and immediate solution is needed.

BancoEstado closed Orionx’s bank accounts using a unilateral termination clause that was written in the bank account agreement entered into with Orionx. BancoEstado supported the lawfulness of its actions in that, according to its AML manuals, they could not operate with clients whose activity was the exchange of cryptoassets as long as there was no proper and formal regulatory framework for such activity. Orionx, through the rejection of the appeal, was denied its constitutional right to exercise a legal activity as there is no law or regulation in Chile that prohibits the exchange of cryptoassets. The ruling of the Supreme Court clearly ignores the principle of permission, which allows the practice of any activity which is not expressly forbidden. In particular, the judgment ignores the fact that Orionx’s activities are covered by the rest of the legal system, such as consumer protection and general commercial regulations, which are applicable regardless of the activity in question.

Orionx argued that BancoEstado’s decision was abusive and illegitimate, because the reason given was not foreseen among the reasons that authorized the unilateral termination of the agreement. The Supreme Court considered that the list of reasons provided in the agreement was merely enunciative and that the grounds alleged by BancoEstado were valid for the termination of the agreement and the closure of the account. This decision of the Supreme Court is also a setback since it supports the practice and exercise of abusive clauses in agreements with predisposed clauses, such as a form requesting a banking product.

The ruling handed down by the Supreme Court of Chile represents a potentially deadly blow to the crypto ecosystem in Chile by allowing the actions of financial institutions (we recall that the Chilean crypto ecosystem has been the victim of a coordinated attack by the banking system) and left without immediate constitutional protection to the actors that drive the development of this new industry. This action may subject the industry to both more extensive and expensive judicial procedures that many of these companies cannot support. Fortunately, the arguments of the ecosystem are being received in good form by the Court of Defense of Free Competition, according to some sentences already issued, when it is claimed that these practices constitute attacks on free competition.