For the first time in history, failed cryptocurrency platforms are turning to corporate bankruptcy law to salvage their insolvent businesses. And with those novel moves comes the novel issue of just how bankruptcy courts will prioritize their millions of customers' frozen crypto assets. Yahoo Finance reporter Alexis Keenan gives details on September 23, 2022.
- For the first time in history, failed cryptocurrency platforms are turning to corporate bankruptcy law to salvage their insolvent businesses. And with those novel moves comes the novel issue of just how bankruptcy courts will prioritize their millions of customers' frozen crypto assets. Cred, Celsius, and Voyager Digital are three crypto platforms that filed for bankruptcy under Chapter 11 of the US Bankruptcy Code. All of the companies first blocked their customers from account withdraws, then filed for protection that bankruptcy offers to hang on to their customers' crypto and effectively push its fate into judges' hands.
While crypto presents a new type of asset for bankruptcy courts to manage, long established rules for the hierarchy of creditors will govern exactly how the debtors' crypto assets are divvied up. Customers whose crypto assets are now tied up in bankruptcy will fare better or worse depending on how their customer agreement describes their holdings and how the platforms actually stored their funds. Arrangements that clearly segregate customer crypto from the platform's own assets are a best-case scenario for crypto holders because their property must be set aside from the bankruptcy estate and returned. Other arrangements that pool together customer crypto, controlling the assets in a common account, are much more vulnerable because they'll likely become part of the bankruptcy estate and get relegated to general unsecured debt. That position, unfortunately, ranks far from the top of the creditor food chain.
That's what happened in the bankruptcy case of crypto lending platform Cred. Unbeknownst to many of its customers, its user agreements commingled their crypto, and the bankruptcy court designated their claims as unsecured debt, sending them nearly to the end of the creditor line. Voyager made a similar argument, telling a bankruptcy judge it considered its customers' crypto as commingled assets that it could use on the customers' behalf. And it said it should become part of the bankruptcy estate.
The company even pointed to a provision in its agreement, saying that it and its customers agreed to the unsettled nature of their rights in the event of insolvency. Legal experts say crypto holders looking to recover their assets need to look at their agreements' fine print. They note that even accounts on the same platform can be governed by separate agreements. And making the matter still more complicated, wallets sometimes appear to customers as segregated when, in fact, they're commingled.
For crypto holders designated unsecured creditors, there's no guarantee of any payout at all. They'll stand in line for what's left of the bankruptcy estate, behind post-bankruptcy vendors and administrative expenses, employees, bankruptcy lawyers and bankers, and to secured creditors like banks and other lenders, and even junior secured creditors who are next in line. Adding to that uncertainty are the inevitable fluctuations in crypto prices, along with unsettled lawsuits and the possibility that a bidder could buy up the bankruptcy estates, all of which could leave more or less crypto to go around.