It is property, after all!

On May 7, 2018, the Ninth Arbitration Court of Appeal delivered a judgement that caused a great stir to the “digital world”. Cryptocurrency was recognized as property that could be foreclosed.

We must give credit to the audacity of the court, because at the moment there is no legal framework to support such decision, but the court delivered its judgement based on the current tendencies and upcoming legislative innovations.

Let’s refer to the case history.

A certain Mr. C owned a huge amount of money to a certain company RT, LLC, which resulted in Mr. C being declared bankrupt. Afterwards, an ordinary procedure of property disposal took place. However, this procedure seemed ordinary only until a financial receiver decided to include cryptocurrency owned by Mr. C into the bankruptcy estate.

Mr. C objected to such decision of the financial receiver and decided to file an appeal against this decision to the Arbitration Court for the City of Moscow. It must be noted, that the court took the debtor’s side and dismissed the claims of the financial receiver.

The reasons of the court were as follows:

  1. Cryptocurrency status is not defined. The legislation of the Russian Federation provides no definition or legal nature of cryptocurrency as of the date of the case court hearing.
  2. Cryptocurrency exists solely in the cyberspace, and unlike real money, it is impossible to credit an account or e-wallet with cryptocurrency.
  3. Cryptocurrency appears literally “out of the Internet”, thus, emission of digital money is not secured by the state.

The court decided that cryptocurrency is a certain set of symbols and signs contained in some data system accessible via the internet through the use of special software.

The major argument against cryptocurrency was the fact that the court was unable to determine its category: property, asset, information or substitute.

Besides, the court considered Information of the Central Bank of Russia dated 27.01.2014 “On the Use of “Virtual Currencies”, Particularly Bitcoin, in Transactions”. Thus, the Central Bank points out that “virtual currencies” have no security or legally binding parties associated therewith. Transactions therewith are of speculative nature; they are carried out at the so-called “virtual stock exchange” and bear high risk of value loss.

The Bank of Russia warned individuals and legal entities (mainly, credit institutions and non-credit financial institutions) against using “virtual currencies” in exchange for goods (works, services) or cash in roubles or foreign currency.

According to Article 27 of the Federal Law “On the Central Bank of Russia (Bank of Russia)”, emission of money substitutes on the territory of the Russian Federation is prohibited.

Given the anonymity of “virtual currency” emission by an unlimited number of persons and their use for transactions, individuals and legal entities may be involved, involuntarily inter alia, into illegal activities, such as money laundering or terrorism financing.

The Bank of Russia warned that the provision of exchange services of “virtual currencies” into roubles or foreign currency, as well as goods (works, services) to Russian legal entities would be regarded as potential involvement with dubious transactions in accordance with the legislation on money laundering or terrorism financing.

Besides, according to the Information of the Central Bank of Russia dated 04.09.2017 “On the Use of Private “Virtual Currencies” (Cryptocurrencies)”, the Bank of Russia confirms its position declared in 2014; however, it points out that the Bank of Russia in cooperation with relevant federal state authorities monitors the cryptocurrency market and develops strategies to define and regulate cryptocurrencies in the Russian Federation.

The Central Bank of the Russian Federation points out that most transactions with cryptocurrencies are carried out beyond the legal jurisdiction of the Russian Federation or the majority of other countries.  Cryptocurrencies are not guaranteed or secured by the Bank of Russia.

Cryptocurrencies are emitted by an unlimited number of anonymous persons. Given the anonymity of virtual currency emission, individuals and legal entities may be involved into illegal activities, including money laundering or terrorism financing.

Transactions with cryptocurrencies bear high risks both during exchange transactions due to drastic exchange rate fluctuations, and during fund raising through ICO (Initial Coin Offering, a method of attracting individual investments through emission and selling of new cryptocurrencies/tokens to investors). The risks also include technological risks upon cryptocurrency emission and circulation and risks of reinforcement of rights to “virtual currencies”. It may lead to financial losses by individuals and inability to protect rights of consumers of financial services in case of their violation.

Given high risks of cryptocurrency circulation and use, the Bank of Russia deems the access of cryptocurrencies and any other financial instruments nominated or associated therewith to circulation and use at on-exchange trading and clearing and settlement infrastructure of the Russian Federation for transactions with cryptocurrencies and derivative financial instruments thereupon as premature.

Therefore, the Bank of Russia draws the attention of individuals and other participants of the financial market to high risks upon the use and investments into cryptocurrencies.

The court considered all these arguments upon the judgement delivery, but it failed to consider the fact that back in 2017, President of the Russian Federation Vladimir Putin approved the list of orders following the meeting on the use of digital technologies in the financial sphere. Particularly, the Government of the Russian Federation and the Bank of Russia were ordered to make amendments to the legislation of the Russian Federation, which would define the status of digital technologies used in the financial sphere and their terms (including such terms as blockchain technology, electronic letter of credit, digital pledge, cryptocurrency, token, smart contract) based on the obligatory nature of the rouble as the only legal means of payment in the Russian Federation.

It must be mentioned, that the work in this direction is in progress. Thus, on March 20, the draft law “On Digital Financial Assets” was submitted for consideration to the State Duma of the Russian Federation. This draft law covers basic terms regarding cryptosphere, permitted transactions and ICO procedure.

The key idea of the draft law worth mentioning for this particular case is recognition of cryptocurrency as property.

Thus, the draft law contains the following definition:

Digital financial asset is digital property created with the use of encryption (cryptographic) instruments. Ownership rights to such property are certified by making digital records in the register of digital transactions. Digital financial assets include cryptocurrency, token. Digital financial assets are not legal means of payment in the Russian Federation.

The same definition is included in the draft law published on the website of the Ministry of Finance on January 25, 2018.

The Arbitration court delivered the court decision on the case under consideration on March 5, 2018, i.e. before submission of the draft law to the State Duma, but after the text of the future law, albeit in its initial unedited form, was available to the general public.

Obviously, the draft law is not the law, but the general tendency of future changes has already become clear. Was the Arbitration court allowed to rely on those tendencies? The record shows that the Ninth Arbitration Court of Appeal took the liberty and set a precedent by declaring bitcoin property before the adoption of legislative innovations.

Recognition of bitcoin nationwide is the common tendency all over the world.

USA, Finland, Denmark, Estonia, South Korea, Japan, the Netherlands, Sweden recognize cryptocurrencies and support bitcoin-related start-ups.

All over the world, Russia included, there are exchange ATMs where anyone may acquire bitcoin online. However, most countries that recognize bitcoin on the state level point out that cryptocurrency is not considered a monetary unit.

There is another list of countries where cryptocurrency is banned, including Bangladesh, Bolivia, Vietnam, Kyrgyz Republic, China, Ecuador.

Logically, Russia will join the first list, and in the nearest future we will observe transformations of the Russian legislation related to the development of digital tendencies, as shown by the judgement of the Ninth Arbitration Court of Appeal dated 07.05.2018.

Tatiana Frolova

Leading Lawyer

Korpus Prava Private Wealth

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