What Happens if Coinbase Goes Bankrupt?
In May 2022, the cryptocurrency exchange Coinbase announced, in an SEC Form 10-Q, that the various cryptocurrencies held on its exchange could be included as property of its bankruptcy estate should it file for bankruptcy protection. Though Coinbase followed up with public announcements attempting to allay fears of its solvency, the announcement sent shockwaves throughout the crypto world, as many crypto investors and holders learned for the first time that the coins/tokens they “purchased” may not be considered their property under the Bankruptcy Code, if those coins/tokens are held on a crypto exchange that seeks bankruptcy protection. In fact, far from being an owner of the coins/tokens, the holders/investors may be deemed merely as unsecured creditors of the exchange. Following the announcement, many bankruptcy scholar and crypto enthusiasts published articles analyzing the accuracy of the disclosure.
While this is a novel issue, most legal experts seem to agree with Coinbase’s disclosure, concluding that, generally, coins/tokens held on a cryptocurrency exchange, barring specific language to the contrary in the user or account agreement, likely would be deemed property of the bankruptcy estate and the purported owners of the coins/tokens would be nothing more than unsecured creditors of the bankruptcy estate. This means investor/holders would not receive their coins/tokens back from the exchange and likely would receive only a small percentage of the value of the coins/tokens (potentially as of the bankruptcy petition date) from the bankruptcy estate. Moreover, some pointed out that investors/holders removing their tokens/coins from the exchange in the 90 days prior to the exchange filing bankruptcy, might be at risk of having the withdrawals deemed preferences under the Bankruptcy Code.
It is unknown if certain (and what) contract language between the exchanges and the investors/holders would create a different result, whether the outcome might change from state to state depending on each state’s property ownership law, or if a third party (i.e. a federal agency) intervenes on behalf of customers and appoint a trustee or other administrator to protect the interests of the purported owners. Unfortunately, as cryptocurrency is relatively a new asset class (it is still presently unknown whether cryptocurrency is a security, a commodity or something all together different), those tackling the issue could only issue educated guesses, as no cryptocurrency exchange had filed for protection under the Bankruptcy Code. That was about to change in short order.
On July 5, 2022, the cryptocurrency exchange Voyager Digital filed a Chapter 11 bankruptcy case. This move followed a decision by Voyager on July 2, 2022, to temporarily suspend trading, deposits, withdrawals, and loyalty rewards for all of their customers. Voyager pooled customers’ cryptocurrency assets in common pools based off the specific type of cryptocurrency. As a result, most agree that the tokens/coins held on the exchange in pools are property of the bankruptcy estate and not of the various investors/holders. However, in an effort to reassure their customers, Voyager announced that customers would be placed in a special subclass of unsecured creditors that would have a higher priority for recovery than other unsecured creditors. While Voyager did not promise that customers could/would receive all of their tokens/coins stored on the exchange, it is hoped that customers will receive a pro-rata share of any payout that Voyager received from their $650 million claim against a cryptocurrency hedge fund, of common shares in the reorganized Voyager company (if any), and of Voyager’s tokens ahead of general unsecured creditors.
Since filing for bankruptcy, Voyager Digital has announced several updates concerning their bankruptcy case. On July 19, 2022, the Official Committee of Unsecured Creditors for Voyager was appointed by the U.S. Trustee. The Committee is comprised of seven individual unsecured Voyager creditors and held its first town hall meeting on August 11, 2022, which can be viewed on the internet for those interested. The Committee also created a Twitter account for the posting of updates on relevant information and key dates for creditors.
This case will continue to develop in the coming weeks and months, primarily as hearings on Voyager’s Disclosure Statement and Plan are conducted (as well as any related objections). As more information becomes available, future articles will be posted.