HK court backs established means for protecting cryptos

A recent Hong Kong judgment confirms that familiar legal principles of trusts and injunctions apply equally to cryptocurrency as a novel asset class.

With such legal remedies for victims of cryptocurrency fraud, businesses may now more confidently rely on the courts to grant relief to protect and recover their digital assets.

The Court of First Instance handed down its judgment in the trial of Nico Constantijn v Stive Jean-Paul Dan (2022) in one of the first cases in Hong Kong granting a freezing injunction over bitcoins.

The court held that the defendant acted as the plaintiff’s sales agent in respect of the plaintiff’s bitcoins. The defendant was found to have breached his fiduciary duties in failing to account to the plaintiff for the bitcoins and the relevant sales proceeds.

Consequently, the court held that the defendant held on trust for the plaintiff the unsold bitcoins, and the proceeds from the sale of the bitcoins.

Given the recent drop in cryptocurrency prices, it is important for businesses to safeguard cryptocurrency investments and understand available legal remedies in case of dispute.

Businesses should put in place adequate safeguards when engaging in cryptocurrency trading and other related activities to minimise the risk of financial losses. These safeguards include recording transaction terms in a written agreement, keeping comprehensive transfer records, and putting in place contingency plans for dealing with financial fraud/crime.

PRACTICAL IMPLICATIONS

It is important to properly document the agreement between parties in cryptocurrency transactions, including the amount and type of cryptocurrency to be transferred, the transferor wallet and the recipient wallet. In the Nico Constantijn v Stive Jean-Paul Dan (2022) case, there was no written agency agreement, which led to disputes on the terms of the agency agreement and rate of commission.

It is also important for parties to agree on the applicable law for cross-border transactions involving parties in different jurisdictions. It is equally important to keep records of cryptocurrency transfers.

Having the transaction ID means that transaction details can be verified on the public blockchain, including the type and amount of cryptocurrency transferred, the transferring wallet address, the receiving wallet address and when the transfer was made.

It is important to safely store private keys and seed phrases, as these are required to safeguard and maintain access to cryptocurrency wallets. Loss of the private keys and seed phrase for a wallet will mean that the wallet (and any cryptocurrency stored in it) can no longer be accessed.

Upon discovery of fraud, act swiftly and consider whether an application should be made for a freezing injunction. Delay in applying for a freezing injunction may hinder the prospects of successfully obtaining an injunction.

If the cryptocurrency transfers involve anonymous parties, it may also be necessary to seek disclosure applications against third parties (such as cryptocurrency exchanges) to identify the parties involved and other relevant information.

Given the fast-changing developments in digital assets, it is all the more important that businesses and victims of cryptocurrency fraud act promptly in seeking legal advice and taking necessary legal steps.