Marketplace Lending/Fintech

Private Litigation Proliferation in Crypto World

Dec 12, 2021 | By JOSEPH CIOFFI

In recent months, SEC Chair Gary Gensler has referred (on more than one occasion) to crypto as the “Wild West.” As cliché as that may sound, the shoe, or boot, seems to fit quite well.

Similar to the aggressive expansion westward in the 1800s that shaped the nation, crypto is a magnet for exploratory investors (as evidenced by a growing total market value of over $3 trillion) and has an opportunity to reshape the financial industry. Yet, just as the Old West era was a time of lawlessness and peril, crypto’s critics point out that it remains largely untethered from the rule of law, with scams and abuses unfortunately all too common. As for one jaw-dropping example, one investor recently lost $11.6 million (200 bitcoins) in under 10 minutes after falling for a fake notification scam.

And — reminiscent of Wild West brawls — more and more private individuals and companies are embroiled in crypto-conflicts. At least, this time the courts are a ready forum to settle disputes. In fact, a simple search for the word “cryptocurrency” in LexisNexis already yields over 450 decisions.

A Sample of Private Crypto Cases

Putting aside the countless enforcement actions by financial regulators, which are currently only ramping up, private litigants are entangled in an array of crypto-disputes. Below are examples of some of the areas generating the greatest amount of activity in private litigation.

  • Account/Wallet Security and Access Litigation: Trading platforms and custodians have been sued in class actions for failing to safeguard customer accounts from security breaches, as well as for alleged lost access to crypto wallet. In a case in the Southern District of Texas, a plaintiff claimed he lost access to his $900k in Bitcoin investments (the action was voluntarily dismissed in November). In a separate case in the Southern District of Florida, the plaintiff alleges that $1.5 million worth of crypto were stolen by an individual that posed as a well-known crypto blogger.
  • Various Securities Litigation: Perhaps the largest category of cases, plaintiffs, mainly through class actions, have sued defendants for selling tokens allegedly unregistered with the SEC, and for selling tokens without restrictions in alleged violation of Blue Sky laws. In one class action, plaintiffs alleged that the popular trading platform, Coinbase, failed to register as a national securities exchange. Just last month a federal jury in Connecticut found that crypto currency products were not securities, under the U.S. Supreme Court’s long established Howey test, in a securities fraud class action against Cantor Fitzgerald’s former vice-chair. This verdict is bound to impact the many crypto-related securities litigations pending nationwide.
  • Other Fraud/Theft Litigation: As one would expect in such a booming area, there are also a good deal of fraud cases, many involving crypto-related disclosures. In one case, a defendant allegedly gave misleading financial projections when selling a Bitcoin mining platform by allegedly underestimating the electricity cost per kilowatt-hour.
  • Environmental Litigation: Lawsuits alleging adverse environmental impacts have been filed against Bitcoin miners, as well as the towns that approved their facilities. It remains to be seen whether public companies that invest in crypto – particularly those that have made generic statements about their environmental, social, and governance (ESG) policies — will be subject to shareholder litigation.
  • Legal Malpractice Litigation: Lawyers beware, cryptocurrency law is constantly evolving. Law firms have been sued by their crypto clients for allegedly providing inaccurate analysis and advice. In one case, a Bitcoin mining company alleged their attorneys failed to file the proper state law exemption paperwork for the companies’ securities offering, causing them to cancel a round of financing for the purchase of mining equipment, and allegedly suffer $50 million in lost revenue.

Looking Ahead

Given crypto’s attraction of high-dollar investment and growing mainstream adoption, the arguable absence of a strong regulatory framework, and the uncertainty concerning legal issues arising from the use of virtual assets, private crypto-related litigations will likely occupy an ever increasing portion of court dockets. In addition to the disputes related directly to crypto, the most dangerous areas may become those that have plaintiffs’ attention outside the crypto space. For example, misrepresentations and disclosures related to ESG disclosures are a source of litigation risk for all that make them. The days of gunslinging outlaws and lawmen may be over, but crypto businesses will be in plaintiffs’ crosshairs as public interest and involvement in the area intensifies.

Adam Levy, an associate in the Insolvency + Finance Group, contributed to this post.