Insolvency law principles apply to recovery of digital assets, says UKJT

However, the UK Jurisdiction Taskforce (UKJT) acknowledged that insolvency practitioners may face challenges in applying the principles in practice.

Experts in insolvency litigation and asset recovery at Pinsent Masons said, though, that the UKJT’s statement should “reassure digital asset stakeholders and insolvency practitioners alike”.

The UKJT is part of the industry-led, government supported Lawtech Delivery Panel. The panel is made up industry experts, government officials and regulators working to improve and innovate in the use of technology across the UK legal sector, and to address some of the challenges posed by that technology.

In a recent statement (55 pages / 3 MB), the UKJT concluded, amongst other things, that digital assets fall within the definition of property under the 1986 Insolvency Act. It means that property rights can attach to digital assets in insolvency situations.

While the statement is not legally binding, it sets out a framework of principles applicable to cryptoassets, distributed ledger technology, smart contracts and associated technologies under English insolvency law.

The statement follows “increased turbulence in the digital asset markets” which highlight the importance of “robust insolvency processes to ensure fair and predictable outcomes in respect of this form of investment,” according to the UKJT.

The practical questions addressed include clarity regarding the centre of main interests (COMI) principle – which refers to the place a debtor conducts its business on a regular basis. The English courts will apply the existing COMI principles in cases involving digital assets to presume that the debtor’s COMI is the location of its registered office.

The statement also highlights that digital assets are not “money” and therefore cannot form the basis of, or ‘found’, a statutory demand. A statutory demand is a formal step in the insolvency process which allows a business or individual owed money to initiate either bankruptcy or winding-up proceedings against a debtor. Additionally, as these assets are not “money”, they cannot be considered foreign currency which needs to be converted by office holders.

Although digital assets are not “money” upon which a statutory demand can be established, as there are property rights in digital assets, a claim to digital assets held by a company or a bankrupt individual can, in principle, form part of a creditors claim to recover property, according to the UKJT.

The UKJT said, though, that the volatile nature of digital assets can cause practical difficulties for an office holder. Notwithstanding that, it highlighted that office holders’ duties to exercise their powers in good faith and obtain the best reasonable price remain.

The guidelines also set out the laws allowing for transactions involving digital assets that are undervalued to be reversed. While it may not be technologically possible for a transaction to be literally undone, a judge may instead make an order to bring about the same result, for example by ordering the recipient of the transfer to make an equal and opposite transfer to return the asset.

The UKJT confirmed that the established rules, such as tracing rules, can be applied to identify the owner of digital assets. Tracing deals with identifying assets or property that have changed form or have been transferred, even when attempts have been made to conceal their original source.

Bill Geiringer of Pinsent Masons said: “The UKJT’s statement will reassure digital asset stakeholders and insolvency practitioners alike that they do not need to get to grips with legislative changes at this stage. Confirmation that existing insolvency law principles will apply to the recovery of digital assets is positive given previous uncertainty in this area. However, although the statement aims to provide certainty and practical guidance to market participants, the Taskforce concedes that the implementation of current principles and legislation may be difficult in the fast moving and volatile world of digital assets.”

Jennifer Craven of Pinsent Masons added: “As the statement acknowledges, the practical challenges in investigating, accessing information and identifying, recovering, and realising digital assets may require lateral and novel approaches from insolvency practitioners, within the bounds of their duties. But creditors should be reassured that, unless the usual exceptions apply, digital assets will remain part of the bankruptcy estate and office holders have the power and authority to gather these assets for distribution.”