When (Insolvency) Law and Digital Technologies Meet: Two Observations

When (Insolvency) Law and Digital Technologies Meet: Two Observations

By Ilya Kokorin (Leiden University)


In her bestselling book The Code of Capital: How the Law Creates Wealth and Inequality, Katharina Pistor (Columbia Law School) writes: “Law’s inherent incompleteness […] makes for fertile ground for legal creativity and imagination in every possible direction. It allows lawyers to graft the modules of the code onto new assets for which they were never designed […].” The point where technology and law intersect opens the door for such imagination and creativity. We are currently witnessing the exciting process of how law, and insolvency law, in particular, is trying to find the way(s) to respond to the new technological developments and to code new types of digital assets into the legal code. In this blog entry, I will make two observations on how law has reacted to the proliferation of digital technologies and what role lawyers have played in this process.

I. Coding of Digital Assets

The first observation relates to the coding of digital assets, such as cryptocurrency. By coding I mean imbedding these assets into the confines of the existing legal regimes and traditional law notions of property, trust, securities, shares, etc. When faced with the new and unknown, the first (and somewhat natural) reaction may be rejection or resentment. This reaction was seen in the judgment of the Commercial Court of Moscow (Russia) in the case of Mr. Tsarkov’s bankruptcy (later overturned in the appeal). The court had to determine whether Bitcoin could be characterised as property under Russian law, therefore falling into the debtor’s insolvency estate. Declining to grant such recognition, the court ruled that the legal nature of cryptocurrency was unclear and could not be derived by analogy from other types of assets. In other words, the court decided that Bitcoin did not fit into the system of Russian law and hence was an “outsider” to it. One can also take a different view and conclude that the court simply walked away from adjudicating the issue because it found it was too difficult to grasp.

More creativity and depth can be found in the judgment related to the insolvency of New Zealand’s crypto-exchange, Cryptopia. In Ruscoe v. Cryptopia Ltd (in Liquidation) [2020] NZHC 728, the High Court of New Zealand had to determine whether various cryptocurrencies held by the liquidators of the defunct crypto-exchange constituted property as defined under laws of New Zealand and, should the answer be “yes”, whether they could form the subject matter of a trust at common law. To answer the question whether Bitcoin can be considered property, the court relied on the decision of the House of Lords in National Provincial Bank v. Ainsworth [1965] 1 AC 1175 (HL), dating from 1965.

Obviously, the 1965 decision had nothing to do with crypto-assets – it touched upon the proprietary interest over the house, by far a more conventional type of assets. However, it was not the asset itself that played the key role, but the legal argumentation used to characterise if something was capable of being property under law. In particular, the court adopted the four-requirements test: (a) identifiable subject matter; (b) identifiable by third parties; (c) capable of assumption by third parties; (d) some degree of permanence and stability. According to the New Zealand court, the digital assets in question satisfied all four requirements and, as a result, were coded or legally identified. Having found that cryptocurrency was property, the court also ruled that it was capable of forming the subject matter of a trust (in fact, separate trusts were established with respect to each cryptocurrency).

The same coding methodology has been used by US courts and authorities seeking to identify whether digital assets amount to securities, thereby triggering the application of protective securities legislation. For example, in the case involving a digital token offering, powering the “Telegram Open Network” or “TON Blockchain”, the US Securities and Exchange Commission (SEC) argued that the digital tokens called “Grams” were securities, whose offering and sales required registration pursuant to the Securities Act of 1933. To prove that Grams were securities (which include a wide range of investment vehicles, including investment contracts), the SEC utilized the Howey Test. The same test was applied by the SEC in classifying the tokens of The DAO as securities.

This test derives its name from the case of Securities and Exchange Commission v. W. J. Howey Co., 328 U.S. 293 (1946), decided by the US Supreme Court in 1946. The case concerned the tracts of citrus groves and, what essentially were, sale and leaseback agreements, which allowed Howey to attract money from outside investors. The Howey Test requires: (i) investment of money; (ii) common enterprise; (iii) reasonable expectation of profits; (iv) such profits should be derived from the efforts of others. While the Howey Test was proposed more than 70 years ago, it has become a major coding instrument applicable to the novel and unique investment vehicles that have no relation to land, citrus trees or other physical things.

Another example of how law and legal professionals have responded to the challenges posed by digital technologies is the case of Ion Science Ltd v. Persons Unknown (unreported), 21 December 2020 (Commercial Court). The UK-registered company Ion Science Ltd. claimed to be the victim of the initial coin offering (ICO) fraud and has sought the relief in the form of a worldwide freezing order and disclosure orders against a number of foreign crypto-exchanges. One of the key legal issues addressed by the court was that of applicable law. Typically, law of the place where an asset is situated (lex rei sitae or lex situs) determines the applicable (property) law. This jurisdictional link works well for land, cars and other corporeal things. Yet, given the decentralized nature of blockchain, pinpointing the location of cryptocurrency, such as Bitcoin, is impossible. The court concluded that there was a serious issue to be tried that English law applied because the damage occurred in England – the place where the owner of Bitcoins was located prior to the transfer. Thus, applicable law was determined with the reference to the location or domicile of the owner of cryptocurrency.

II. The Rise of Lawyers as Masters of the Code

In The Code of Capital Pistor describes the crucial role of lawyers, who use their expert legal knowledge to identify opportunities for legal innovation in order to code capital and to create private wealth. She writes that “[l]awyers have been in the business of coding capital for centuries, but the value of their coding efforts has increased over time with the challenges in the nature of the assets they code as capital.” The importance of lawyers as masters of the legal coding is especially evident in the cases concerning novel types of assets and relations, such as those involving cryptocurrency and crypto-custodians.

For example, in the above case of Ion Science Ltd, in support of the position on applicable law (i.e. the place where the relevant participant in the Bitcoin system was located) the judge has cited the analysis carried out by Professor Andrew Dickinson (University of Oxford). The writings of legal scholars have been extensively relied on by the court in Ruscoe v. Cryptopia Ltd. This time, mainly in the context of the property law qualification of cryptocurrency. Among other sources, the New Zealand court quoted the findings of the UK Jurisdiction Taskforce, which has stressed that “[s]ome take the view that the design of crypto assets means that there is no need for traditional legal rules or processes. […] We do not agree. The design of crypto assets may create some practical obstacles to legal intervention but that does not mean that crypto assets are outside the law.” The court confirmed this view by coding Bitcoin and other digital assets into the legal code.

The above cases demonstrate the increasing power of lawyers in the process of legal coding. However, the creativity of lawyers alone may be insufficient to successfully respond to the practical obstacles, mentioned by the UK Jurisdiction Taskforce. As a response, lawyers have started cooperating or building alliances with technology companies. For example, the law firm representing creditors of the insolvent Canadian crypto-exchange QuadrigaCX has used the services of blockchain forensics experts to investigate the lost cryptocurrencies. Another good example is insolvency of the UK-based crypto-exchange Dooga Ltd. (formerly known as Cubits). In this case the stolen digital assets were traced through forensic technology to the wallets operated by two US-registered crypto-exchanges Coinbase Inc. and Bittrex Inc. Once the location of the crypto-assets was established, English administrators requested assistance from the US Bankruptcy Court. The US court ultimately directed the crypto-exchanges to turn over the contents of certain accounts to the foreign representatives of Dooga Ltd. Forensic techniques to investigate blockchain transactions have been used even earlier – for instance, by the US Department of Justice in its investigations concerning the darknet market Silk Road, the web platform that enabled its users to anonymously buy and sell drugs and other unlawful goods and services.


Thomas Jackson, the author of the well-known creditors’ bargain theory, has recently written that “[o]ne need not reinvent the wheel to recognize that bankruptcy will always be a “work in progress (a good thing for bankruptcy scholars!).” This insightful remark reflects the state of affairs in the area where (insolvency) law and digital technologies meet. In this blog post, I have described how legal creativity and imagination have been embraced by academics, practicing lawyers, and judges to apply the long-standing legal tools of property law, securities law, and private international law to digital assets. Following the terminology of Professor Pistor, these assets have been coded into law and have acquired the power of capital. Yet, new questions will appear and wait for the answers. For example, where is the centre of main interests of a decentralized autonomous organization? How can digital assets be used as security and what is the impact of new technologies on enforcement? What are the possible effects of artificial intelligence (AI) on directors’ liability and how can AI be employed to build the early warning systems to pre-empt insolvency?

The ever evolving nature of technology will maintain the demand for legal responses, making the role of lawyers, as the masters of the legal code, more critical. Nevertheless, to efficiently resolve the problems and capitalize on the benefits of digital technologies, lawyers will need to build alliances with and learn from technology experts.