A Year After the ICO Craze, Here Come the Lawsuits

By Eva Xiao


Last week, Russian spies were indicted for disrupting the 2016 presidential election via a hacking scheme that "principally" used Bitcoin to cover their tracks. But this is hardly the first time that Bitcoin has appeared in court documents.

Bitcoin-related cases have involved ransomware like WannaCry, or terrorist sympathizers who use Bitcoin and other cryptocurrencies to donate to ISIS. Next to show up in the courts? Initial coin offerings, or ICOs.

A year ago, it seemed as though companies could raise ICOs with impunity. By issuing and selling their own cryptocurrencies, blockchain firms were able to raise millions of dollars, sometimes in minutes. They often had little more than a white paper, or conceptual outline, to show for it. But increasingly, those ICOs are starting to see their day in court.

"Our firm's class action practice is gearing up to defend the [blockchain] industry in what will be a wave of class action lawsuits that are already starting to be filed," says Justin Wales, an attorney at Carlton Fields, a law firm based in Florida. Wales also chairs the firm's blockchain and virtual currency practice group.

"The state and federal regulators are focused predominantly on outright fraud," he tells LongHash, referring to companies that deliberately mislead investors with false information. "I'd say we're 4 to 8 months away from a real wave [of lawsuits] hitting."

Litigation against companies that raised ICOs has already begun in the US. Tezos, which raised a then-record-breaking US$232 million last July, was slammed with multiple class action lawsuits at the end of last year for selling unregistered securities and "unlawful business practices." Giga Watt, a cryptocurrency mining firm based in Washington state, was also accused of selling unregistered securities, as well as misleading investors. After investing more than US$20 million, ICO supporters have yet to receive any tokens.

Over the past five years, Bitcoin has surfaced in a wide variety of court documents, from lawsuits over trademark infringement (such as Kanye West’s lawsuit over “Coinye West”) to cryptocurrency exchange hacks. In a chart LongHash compiled using court documents from CourtListener, which shares US court case documents, there have been 15 court cases related to initial coin offerings so far, starting last year. Some have targeted fraud; others securities law violations (or both). Earlier this month, for instance, lawyers debated whether or not Ripple’s XRP token counted as a security.

With about US$6.1 billion raised through ICOs last year and another US$6 billion this year, there could be a significant number of related lawsuits in the pipeline, especially if projects don't deliver on their white paper promises. Many companies are also ill-prepared to take on class action lawsuits. Adding a short disclaimer about investment risks or claiming that your token isn't a security isn't enough.

"We've seen a lot of people without bad intentions raise a lot of money without thinking about the kind of liability they're taking in order to raise that money," says Wales. "I don't think they all had a real strategy before raising money.”

From Silk Road to ICOs

Some of the earliest US court cases related to crypto are tied to the Silk Road, a notorious online marketplace for illicit goods such as drugs and fake IDs. Bitcoin, which offers users pseudonymity, was the only accepted form of payment on the Silk Road. In these earlier court cases, some of which were filed in 2013, it's clear how new the concept of Bitcoin was, especially in the courtroom.

"I don't know much about Bitcoin. You'd be shocked to know that I still know very little about Bitcoin," said Marc Agnifilo in court, while defending Charlie Shrem, who, along with Robert Faiella, were charged with supplying Bitcoin transactions to and from the Silk Road.

Since then, general understanding about cryptocurrencies and blockchain has improved, but there’s still a gap between the technology and the law. In 2016, for instance, a Florida judge dismissed charges of unlicensed money transmission and money laundering against Michell Espinoza, who bought and sold Bitcoin on localbitcoins.com. The defendant successfully argued that Bitcoin isn’t a form of money according to Florida’s legal system.

“Some states have actually amended their money transmission laws to include cryptocurrencies,” says Arnaldo Rego, Jr., a Carlton Fields attorney who specializes in securities and other regulatory matters in the cryptocurrency and blockchain-related space. But others haven’t and leave it to interpretation instead, he adds.

That’s another challenge to litigating cryptocurrency or blockchain-related cases: keeping track of everything as both state and federal regulators adapt to new cases. And while the US Securities and Exchange Commission (SEC) has released several statements on fraudulent ICOs, new concepts like airdrops, where companies give out tokens for free or to users who meet certain requirements, are uncharted territory.

At the same time, however, new tools and services are emerging to help law enforcement and legal professionals grapple with cryptocurrency-related cases. Chainalysis, for instance, is helping the Internal Revenue Service track down people who haven’t paid taxes on crypto profits. Certain law firms are also developing expertise and a reputation in blockchain-related cases, such as Silver Miller, which is investigating Tezos and currently represents plaintiffs in cases against crypto exchanges like Kraken and Coinbase.

As the SEC continues to crack down on ICOs, the number of cases involving securities laws violations, not just fraud, will likely increase. Blockchain companies that have or plan to raise ICOs this year might want to get a lawyer.

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