UKJT publishes Legal Statement on digital assets and English insolvency law

April 29, 2024

Following consultation, the UKJT has published its Legal Statement on Digital Assets and English Insolvency Law. This is the third Legal Statement issued by the UKJT.

The first was its Legal Statement on the Status of Cryptoassets and Smart Contracts. published in November 2019. The second was its Legal Statement on the Issuance and Transfer of Digital Securities under English private law. Both have since been referred to in court decisions in England and Wales and other common law countries.

The UKJT says that one of the most pressing concerns of mainstream investors considering a digital investment strategy is uncertainty surrounding recovery of digital assets within an insolvent estate.

As a result, the UKJT has published its third Legal Statement addressing the way in which English insolvency law applies to digital assets. The Legal Statement concludes, amongst other things, that digital assets fall within the definition of property in the Insolvency Act 1986, and that proprietary rights can be retained to digital assets held by insolvent estates. However, a valid statutory demand cannot yet be served in respect of a debt of a digital asset.

Summary of Statement

  1. Existing English insolvency law can be sensibly and conveniently applied to disputes concerning digital assets. Although the issues which arise are technical and fact-specific in nature, they can be resolved by recourse to existing and well-established principles.
  2. Digital assets may amount to property under insolvency laws.
  3. If international jurisdiction falls to be determined by reference to Centre of Main Interests (COMI), the English courts will apply the existing and well-established test to ascertain the COMI of a company dealing in digital assets.
  4. Digital assets are not yet treated as money in England and Wales. This means that, although they fall within the statutory definition of ‘property’ for the Insolvency Act 1986, a claim to such assets will not (of itself) support a statutory demand.
  5. For the same reason, such assets do not amount to foreign currency for the purposes of Rule 14.21 of the Insolvency Rules 2016, which requires an office-holder to convert all debts incurred or payable in a “foreign currency” into pounds sterling, at a single rate for each currency determined by the officeholder, by reference to the exchange rates prevailing on the relevant date.
  6. Nevertheless, a claim to digital assets held by a company or bankrupt individual can (in principle) be a claim to recover property. This depends on the way the assets are held (in particular on whether the holding arrangements in any given case are as a matter of analysis structured as a trust).
  7. Insofar as office-holders decide to liquidate digital assets owned by the insolvent company, the usual obligations apply, including the obligations to exercise their powers in good faith, and to obtain the best price reasonably obtainable on the sale of property, although the volatile nature of digital assets might present particular challenges regarding the fair realisation of value. Office-holders may also, when exercising their discretion, determine that assets should not be realised and sold in return for cash, but instead distributed in specie (in the same form rather than cash).
  8. The law allows for transactions in digital assets at an undervalue to be reversed and for preferential transactions and transactions defrauding creditors to be set aside. Floating charges and property dispositions may be voided. Although it may not be technologically possible for a blockchain transaction to be literally undone, there would be no difficulty in a judge making an order to bring about the same result, for example by ordering a recipient to make an equal and opposite transfer.
  9. The interlocutory, investigatory and enforcement powers generally available to insolvency office-holders under English law are available in relation to digital assets. Office-holders may require a wide range of people, such as officers and former officers of a company, and certain employees, to provide information and documents, and they may apply to a judge for an order that relevant private keys be disclosed.

There are existing rules which are flexible enough to be applied to allocate any shortfalls in circumstances where digital assets belonging to different persons have been pooled. Although digital assets are created with new technology, they do not require a fundamental change in the longstanding legal analysis of tracing, mixed accounts, and shortfalls, although the technological structure of certain kinds of digital assets may be relevant to that exercise. The rules contained in the FCA’s Client Assets Sourcebook are unlikely to apply, since digital assets are not yet money.