Outstanding legal challenges
The recent operational changes suggest that in order to function, cryptocurrencies rely on countless points of centralisation, like wallet-providers, exchanges and specialist crypto-custodians. From a legal perspective and in the lack of a guiding regulatory framework, if owners do not hold cryptocurrencies directly, the conventional property law analysis underpinning the inquiry outlined in Part II above may become questionable and not capable of providing a correct representation of the legal nature of investors’ entitlement over cryptocurrencies. In the case of indirectly held cryptocurrencies on unallocated basis, investors’ rights may be personal and not proprietary in nature. The analysis below seeks to clarify this fundamental issue and the associated legal challenges. It highlights how the rules applicable to the circulation of intermediated cryptocurrencies are incomplete, ambiguous and a source of legal risk and, as a consequence, how investors are unable to quantify or to limit their exposure to potentially damaging outcomes. The ideal solution would be to establish clear rules that offer for consistent and predictable solutions to particular fact situations, while maintaining market confidence. Whether this can be achieved by adapting existing legal doctrines or via ad hoc legislative intervention in combination with regulatory reform and whether cross border ‘compatibility’ of different legal systems (when intermediated cryptocurrencies are settled or pledged cross-border) should also be simultaneously promoted, involve the analysis of complex issues de lege ferenda that will not be addressed, if not in passing, in the rest of this chapter.
Nature of intermediated cryptocurrencies
Although never expressly provided in the terms of service currently available online, a cryptocurrency exchange that operates a crypto account regulated by English law for the benefit of an account holder holds cryptocurrencies of the same kind on trust. This characterisation, recently endorsed in by Gendall J in Ruscoe v Cryptopia Limited (in liquidation)™ in New Zealand, allows the protection of the account holders’ cryptocurrencies from the claims of the exchange’s creditors. Cryptocurrencies held on trust are outside the trustee’s estate and, on the exchange’s insolvency, the beneficiary would have a proprietary right that could not be defeated by the exchange’s creditors (the same would apply to ‘client money’ resulting from the sale of cryptocurrencies).
The alternative interpretation of the custodial relationship in terms of bailment is not convincing: bailment arrangements are in fact restricted to tangible assets, and available only where possession is possible. That said, it has been recently argued that a mere wallet-provider could be in the position of a bailee of cryptocurrencies. If the definition of possession under English law is treated to be an anachronism in a context where digital assets are commonplace, and if the legal objectives of the tort of conversion could be achieved by referring to the criteria of excludability and exhaustibility, then a modern notion of possession should be available - a notion that ‘is not dependent upon the existence of, or relationship between, individuals for its existence’. Cryptocurrencies should not be regarded as mere claims because the existence of the private key provides to the owner full control access to cryptocurrencies in the same way as provided by physical possession of a tangible object. In this light, it might be said that even intermediated cryptocurrencies are choses in possession amenable to bailment. The greatest concern with this reading is that it is convincing only to the limited extent that user wallets are segregated, and investors are able to maintain direct control of cryptocurrencies under the custodial arrangement with the exchange. These are exceptional cases in market practice and cases where the relevance of intermediation is negligible.
Another possible approach might be one based on banking law. It is a clear principle of banking law that the deposit of cash with a bank establishes the relationship of debtor and creditor between the bank and the depositor. Depositors’ money is not held by the bank by way of bailment or trust and the depositors’ rights of repayment are not proprietary (ie, on the bank’s insolvency, the depositor qualifies as an unsecured creditor). However, even assuming that cryptocurrencies are money at law, the debtor-creditor principle may not apply to non-bank custodians such as cryptocurrency exchanges. This is simply because it would not satisfy the pre-requisites to the creation of a bank-customer contract based on the common law definitions of either ‘bank’ or a ‘customer’.
The legal characterisation for indirectly held cryptocurrencies based on trust operates under the assumption that a valid trust has been created notwithstanding the fact that the cryptocurrencies held by the exchange are aggregated into one commingled account (ie, they are held on an unallocated basis). This is because the fundamental principle of the need for certainty of subject matter for a valid trust to arise" is redundant in the context of a commingled pool of cryptocurrencies. There are no relevant differences between cryptocurrencies to require identifying which specific cryptocurrencies are to be the subject matter of the trust,100 or, alternatively, the account holder’s equitable interest may be treated as a co-ownership interest in relation to the entire pool of cryptocurrencies held by the intermediary.101
Finally, as Briggs J clarified in Re Lehman Brothers International (Europe), Lomas v RAB Market Cycles (Master) Fund Ltd102 the fact that intermediated securities may be subject to the ‘right of use’ according to operational arrangements with the custodian is not inconsistent with the existence of a valid trust.103 The same ratio could be adopted in relation to crypto exchanges that hold cryptocurrencies for the account holders, provided that the practice is allowed in the terms of service.
- 99 Knight i> Knight (1840) 3 Beav 148. See also Re Goldcorp Exchange  2 All ER 806 (PC) 814 (Lord Mustill); Westdeutsche Bundesbank Girozentrale v Islington London Borough Council  AC 669 (HL) 705 (Lord Browne-Wilkinson).
- 100 The Court of Appeal in Hunter i> Moss  1 WLR 934 (CA). Notwithstanding strong academic criticisms (eg, David Hay ton, 'Uncertainty of Subject-matter of Trusts’ (1994) 110 LQR 335; Mark Ockelton, ‘Share and Share Alike?* (1994) CLJ 448; and William Norris, ‘Uncertainty and Informality: Hunter v Moss' (1995) 1 Private Client Business 43, 45) and the existence of inconsistent authorities on the possibility of creating property rights under a trust without attaching to any particular asset (eg, Mac-Jordan Construction Ltd v Brookmount Erostin Ltd (in receivership)  BCLC 350 (CA); Russell-Cooke Trust Co v Prentis  EWHC 2227 (Ch) and Re BA Peters pic (in administration)  All ER (D) 392; Re Global Trader Europe Ltd (in liquidation)  EWHC 602 (Ch)), this ratio has been followed with a variety of accents in Re Harvard Securities (in liquidation)  BCC 567,  2 BCLC 369, 388 (Neuberger J); Re CA Pacific Finance Ltd (in liquidation)  BCLC 494 (Yuen J); Holland v Newbury (1997) 2 BCLC 396; Re CA Pacific Finance Ltd  BCLC 494 (Hong Kong); and, more recently, in Re Lehman Brothers International (Europe), Lomas v RAB Market Cycles (Master) Fund Ltd  EWHC 2545 (Ch) . See the critical remarks of Michael Bridge, ‘Security Financial Collateral Transfers and Prime Broker Insolvency’ (2010) 4 LFMR 189, 192.
- 101 Following the ratio in Re Lehman Brothers (n 83) - (Briggs J) (upheld in the Court of Appeal judgment Re Lehman Brothers International (Europe) (in administration)  EWCA Civ 1544, - (Lloyd LJ)) and White v Shortall  NSWSC 1379, - (Campbell J) in symmetrical contrast with Re Wait  1 Ch 606. This interpretation also has some academic support. See Roy Goode, ‘Are Intangible Assets Fungible?’ in Arianna Pretto and Peter Birks (eds), Themes in Comparative Law (Oxford University Press, 2002) 102. The same position is shared by Ben McFarlane and Robert Stevens, ‘Interest in Securities: Practical Problems and Conceptual Solutions’ in Louise Gullifer and Jennifer Payne (eds), Intermediated Securities: Legal Problems and Practical /.ин« (Hart Publishing 2010) 40; Giles Richardson, ‘Lehman Brothers: Traditional Trusts Principles and 21st Century International Bank Failures’ (2011) 17 Trusts & Trustees 226; and Michael Bridge, ‘Certainty, Identification and Intention in Personal Property Law’ in Paul Davies and James Penner (eds), Equity, Trustsand Commerce (Hart Publishing 2017) 87, 101-102.
- 102  EWHC 2545 (Ch) .
- 103 Joanna Benjamin and Louise Gullifer, ‘Stewardship and Collateral: The Advantages and Disadvantages of the No Look Through System’ in Louise Gullifer and Jennifer Payne (eds), Intermediation and Beyond (Hart Publishing 2019) 215, 227.
-  Same ratio in Re Lehman Brothers International (Europe) (In Administration)  EWHC 2914 (Ch) . 2  NZHC 728 —. See Matteo Solinas ‘Investors’ Rights in (Crypto) Custodial Holdings: Ruscoe v Cryptopia Ltd (in Liquidation)' (2021) 84 Modern Law Review 155. 3 By analogy with Re Lehman Brothers International (Europe) (In Administration)  UKSC 6.
-  Under a bailment relationship, legal title to the deposited assets is not transferred to the intermediary but remains with the client. As the intermediary, the bailee is not the owner of the assets bailed with them but is entitled only to possession. They are a mere custodian and must refrain from denying the bailor’s title (Biddle v Bond (1865) 6 B&S 225, (1865) 122 ER 1179). 2 Re Hallett’s Estates, Knatchbull i> Hallett (1880) 13 Ch D 696,708 (Jessel MR) with respect to bearer bonds. 3 Coggs v Bernard (1703) 2 Ld Raym 909. 4 Sarah Green and Ferdisha Snagg, 'Intermediated Securities and Distributed Ledger Technology’ in Louise Gullifer and Jennifer Payne (eds), Intermediation and Beyond (Hart Publishing 2019) 337, 345-348. 5 Sarah Green and John Randall, The Tort of Conversion (Hart Publishing 2009) Ch 5. 6 Green and Snagg (n 88) 346. 7 See Christopher Hare, 'Cryptocurrencies and Banking Law: Are There Lessons to Learn?’ in David Fox and Sarah Green (eds), Cryptocurrencies in Public and Private Law (Oxford University Press 2019) 229,231-248. 8 Carr v Carr (1811) 1 Mer 541n. 9 Akbar Khan i> Attar Singh  2 All ER 545 (PC) 548. 10 Foley >> №7/(1848) 2 HL Cas 28; Foskett i> Mckeown  1 AC 102 (HL) 127-128; Azam i> Iqbal  EWHC 2025 (Admin) -, -, 11 Re Hallett’s Estate (n 86) 746 (Thesiger LJ). 12 Space Investments Ltd v Canadian Imperial Bank of Commerce Trust Co (Bahamas) Ltd  1 WLR 1072 (PC). 13 United Dominions Trust Ltd v Kirkwood  2 QB 431, 447,457-458,465. 14 Commissioners of Taxation v English, Scottish and Australian Bank  AC 683, 687-688.