Crypto custodians in financial distress

• Published date: 01 December 2023
• Author: Dominik Skauradszun,Jeremias Kuempel
• Date: 01 December 2023
• DOI: http://doi.org/10.1002/iir.1521

RESEARCH ARTICLE

Crypto custodians in financial distress

Dominik Skauradszun

1,2,3

| Jeremias Kuempel

4

1

Professor of Civil Law, Civil Procedure

and Company Law, Fulda University of

Applied Sciences, Fulda, Germany

2

Nottingham Law School,

Nottingham, UK

3

Judge, Higher Regional Court of

Frankfurt am Main, Frankfurt, Germany

4

Fulda University of Applied Sciences,

Fulda, Germany

Correspondence

Dominik Skauradszun, Civil Procedure

and Company Law, Fulda University of

Applied Sciences, Fulda, Germany.

Email: dominik.skauradszun@

w.hs-fulda.de

Abstract

The business model of crypto custodians is relatively

new. If these companies fall into financial distress, the

question arises as to which legal framework is applica-

ble to them. Since jurisdictions such as the US, the

Swiss, the German, and recently also the European

Union place crypto custodians under financial supervi-

sion, it seems reasonable to assume that the numerous

European legal acts for these firms and the recovery

and resolution of credit institutions, investment firms

and other firms may be relevant (SRMR, BRRD, MiFID

II, CRR, MiCAR etc). On the other hand, crypto custo-

dians could be coherently located in the system of

European insolvency law. However, the EIR Recast

contains an exclusion for certain companies in the

financial sector. Having now seen major crypto custo-

dians in financial distress, legal scholars must answer

the question of whether one of the legal frameworks is

applicable to crypto custodians or whether the Euro-

pean legislature must extend the scope of one of the

regimes to include crypto custodians. The study will

show that the business model of pure crypto custodians

holding crypto currencies in custody is not covered by

major European regulations and directives concerning

the financial sector but can be covered by the EIR

Recast through a narrow interpretation of its scope

exclusion. Taking the European legislator's perspective,

Accepted: 14 November 2023

DOI: 10.1002/iir.1521

This is an open access article under the terms of the Creative Commons Attribution-NonCommercial-NoDerivs License, which permits

use and distribution in any medium, provided the original work is properly cited, the use is non-commercial and no modifications or

adaptations are made.

© 2023 The Authors. International Insolvency Review published by INSOL International and John Wiley & Sons Ltd.

538 Int Insolv Rev. 2023;32:538–561.

wileyonlinelibrary.com/journal/iir

the paper demonstrates that neither the CRR, SRMR,

nor BRRD will lead to coherent results with respect to

crypto custodians in financial distress but instead,

though unintentional, the application of the EIR

Recast. Concerning crypto custodians, the EIR Recast,

therefore, seems to be the more suitable regime.

1|INTRODUCTION

The crypto custody business is highly significant as it gives customers the option of not having

to establish and maintain blockchain addresses and secure private keys themselves.

1

The tech-

nical connection to the specific blockchain, the processing of transactions on the blockchain

and especially the safekeeping of private keys has rightly become an important financial ser-

vice.

2

From a regulatory point of view, it is to be welcomed that the market has accepted crypto

custodians, even though they are a new category of intermediary

3

and originally, blockchain

technology was developed to operate independently of intermediaries.

4

This acceptance by the

market can be appreciated, as it means that another important player in the market for crypto-

assets can be supervised, thereby limiting the risks for consumers at least partially.

5

Nevertheless, crypto custodians are not spared from insolvency.

6

Their insolvency proceed-

ings will almost always have a cross-border dimension.

7

This is because the crypto-assets in cus-

tody concern assets that are typically distributed worldwide. The respective blockchain is

managed on servers that are typically not only operated in one state, but all over the world.

8

If crypto custodians fall into financial distress, two mutually exclusive legal frameworks

come into consideration: either crypto custodians are understood to be financial market

1

Matthias Haentjens, Tycho de Graaf and Ilya Kokorin, ‘The Failed Hopes of Disintermediation: Crypto-custodian

Insolvency, Legal Risks and How to Avoid Them’[2020] Singapore Journal of Legal Studies 526, 527 even write, that

crypto-assets ‘are currently mainly deposited (stored or held in custody) with intermediaries’.

2

The supervisory authorities report partly on their homepage about the licences granted to crypto custodians. For

example, see the German Financial Supervisory Authority (BaFin), press release dated 28 June 2021 concerning

Coinbase Germany GmbH.

3

Haentjens, de Graaf and Kokorin (n 1), 527.

4

Recital 2 of Regulation of the European Parliament and of the Council on Markets in Crypto-assets and amending

Directive (EU) 2019/1937 (MiCAR).

5

Paola Heudebert and Claire Leveneur, ‘Blockchain, Disintermediation and the Future of the Legal Professions’(2020)

4Cardozo International and Comparative Law Review 275, 287: ‘blockchain ultimately promotes deinstitutionalization

more so than disintermediation’.

6

For landmark cases, see the motion of FTX Trading Ltd. and 101 affiliated debtors in November 2022 for relief under

Chapter 11 of the US Bankruptcy Code in the US Bankruptcy Court for the District of Delaware (Case No 22-11068). A

German landmark case is the filing of Nuri GmbH before the Berlin Insolvency Court in August 2022 (Case No 36n IN

4212/22). The former case of MtGox Co. Ltd. is still an important example although the debtor applied for

commencement of a procedure of civil rehabilitation before the Tokyo District Court already in February 2014.

7

See the above note. Although not an insolvency case, these cross-border dimensions are illustrated in the case of LMN

v Bitflyer and others [2022] EWHC 2954 (Comm) (coram Butcher J), CL-2022-000517, paragraphs 15, 20 and 28 (situs of

cryptocurrencies and proper forum).

8

Ibid., paragraph 20, where Butcher J concluded that the situs of cryptocurrencies could be where the crypto exchange is

resident and carries on its relevant exchange business.

SKAURADSZUN and KUEMPEL 539