The Polsinelli BitBlog Weekly Update begins with the U.S. Securities and Exchange (“SEC”) settlement with an issuer of securities, who managed to both illegally offer securities, and create an unlicensed exchange to trade those securities. We move then to news of legal action against the dubious, self-proclaimed inventor of Bitcoin, Craig Wright, who the court managed to call a fraud and liar, only in many more words. In less salacious news, Libra, Facebook’s proposed cryptocurrency, continues to face a doubting U.S. Congress, despite the best efforts of Swiss Regulators, while Telegram pushes along its plans for its own “cryptocurrency.” Not to be outdone by Congress, Swiss regulators remind blockchain businesses that anti-money laundering laws apply to everyone. And the U.S. FTC joins the alphabet soup of crypto-regulators settling with a bevy of alleged crypto-pyramid-schemers in Florida.
SEC Settles with Texas ICO Issuer Accused of Fraud and Operating an Unlicensed Exchange
On August 29, 2019, the SEC announced it had reached a settlement with Bitqyck, Inc. (“Bitqyck”) and Bitqyck’s founders over allegations relating to the company’s $13 million initial coin offering. The SEC alleged that Bitqyck had sold two digital tokens – Bitqy and BitqyM – using false representations about Bitqyck to lure in over 13,000 token buyers. According to the SEC complaint, Bitqyck’s false representations included statements suggesting that the company owned a cryptocurrency mining facility and had access to discounted electricity when, in fact, it did not own any such facility and had no access to cheap electricity.
The SEC also alleged the defendants improperly facilitated trading of Bitqy in an unregistered securities exchange created by the company, known as TradeBQ. These allegations relating to running an illegal exchange are probably the most important take away from this settlement because it follows a similar statement in the DAO Report that the creation of a platform to bring together multiple buyers and sellers of securities of the issuer can turn the platform into an entity that is deemed by the SEC to be an unlicensed exchange.
Bitqyck and its founders, Bruce Bise and Sam Mendez, consented to injunctive relief, disgorgement, prejudgment interest and civil penalties in excess of $10 million, collectively.
A copy of the SEC press release can be found here.
A copy of the SEC complaint against Bitcqyk can be found here:
Craig Wright Admonished for “Willful and Bad Faith” Conduct in Florida Federal Court
Craig Wright, the man who claims to have founded Bitcoin under the alias Satoshi Nakamoto, had a bad week in Florida Federal Court. In a convoluted story tangentially related to Wright’s claim of being Satoshi, a man named Ira Kleiman sued Wright in Florida federal court in February 2018 on behalf of Kleiman’s deceased brother, David. Ira Kleiman alleges that David Kleiman and Wright had founded Bitcoin as partners and that together they had mined a large amount of the cryptocurrency between 2009 and 2010, and since his brother’s death, Wright has failed to release David’s assets to the estate.
Wright presented a different version of events, claiming that the rampant widespread use of Bitcoin in illegal transactions eventually scared him off of the crypto platform he founded. In order to protect himself and his assets, Wright reached out to Dave Kleiman and together they founded the Tulip Trust where Wright would allegedly place up to one million bitcoins. Wright claims he lost the ability to access the Tulip Trust when Kleiman died as both men had acted as trustees and a multi-key encryption is required to access the data.
The Federal Magistrate Judge did not buy Wright’s story. In an unusually blunt order, Magistrate Judge Bruce Reinhart stated that, “Dr. Wright’s demeanor did not impress me as someone who was telling the truth” and that he completely rejected, “Dr. Wright’s testimony about the alleged Tulip Trust, the alleged encrypted file, and his alleged inability to identify his Bitcoin holdings.” The court’s order goes on to say that, “the evidence establishes that [Wright] has engaged in a willful and bad faith pattern of obstructive behavior, including submitting incomplete or deceptive pleadings, filing a false declaration, knowingly producing a fraudulent trust document, and giving perjurous testimony at the evidentiary hearing.” While the Magistrate Judge did not decide on the question of whether Wright is the founder of Bitcoin, he did rule that any Bitcoins Wright mined prior to 2013 are the joint property of Wright and Kleiman. The ruling could in theory cost Wright in excess of $5 billion if these Bitcoins really exist and are found and unlocked.
A copy of the order can be found here.
Libra Faces Continued Skepticism in U.S. Congress
In a previous update we wrote about the icy reception that Libra, the Facebook cryptocurrency, received in Congressional hearings in July. Congress’ antagonism towards Libra has apparently not changed despite a delegation of U.S. House Representatives, including Maxine Waters, Chairwoman of the House Committee on Financial Services, recently meeting with Swiss regulators about Libra. The Libra Association that will issue and manage the cryptocurrency is located in Geneva, so a group of U.S. lawmakers traveled to Europe to meet with representatives from the State Secretariat for International Financial Matters, the Federal Data Protection and Information Commissioner, and the Financial Market Supervisory Authority, as well as Swiss legislators. But the meeting apparently did little to assuage U.S. lawmakers’ concerns. In particular, Waters said she continues to be concerned, “with allowing a large tech company to create a privately controlled, alternative global currency.” Facebook, for its part, said it understands that the launch of Libra will be a long process and that it is willing to continue to engage with regulators and others.
Rep. Waters’ statement on the Swiss visit can be found here.
Messaging App, Telegram Pushes Ahead With Plans for “Gram” Cryptocurrency
Facebook is far from the only tech company looking to issue a cryptocurrency. The messaging app, Telegram has talked openly and frequently over the last few years about issuing a currency called, “the Gram” and even raised $1.7 billion dollars from investors who received a security that can be exchanged for Grams once the token is issued. Unlike the Libra, the Gram is not expected to be backed by a traditional currency. The New York Times reports that Telegram is planning to issue the first of the Gram tokens over the next few months and quotes the Chair of Polsinelli’s FinTech and Regulation Practice saying, “Anyone trying to build this type of token system has to be careful on any number of levels with regulators... I suspect that regulators will take a very close look at this offering.” Gram is likely to encounter even more hurdles than Libra given that Gram will likely be considered a securities offering by virtue of the presale of rights to the tokens.
A copy of the article from the New York Times can be found here
Swiss Regulators Issue Warnings about AML Compliance to Blockchain Companies
On August 26, 2019 Swiss Regulators published guidance instructing blockchain-based businesses to follow the country’s anti-money laundering (AML) standards. The Swiss Financial Market Supervisory Authority (FINMA) struck a familiar tone in stating that it, “recognizes the innovative potential of new technologies for the financial markets,” but cautions that, “blockchain-based business models cannot be allowed to circumvent the existing regulatory framework.” AML steps that businesses must take include verification of customer identity, establishing the identity of any beneficial owners, and filing reports with Swiss authorities if there are reasonable grounds to suspect money laundering. Whether FINMA’s instructions will have any effect on the growth of the FinTech industry in that country is doubtful.
A copy of the FINMA publication can be found here.
Federal Trade Commission Settles with Alleged Crypto Pyramid Schemer
The U.S. Federal Trade Commission (“FTC”) reached a settlement in an alleged crypto pyramid scheme. The defendants, Thomas Dluca, Eric Pinkston, Louis Gatto, and Scott Chandler, allegedly promoted their chain referral scheme – a type of pyramid scheme that relies on continual recruitment of new participants to generate revenue -- using the names Bitcoin Funding Team, My7Network, and Jetcoin. They used websites, YouTube videos, social media, and conference calls insisting that participants could turn $100 into $80,000 in monthly income. The FTC asserted that most participants failed to recoup their initial investments and in March 2018 obtained an order freezing the defendants’ assets and enjoining them from making deceptive marketing representations about their businesses. The recent settlement permanently bans the defendants from operating or participating in any multi-level marketing program and requires them to pay nearly $500,000 in fines and restitution. The settlement is notable because it shows that the FTC, in addition to the U.S. Securities and Exchange Commission and the Commodities Futures Trading Commission, are monitoring the cryptocurrency industry for signs of unlawful behavior.
A copy of the FTC’s announcement about the settlement can be found here.