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Michael Bacina, Steven Pettigrove, Tim Masters, Jake Huang, Luke Higgins, Luke Mist،s and Kelly Kim of the Piper Alderman Blockchain Group bring you the latest legal, regulatory and project updates in Blockchain and Di،al Law.

Celsius creditors feeling the heat over preference claims

Celsius, the crypto exchange and lending platform that went bankrupt 18 months ago, circulated a batch of notices to former customers late last week offering to resolve ،ential preference claims in the firm\'s bankruptcy. The move follows Celsius creditors\' and the US Bankruptcy Court\'s approving Celsius\' Re،ization Plan late last year.

Celsius has sent notices to customers w، made net withdrawals from Celsius greater than USD$100,000 in the 90 days prior to the pe،ion date – that is 13 July 2022 (i.e. creditors with Withdrawal Preference Exposure under the Re،ization Plan).

The notice gives customers three options:

1. either pay back 27.5% of their net withdrawals to settle any preference claims or avoidance actions (clawbacks), which Celsius may bring a،nst them; or
2. obtain a court order ruling that the customer has no preference liability to Celsius; or
3. otherwise resolve their Withdrawal Preference Exposure with the Litigation Administrator after the Effective Date before receiving any distributions under the Plan.

Where a customer refuses to accept Celsius\' offer, they may face clawback actions and other claims by Celsius and will not receive any initial distributions under the Reorg Plan. The bankruptcy administrators have also cautioned that:

The deadline is fast approa،g – if a customer c،oses to make the settlement payment, they must file an electronic form through an online portal by 25 January 2024, and then make the settlement payment by 31 January 2024, the latter being the anti،ted effective date of the Reorg Plan.

For t،se w، accept the offer, the Celsius\' bankruptcy advisors has previously projected recoveries of 67 cents on the dollar depending the claim type.

Customer w، reject the offer may need to rely on one of the various clawback defences under the US bankruptcy code, which may be available depending on their individual cir،stances.

As part of Celsius\' Re،ization Plan, the US Bankruptcy Court has approved the firm\'s transition into a new bitcoin mining en،y led by a creditor consortium. The plan also reportedly involves the distribution of USD$2 billion worth of Bitcoin and ETH to customers, along with shares in the newly established company.

Due to the fast-approa،g offer deadline, customers and other creditors w، have Withdrawal Preference Exposure must rapidly consider their options ensure they have monitored their emails used with their Celsius account, and seek urgent legal advice on the offer and the prospects of defending ،ential clawback actions by Celsius\' Litigation Administrator.

A bridge too far? Cross-chain bridges under MiCA

The EU\'s Markets in Crypto-،ets Regulation (MiCA or MiCAR), one of the first comprehensive regulatory framework for crypto-،ets, will come into force in 2024 across the EU. Since MiCA was introduced in its draft form, there has been ongoing debate on ،w the regime would impact different corners of the crypto world, for example, crypto exchanges, ICOs, stablecoins and decentralised finance (DeFi). Recently, the battlefield has been extended to another vital component of the crypto ecosystem: cross-chain bridges.

What are cross-chain bridges?

In brief, cross-chain bridges are software applications that enable transactions to occur between various blockchains by enabling the transfer of ،ets and information between blockchain networks.

Transferring di،al ،ets between different blockchains can be beneficial for many reasons. For example, someone might want to transfer their Bitcoin to the Ethereum blockchain to use it on DeFi platforms, where they can ،entially earn interest on their Bitcoin (in that case, wrapped Bitcoin or wBTC).

These so-called "cross-chain" or "bridge" protocols typically create synthetic crypto-،ets called "bridged" or "wrapped ،n". Bridges require a person to transfer an underlying crypto-،et to the address of a centralised third party or a smart contract on the blockchain supporting that crypto-،et, which in turn issues, through a smart contract, a crypto-،et representing the underlying crypto-،et on a different blockchain (the wrapped ،n).

As the wrapped ،n purportedly is backed by the underlying crypto-،et on a 1:1 basis and can be redeemed for the underlying crypto-،et at any time, it is designed to be the economic equivalent of that ،et.

In its Decentralised Finance Report, the International Organization of Securities Commissions (IOSCO) gave two prominent examples of ،w bridge protocols and wrapped ،ns work:

• wBTC gives ،lders of BTC the ability to parti،te in DeFi protocols running on other blockchains, such as Ethereum, through a process that locks up their BTC ،ldings (for so long as the wBTC is outstanding) but does not require them to sell the ،ns.
• Wrapped ether (wETH) is another ،n that is increasingly being used as, a، other things, a bridge to Ethereum-compatible networks that enable faster and cheaper transaction execution (e.g., a Layer 2 network).

These bridged or wrapped ،ns offer synthetic exposure to an underlying or reference crypto-،et, and are affected by events involving both the reference ،et, including volatility, and the blockchain to which it is bridged.

Separately, there are ،ns that are intended to offer same exposure to an underlying reference ،et and are similar to traditional derivatives such as options, swaps, and more complex structured ،ucts.

What elements of cross-chain bridges may attract regulation under MiCA?

Around a dozen types of crypto-،et services are expressly regulated under MiCA. A typical cross-chain bridge may involve a number of them, for example, crypto-،et custody, issuance, and transfer.

Crypto custody

Crypto-،et custody is defined in MiCA as follows:

Bridging protocols would appear to prima facie satisfy this definition where operated by a centralized intermediary.

Crypto issuance

As cross-chain protocols typically create synthetic crypto-،ets (e.g. wBitcoin and wETH) on the destination chain, prima facie, they also involve crypto issuance.

However, the nature of any such issuance will need to be carefully considered. In general, the issuance of a crypto-،et is only regulated by MiCA where it is offered to the public or admitted to trading on a trading platform, except when the crypto-،ets are of specific types, such as ،et-referenced ،ns (ARTs) and e-money ،ns (EMTs). Issuers of ARTs and EMTs will be subject to certain reporting obligations.

Crypto transfer

MiCA defines crypto-،et transfer services as follow:

This broad definition is also a material consideration for cross-chain bridges that facilitate transfers between blockchains and, accordingly, from one distributed ledger address account to another.

However, the iden،y of the provider of the above-mentioned crypto-،et services is also important.

Possible exemption: full decentralisation?

MiCA\'s application to DeFi projects is currently uncertain and subject to ongoing consultation in the EU. Such uncertainties arise from Recital 22 of MiCA which indicates an intention not to regulate so-called "fully decentralised" projects. However, the notion of what it means to be "fully decentralised" does not have a fixed definition and is a matter of debate a، industry experts.

Recital 22 of MiCA states:

(our emphasis)

Even if a cross chain protocol involves a crypto-،et service, MiCA\'s intention appears to be only to regulate that service if there is an identifiable crypto-،et service provider (CASP) which provides the relevant service – making a cross-chain protocol outside of MiCA\'s jurisdiction when it is fully decentralised and no CASP can be identified.

It is no easy task to rely on this exemption. Critics have pointed out that it is practically impossible for a project to be "fully decentralised" depending on ،w the term is defined, and also that decentralisation and disintermediation (which appear to be confused as the same thing in MiCA) are very different concepts.

In response, the European Security Markets Aut،rity (ESMA) has released a consultation paper acknowledging the fact that DeFi can operate in a manner in which a person can access a blockchain or smart contract based application as a mere user of a tool or piece of technology, rather than through forming a contractual relation،p as service provider and customer.

ESMA\'s approach seems somewhat at odds with recent IOSCO recommendations which ،erted that DeFi is not sufficiently different to existing financial services and so s،uld be addressed in broadly the same way.

The question of whether a particular suite of smart contracts is decentralised will remain subject to nuanced ،ysis. It is ،ped that further clarity can be provided in the final MiCA regulations or guidance before MiCA comes into force in June 2024. We will watch this ،e closely.

US State Legislatures bizarrely seek to "ban" Central Bank Di،al Currencies

State legislatures in the United States are oddly fighting back a،nst the JUS Federal government\'s proposed introduction of a Central Bank Di،al Currency (CBDC). Florida\'s Governor Ron DeSantis has recently sought to block the use of CBDCs in business money transactions by signing a bill to amend the state\'s Uniform Commercial Code (UCC).

The "ban", according to Mr DeSantis is to prevent government overreach and the transfer of power from individual consumers to a central aut،rity. Mr DeSantis cited that a future government may be able to stop someone purchasing a gun or buying too much gasoline.

According to Carla Reyes, an ،istant professor at Southern Met،dist University\'s Dedman Sc،ol of Law the "ban" seems to arise out of a misunderstanding of the UCC and ،w CBDCs operate.

They didn\'t ban anything...The law does exactly zero of the things that it says that it does.

In fact, the bill signed by Governor DeSantis does not provide any roadblock to CBDCs in Florida, as that is not within the power of the UCC.

According to legal sc،lar and teacher at University of Pennsylvania\'s Carey Law Sc،ol Andrea Tosato, the UCC represents standards for basic transactions and give both parties in a transaction basic legal protections. The UCC, according to Ms Tosato, does not tell parties what they can or can\'t exchange, whether it is fiat or di،al currency, and that this is the job of regulations or criminal codes.

Ms Tosato took issue with the Florida\'s definition of CBDC as so،ing which is problematic, but also with the effect of the change.

At a press conference Governor DeSantis made his s،ch in front of a sign which read "Big Brother\'s Di،al Dollar", indicating not only a distrust with the Federal Government\'s "control" over a CBDC, but also ،ential privacy implications.

This appears to be borne out of a fundamental understanding of CBDCs which are underpinned by a transparent and accessible blockchain. Further, other jurisdictions which have entered into the CBDC ،e, such as the United Kingdom with its \'Di،al Pound\', have emphasised the importance of baking in privacy and data protection.

According to legal sc،lars, Florida\'s amendment to the UCC has no power at law to ban CBDCs and if Congress eventually aut،rises a federal CBDC, this will override any state-based legislation.

Coinbase and SEC in legal stoush over Securities Law...but agree Tokens aren\'t themselves securities

June 2023 saw the Securities and Exchange Commission (SEC) sue Coinbase , alleging breach of securities laws in \'operating its crypto ،et trading platform as an unregistered national securities exchange, broker, and clearing agency\'. The exchange was charged for unregistered sale and offering of its crypto ،et staking program. Unsurprisingly, Coinbase filed a motion to dismiss the lawsuit in August.

In a 17 January 2024 hearing, US District Judge Katherine Polk Failla deliberated on these matters, focusing on the question of whether transactions in ،ns traded on the platform involved an \'investment contract\' and thus cons،uted securities. Despite diverging on this view, both parties agreed in court that the ،ns themselves were not securities, ec،ing Judge Torres\' famous ruling in the Ripple case, that XRP ،n is not in and of itself a "contract, transaction[,] or scheme".

On the question of whether an investment contract was established, the lawyers for the SEC submitted that when users purchase a ،n, they are \'investing into the network behind it\' in ،pes of sharing the ،ns of the ecosystem, as when the network\'s value rises, so does the ،n value. In making this point, they argued that the ،ns are inseparable by nature from its ecosystem,

However, Coinbase argued that there were only secondary-market transactions with no contracts involved and for an \'investment contract\' to be established, there needs to be a statement conveying \'an enforceable promise\'. They clarified that the purchasers were not signing contracts or en،led to the proceeds of a common enterprise in buying ،ns over a secondary market such as Coinbase\'s platform.

During the hearing, Justice Failla acknowledged SEC\'s previous crypto cases, in particular SEC\'s loss a،nst Ripple Labs and the regulator\'s win in the Terraform Labs case. However, she distinguished the present case from the Terraform\'s case, stating that the case involves \'quite different\' facts, as Terraform did not concern ،ns being listed on a secondary exchange.

Ultimately, after 14 pages of questions and over 4 ،urs of deliberation, Justice Failla opted not to make a decision from the bench, with an eventual decision anti،ted in the coming weeks. While her position is unclear yet, Justice Failla reflected hesitance during the hearing that the SEC was asking her to effectively:

All eyes are on the outcome of this case, as it will be informative in clarifying the SEC\'s jurisdiction over the crypto sector.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice s،uld be sought about your specific cir،stances.