What Happens If A Crypto Exchange Files For Bankruptcy?

Many consumers have invested in cryptocurrency like Bitcoin, and some of them may be struggling as various forms of cryptocurrency are losing value rapidly. Indeed, according to a recent report from NPR, “Bitcoin and other cryptos are plunging, and companies such as Coinbase, which runs the largest crypto exchange in the U.S., are announcing layoffs.” Indeed, that report emphasizes, “the crypto house is on fire, and everyone is just rushing to the exits because there is a complete loss of confidence in the space.” Given the falling crypto values, there has been significant discussion about crypto exchanges filing for bankruptcy.

If a crypto exchange does file for bankruptcy, what does that mean for consumers? Coinbase, one cryptocurrency exchange, provided information about it to its customers. Our West Palm Beach Bankruptcy attorneys want to give you details about bankruptcy and how it could impact consumers if a cryptocurrency exchange files for bankruptcy.

Customers Might Not Fare Well If a Crypto Exchange Files for Bankruptcy 

According to Adam J. Levitin, a professor at Georgetown Law School, a cryptocurrency exchange filing for bankruptcy is likely to “end[] very badly for the customers” since many crypto customers do not “understand the legal nature of the custodial relationships, and exchanges have no incentive to make the legal treatment clear to customers.” Why will customers fare poorly? Consider some of the following issues.

Bankruptcy Automatic Stay Will Stop Customers from Taking Action to Get Their Cryptocurrency

The automatic stay will play a central role in a cryptocurrency exchange bankruptcy. As Levitin clarifies, the primary issue is that, if a crypto exchange does file for bankruptcy, “the custodially held cryptocurrency is property of the bankruptcy estate.” Levitin explains, “at the very least, the cryptocurrency exchange as a possessory interest in the cryptocoins” which means that, if it files for bankruptcy, “you might get your coins back,” but that will not happen immediately or automatically, and in the meantime, you will not be able to trade the coins. That is likely the best case scenario. In other scenarios, the customer’s situation is much worse.

What does it mean that the cryptocurrency is property of the bankruptcy estate, especially in relation to the automatic stay? In short, the customer becomes like other creditors after a debtor files for bankruptcy and cannot take action to recover the property that is theirs or the money they are owed — the automatic stay prevents those actions. While it may be possible to petition the court to lift the automatic stay, it will be necessary to go to court to do this, and the bankruptcy court might not agree to lift the stay.

Crypto Exchange Customers Are Not a Priority 

In addition to the issue of the automatic stay, customers are also likely to be classified as general unsecured creditors, which means that they will not be a priority in the bankruptcy case. As such, other creditors will be first in line before crypto exchange customers, ultimately meaning that there may not be much left to pay customers once priority debts have been handled.

Contact a West Palm Beach Bankruptcy Attorney for Assistance 

If you have questions concerning bankruptcy and cryptocurrency exchanges, one of our West Palm Beach bankruptcy lawyers at Kelley Kaplan & Eller can assist you.

Sources:

creditslips.org/creditslips/2022/02/what-happens-if-a-cryptocurrency-exchange-files-for-bankruptcy.html

bloomberg.com/news/articles/2022-05-11/coinbase-gives-256-billion-reminder-about-agonies-of-bankruptcy

npr.org/2022/06/17/1105343423/cryptocurrencies-winter-crash-bitcoin-celcius