Bankruptcy Judge in Manhattan Rules that Crypto Customers Lost Ownership of $4.2 Billion When They Deposited It into “Earn” Accounts

Gunnar Larson g at
Mon Jan 23 07:07:56 PST 2023

"By Pam Martens and Russ Martens: January 23, 2023 ~

Customers of bankrupt crypto platforms who have been locked out of
withdrawing from their accounts for months, are learning the hard way that
U.S. bankruptcy court judges in New York and Delaware have little sympathy
for their plight. Instead, there has been an uncanny propensity to side
with big corporate law firms like Kirkland & Ellis and Sullivan & Cromwell.

A December 11, 2019 report from the Congressional Research Service cited a
study that found that “60% of large business debtors filed for bankruptcy”
in just two venues – the U.S. Bankruptcy Court for the District of Delaware
and the Southern District of New York – despite the fact that the
businesses did not maintain their principal place of business there. The
report further notes that “when debtors have substantial flexibility to
choose the jurisdiction in which they file for bankruptcy, self-interest
encourages those debtors to file in courts that favor debtors and their
attorneys to the detriment of creditors and other stakeholders.”

This month we’ve witnessed two shocking examples of what appears to be
judge bias favoring the debtors and their Big Law attorneys. Last Friday,
despite a mountain of conflicts of interest involving
pre-bankruptcy-petition work performed by law firm Sullivan & Cromwell for
collapsed crypto firm, FTX, the Delaware Bankruptcy Court Judge, John
Dorsey, signed a ruling granting Sullivan & Cromwell’s aggressive desire to
be named lead counsel in the matter. The more than two dozen conflicts
belatedly admitted to by the law firm – only after prodding by the U.S.
Trustee — included having previously provided personal legal representation
to the company’s indicted CEO, Sam Bankman-Fried. The personal legal
representation involved Bankman-Fried’s purchase of half a billion dollars
in stock in the discount brokerage firm, Robinhood. The Department of
Justice seized those shares this month. According to Congressional
testimony by the newly appointed CEO of FTX, more than $8 billion of
customer funds are missing.

Equally stunning, Chief Judge of the Bankruptcy Court for the Southern
District of New York, Martin Glenn, issued an opinion on January 4 in the
bankruptcy proceedings of another crypto exchange, Celsius, that found that
customers did not own their own deposits that had been made into an
interest-earning program called “Earn.” The Judge wrote:

“…the Court concludes, based on Celsius’s unambiguous Terms of Use, and
subject to any reserved defenses, that when the cryptocurrency assets
(including stablecoins, discussed in detail below) were deposited in Earn
Accounts, the cryptocurrency assets became Celsius’s property; and the
cryptocurrency assets remaining in the Earn Accounts on the Petition Date
became property of the Debtors’ bankruptcy estates (the ‘Estates’).”

Glenn’s opinion sided with Big Law firm, Kirkland & Ellis, which is
representing the debtors estate, and is a devastating development to the
approximate 600,000 account holders in the Earn program. The combined value
of those accounts was roughly $4.2 billion shortly before the Celsius
bankruptcy filing in July. Instead of getting the contents of their
accounts returned, the opinion means that these customers become unsecured
creditors along with a multitude of others.

Judge Glenn pointed to the Terms of Use that customers click on when they
open an “Earn” account with an app. The most recent version 8 of the
Celsius Terms read as follows, according to the Judge:

“In consideration for the Rewards payable to you on the Eligible Digital
Assets using the Earn Service . . . and the use of our Services, you grant
Celsius . . . all right and title to such Eligible Digital Assets,
including ownership rights, and the right, without further notice to you,
to hold such Digital Assets in Celsius’ own Virtual Wallet or elsewhere,
and to pledge, re-pledge, hypothecate, rehypothecate, sell, lend, or
otherwise transfer or use any amount of such Digital Assets, separately or
together with other property, with all attendant rights of ownership, and
for any period of time, and without retaining in Celsius’ possession and/or
control a like amount of Digital Assets or any other monies or assets, and
to use or invest such Digital Assets in Celsius’ full discretion. You
acknowledge that with respect to Digital Assets used by Celsius pursuant to
this paragraph:

You will not be able to exercise rights of ownership;
Celsius may receive compensation in connection with lending or otherwise
using Digital Assets in its business to which you have no claim or
entitlement; and
In the event that Celsius becomes bankrupt, enters liquidation or is
otherwise unable to repay its obligations, any Eligible Digital Assets used
in the Earn Service or as collateral under the Borrow Service may not be
recoverable, and you may not have any legal remedies or rights in
connection with Celsius’ obligations to you other than your rights as a
creditor of Celsius under any applicable laws.”
State securities regulators in numerous states filed objections in advance
of the opinion being handed down. The State of New Jersey argued that
Celsius was operating in violation of New Jersey’s securities laws by
selling unregulated securities. It noted that an investigation by the
official Examiner had yet to be concluded, thus any such ruling by the
court was premature. The State takes the position that the assets in the
Earn accounts are the property of the customers.

Other objectors noted that the Celsius Terms of Use had also used the term
“loan” to describe what would be happening with customer deposits. The
Judge dismissed that premise."
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