Digital assets push payment fraud: Crypto exchange escapes liability

In D’Aloia v Persons Unknown [2024] EWHC 2342 (Ch), the High Court has given judgment in a claim against a cryptocurrency exchange for return of fraudulently misappropriated cryptocurrency. The Court found in favour of the exchange on the basis that the cryptocurrency could not be traced to it.

This is the first judgment following a contested trial to consider issues such as the property status of digital assets, the nature of the cryptocurrency Tether and unjust enrichment and proprietary claims against a cryptoexchange.

The claimant was induced to transfer Circle and Tether (two cryptocurrencies) to fraudsters. The Tether was passed through a number of digital wallets before being withdrawn as fiat currency via cryptocurrency exchanges including the defendant.

The Court found, following the Court of Appeal decision in Tulip Trading v Bitcoin [2024] EWCA Civ 83 and a string of first-instance decisions, that digital assets could constitute property – specifically, a third category of property separate from choses in action and choses in possession. The judge, Mr Richard Farnhill, sitting as a Deputy High Court Judge, relied on the Final Report of the Law Commission on Digital Assets, which itself quoted work by Professor Fox, to define digital assets as a “combination of both data and transactional functionalities” (para. 158). The judge found these functionalities created ‘expectations’ which were sufficient to attract property rights.

Interestingly, the judge also held that Tether was transferred not by extinction in one account and creation in another – as the Law Commission had suggested might apply to most digital currencies – but by movement of the same Tether from one account to another: in other words, Tether was a ‘persistent’ digital currency. In elevating ‘expectations’ in the mind of users over the functionalities themselves and determining that Tether notionally persists irrespective of changes in the underlying data, the decision tends to emphasise the psychological nature of digital assets more than the Law Commission Report. This is a valuable insight: ‘data and transactional functionalities’ constitute digital assets only in conjunction with the attitudes and beliefs of the collective digital asset community.

The Court also found that digital assets, as a type of property, were capable of being traced. The claimant argued that the misappropriated funds could be traced to a wallet held at the defendant exchange, but the Court found that there was insufficient evidence to show that it was specifically the claimant’s funds, as opposed to another victim of the fraudster, that ended up in this wallet.

In a far-reaching judgment, the Court also considered the availability of constructive trust, knowing receipt and unjust enrichment claims against exchanges. Ultimately, these all foundered on the failure of the claimant to trace their funds into the wallet held by the defendant exchange.

Although the claimant was not successful, this decision merits careful attention by crypto exchanges. The judge found that the exchange had sufficient knowledge to found liability for allowing the fraudster to withdraw funds from its account. If the claimant had been able to provide more evidence on the movement of the Tether through different accounts to allow it to be traced, the crypto exchange might have been held liable.

Taken together with the Property (Digital Assets etc) Bill introduced the day before this judgment, the property status of digital assets in English law is very close to being definitively settled.