Pub. 6 2016 Issue 2

ing statement must include a sufficient description of the virtual currency being taken as collateral. The collateral can be described super-generically by a reference to “all assets,” more narrowly described as “general intangibles,” or specifically referenced as “all virtual currency” or “all bitcoins.” Regardless of the collateral descrip- tion, controlling an electronic wallet or other non-deposit account in which a se- curity interest has been granted may be difficult, if not impossible. As a “general intangible,” a security interest in virtual currency cannot be perfected by use of a control agreement. As noted above, virtual currency held with a non-bank intermediary is not a “deposit ac- count” — nor is it a securities account. Perfection issues aside, a non-bank intermediary who holds virtual currency may be unwilling to enter into a tri- party agreement whereby the debtor’s ability to transfer the virtual currency is restricted, or the intermediary agrees to remit the virtual currency to the secured party upon receiving a default notice. Under the current system, a creditor who perfects by filing would remain susceptible to unauthorized transfers of pledged virtual currency. To compound the problem, most virtual currencies are transferred between parties in an anony- mous fashion which, in all likelihood, will make it impossible for the creditor to identify the recipient or take posses- sion of the transferred virtual currency. As a result, creditors may want to try to take possession of any virtual currency collateral at the time the security inter- est is granted. Money. Under UCC 1-201(b)(24), the term “money” is defined as “a medium of exchange currently au- thorized or adopted by a domestic or foreign government. The term includes a monetary unit of account established by an intergovernmental organization or by agreement between two or more countries.” On its face, virtual curren- cies do not meet the UCC definition of money since virtual currencies are not authorized or adopted by a domestic or foreign government. Likewise, virtual currencies do not meet the FinCEN definition of “real” currency, as they are not coin and paper money of a country that is designated as legal tender. Despite the statutory definitions, one U.S. federal district court has ruled that Bitcoin is, in an investment context, a currency or form of money. If this ruling were applied to UCC perfection issues, it could significantly impact how creditors perfect a security interest in assets that include virtual currencies. In SEC v. Shavers, Case No. 4:13- CV-416 (E.D. Tex. 2014), the SEC accused the defendant and his company of operating a Ponzi scheme where investors used bitcoins to make their investments. In response, defendants argued for dismissal based in part on the fact that defendants’ investors used bitcoins to make their investment, that bitcoins were not currency, and that as a result there could be no investment of money in the transaction. To provide some background, Bitcoin is an electronic, cryptocurrency which is not regulated by a central bank or governmental administrator. Instead, Bitcoin is based on a decentralized system where the participants work together to validate transactions. Transactions are recorded on a public ledger using blockchain technology. Bitcoin mining is a method of validating transactions that allows participants to obtain bitcoins as a result of their own efforts. Once mined, Bitcoin, like other virtual currencies, can be used for the purchase of goods and services from an ever- increasing number of merchants who accept Bitcoin as payment, and can be exchanged into real currencies. The Texas federal district court’s analysis focused on the use of bitcoins in an investment context. In holding that bitcoins are currency or a form of money, the court stated that “it is clear that Bitcoin can be used as money. It can be used to purchase goods or ser- vices, and as Shavers stated, used to pay for individual living expenses. The only limitation of Bitcoin is that it is limited to those places that accept it as currency. However, it can also be exchanged for conventional currencies, such as the U.S. dollar, Euro, Yen, and Yuan. There- fore, Bitcoin is a currency or form of money.…” The court ultimately entered final judgment that, among other things, required the defendants to disgorge over $40 million in profits and interest. To the extent virtual currencies are “money” under the UCC, to perfect a security interest creditors would not file a UCC-1 financing statement, as they would for a general intangible, but instead must secure “possession” of the virtual currency. As described above, obtaining a meaningful security interest in an electronic wallet or other non-deposit account may be difficult or impossible due to the inability of a creditor to take control of such accounts. Enforcement and taking actual possession of virtual currency post-default would likely re- quire that the creditor be able to transfer the virtual currency — which requires access to the specific electronic wallet or other non-deposit account, many of which are access-restricted via private keys or other passwords — to an ac- count in the creditor’s name. Bottom line. The legal and regu- latory landscape concerning virtual currencies is evolving and is likely to continue to evolve in the future as the use of virtual currencies becomes more common and expands into new areas. As the use of virtual currency expands, creditors should proceed with caution and understand the risks associated with taking and perfecting a security interest in assets that include virtual currency. w This article originally appeared in the March 2016 issue of Clarks’ Secured Transactions Monthly. It is reprinted here with permission of the publisher, Lexis Nexis. 26 www.azbankers.org VIRTUAL w Continued from page 14