There is a dispute underway that involves fraud, greed and the disappearance of millions of dollars of both fiat currency and bitcoin. It is a cautionary tale for anyone who believes that investing in bitcoin is like investing in any other commodity. Since this is an ongoing case, there has not been a final decision as to liability, but I’ve had a chance to review the public filings. Here is my take.
The parties are Symphony, an Irish investment company that specializes in trading crypto currencies and J. Barry Thompson, the managing director of Volantis Escrow Platform LLC, a global escrow and trade facilitation platform that focuses on bitcoin escrow services.
In March 2018, the parties were brought together by a professional introducer who matches bitcoin buyers and sellers and, after some back and forth, they resolved to work together. Over the next 5 months, Symphony CEO Graham Keating and Thompson considered various purchases, but none were pursued. Then in July, Thompson told Keating about an opportunity to purchase several thousand bitcoin from a seller that was planning to use Volantis as the escrow agent.
Symphony and Volantis entered into an Escrow Services Agreement. (The Agreement states that Volantis Escrow Platform LLC is a limited liability company organized under the laws of the State of Delaware. However, there is no record of that company being registered in Delaware.) The parties negotiated the structure of the proposed transaction pursuant to which Symphony would purchase 6,600 bitcoin from Volantis over an 11-day period, in tranches of 500-1,000 bitcoins each. Symphony would transfer funds to Volantis which would be held in escrow and released simultaneously upon the delivery to Symphony of the bitcoin.
But that is not what happened.
On July 24, Symphony transferred €3,600,000 to Volantis. Three days later, Thompson confirmed that the sale price of the first tranche of 500 bitcoins would be €3,303,500, and Keating authorized Thompson to begin the transaction. But the transaction never closed. Symphony did not receive any bitcoin, nor was its money returned.
What happened to the bitcoin and the money?
Thompson asserts that he engaged a (second) escrow agent called KRFB Global Group LLC to purchase 500 bitcoins, and says that KRFB has the money—and the bitcoins. He further asserts that on July 27, he sent $4,024,914 (which represents 92 percent of the funds that Symphony provided to Volantis) to KRFB with the expectation that KRFB would release 500 bitcoins to his control.
Over the course of many emails and texts in the ensuing days and weeks, Thompson told Keating that the bitcoin was in a multi-signature wallet for which he had a key, and that the bitcoin was forthcoming. But Symphony never received the bitcoin, and Symphony’s money was never returned.
Symphony subsequently learned that two additional international bitcoin trading firms had lodged complaints against Volantis in the form of an arbitration and a demand for return of funds, both asserting similar fact patterns. Symphony filed suit against Thompson in federal court in Allentown, PA, and on September 14 won a temporary restraining order prohibiting Thompson and his entities from transferring or dissipating certain assets. Symphony subsequently filed a preliminary injunction against Thompson for further protection against the dissipation of assets, which was denied. Volantis has brought legal action against KRFB in California (in which no defendants have appeared).
In his defense, Thompson testified that Volantis was not acting as an escrow agent, but rather a facilitator of the transaction. He further testified that the Agreement gave him the authority to use a second escrow agent (KRFB) and, that KRFB (and not he) is liable for Keating’s loss. He also stated that Keating assumed the risk in a deal of this nature. Symphony denied all of this, and denied knowing anything about a second escrow agent.
What can we learn from this?
First, since bitcoin (and other cryptocurrencies) operate on a decentralized network, if you are going to transact business with cryptocurrencies using an intermediary, such an escrow agent, you need a foolproof system for securing your funds (and your bitcoin), or you could fall victim to theft and fraud. Here, Symphony engaged an escrow agent (Volantis) and even signed an agreement, but that was not enough because the company still lost its money.
How do we create a foolproof process to safeguard the interests of parties who transact with cryptocurrencies? We start with a code of conduct for escrow agents and couple that with standardized language for escrow agreements.
Regulations like the Revised Uniform Fiduciary Access to Digital Assets Act help to provide fiduciaries (like executors and attorneys-in-fact) with a legal path to managing digital assets of deceased or incapacitated individuals. However, more clarity is needed regarding agreement drafting standards, especially for transactional attorneys and traditional escrow agents who are asked by clients to hold digital assets in trust as part of some related transaction.
Second, when it comes to bitcoins if you have the keys, you have control. If you don’t have the keys, you do not. Bitcoin is similar to cash in that anyone who possesses the keys to the bitcoin can spend it. But, bitcoin transactions, once validated by the network, are irreversible. And, unlike with cash, anybody who has access to your private keys, can spend your bitcoin without having to steal your wallet or hack into your bank account.
Third, if you are doing a deal of any substance you should use a surety or obtain insurance. While some of the world’s biggest insurance companies, like AIG and Mitsui Sumitomo, are beginning to offer crypto-insurance products, their services can be pricey. But given what is at risk, the insurance will likely be worth the extra expense.
Finally and most importantly, select your escrow agent carefully, and make sure that the escrow agent is bonded. Do your own due diligence and ask the right questions: What security protocols are being utilized by the escrow service in question? Will the escrow agent play an active or a passive role in non-disputed withdrawals? Does the arrangement include a direct payment to an escrow agent or will the assets be held in a multi-signature wallet (or in a threshold signature wallet)? Does the escrow service have a clear protocol and fee schedule for dispute resolutions? Are the private keys being sharded? Are longer term deposits converted into some stable-coin or held as deposited? How are the custodial wallets maintained (hot, cold, warm, etc.)? What KYC/ AML solutions are being used? Are there any minimum settlement periods on deposits? Are there any daily limits or withdrawals? And, if these questions don’t sound familiar, you should find someone with experience to help you vet potential escrow agents.
Distributed ledger technology offers participants the ability to interact on a peer-to-peer basis in exciting new ways, but it also presents challenges to our existing legal and financial systems. The legal framework around digital escrow services is still maturing and issues related to fiduciary responsibility are fluid. Now more than ever it is important for the fiduciary community to better understand blockchain technology, and the concomitant risks related to escrow and custody transactions.