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The last quarter of 2022 saw a flurry of enforcement activity in the digital asset sector. While the focus has largely been on the aftermath of the FTX collapse, investigation and prosecution, there has been significant activity elsewhere that underscores the US government’s continued emphasis on law enforcement in this space.
FTX
The sudden collapse of crypto-asset exchange FTX shocked both the industry and the government. Founded in 2019 by Sam Bankman-Fried and Gary Wang, it was considered one of the most trusted exchanges in the world of digital assets.
Prior to founding FTX, Bankman-Fried also founded Alameda Research LLC (Alameda) – a cryptoasset quantitative trading firm. Although Alameda was known to trade on the FTX, the two entities were understood to be legally and operationally distinct, apart from shared ownership.
However, in early November 2022, Alameda’s balance sheet was released, indicating that a significant portion of Alameda’s assets are in FTX’s native token FTT. This revelation was the catalyst for a series of events that ultimately resulted in a solvency crisis for FTX, as the exchange experienced a significant increase in buyer withdrawals.
The allegations against Sam Bankman-Fried
Amid reports of potential insolvency and misappropriation of client funds, FTX filed for Chapter 11 bankruptcy protection on November 11, 2022 along with over 130 entities affiliated with FTX. Shortly thereafter, the US Department of Justice (DoJ), the Securities and Exchange Commission (SEC), and the Commodity Futures Trading Commission (CFTC) launched investigations against FTX, Bankman-Fried, and other FTX executives.
On December 12, 2022, Bankman-Fried was arrested in the Bahamas at the request of the US government, a day before he was scheduled to testify before the House Financial Services Committee on the collapse of FTX. The next day, the Justice Department unsealed an indictment against Bankman-Fried for conspiracy to commit wire fraud, wire fraud, conspiracy to commit commodities fraud, conspiracy to commit securities fraud, conspiracy to commit money laundering, and conspiracy to commit fraud and federal election fraud. commissions to commit campaign finance violations. Bankman-Fried was extradited to the US on December 21, 2022. He subsequently pleaded not guilty to the eight counts against him, and his trial is currently scheduled for October 2023.
Also on December 12, 2022, the SEC indicted Bankman-Fried for securities fraud for defrauding investors. The SEC’s complaint alleges that while he was CEO of FTX, Bankman-Fried orchestrated “a massive, multi-year fraud, diverting billions of dollars of trading platform assets to his personal benefit and to help grow his crypto empire.” . In addition, the CFTC filed a civil suit against Bankman-Fried for fraud and material misrepresentation in connection with the sale of digital goods.
Allegations against Caroline Ellison and Gary Wang
On December 21, 2022, the Department of Justice announced fraud charges against Caroline Ellison – the former CEO of Alameda – and Gary Wang, co-founder and former CTO of FTX. Both pleaded guilty, including admitting that they were “willing participants in schemes to defraud FTX.com customers.”
On the same day, the SEC also charged Ellison and Wang with securities fraud, alleging that they “were active participants in a scheme to defraud FTX’s investors and engaged in conduct that was critical to its success.” Ellison and Wang are reportedly cooperating with the Justice Department and the SEC’s ongoing investigation.
The CFTC also charged Ellison and Wang with engaging in a fraudulent scheme with Bankman-Fried, FTX and Alameda. Neither Ellison nor Wang contested their liability as required by the CFTC, and both agreed to enter consent orders against them for their involvement in the fraud.
In addition to FTX, the final months of 2022 saw significant enforcement by the SEC, CFTC, and DOJ in other matters that directly or indirectly implicate the digital asset sector.
Implementation actions of the Ministry of Justice
Conspiracy to support ISIS
On December 15, 2022, the DoJ announced the indictment of four individuals for conspiring to provide material support to the Islamic State of Iraq and Al-Sham (ISIS). According to the lawsuit, the defendants raised and transferred approximately $35,000 using cryptocurrencies, Bitcoin wallets, GoFundMe and PayPal, allegedly planning to use the money to support ISIS.
Mango Markets attacker
On December 26, 2022, Avraham Eisenberg was arrested in Puerto Rico and charged by the Department of Justice with commodity fraud and commodity manipulation in connection with his October 2022 attack on the decentralized cryptocurrency exchange Mango Markets. According to the agency, Eisenberg manipulated the price of Token MNGO, which was born on Mango Markets, allowing him to borrow funds that he would not pay back, thereby rendering the platform insolvent.
SEC Enforcement Actions
Kim Kardashian
On October 3, 2022, the SEC announced charges against Kim Kardashian, alleging that she failed to disclose a payment she received to promote the cryptoasset security offered by EthereumMax on her social media accounts, in violation of the anti-advertising provisions of the federal securities laws. .
The agency also announced that Kardashian agreed to a settlement — without admitting or denying the charges — that included paying a $1.26 million fine and an agreement not to promote any crypto-asset securities for three years.
Trade Coin Club
On November 4, 2022, the SEC announced charges against four individuals involved in an alleged crypto Ponzi scheme known as Trade Coin Club that collected more than 82,000 bitcoins—worth $295 million at the time—from more than 100,000 investors.
The lawsuit alleges that the two individual defendants lured investors by misrepresenting returns and transactions, and that the defendants personally received a significant portion of the invested Bitcoin. The charges include violations of the anti-fraud, securities registration and broker-dealer registration provisions of the federal securities laws.
LBRY, Inc.
On November 7, 2022, a federal judge in New Hampshire granted summary judgment against software company LBRY, Inc., which the SEC alleged had conducted an unregistered offer and sale of cryptoasset securities.
The Court found that no reasonable trier of fact could reject the SEC’s view that LBRY offered the LBC Tokens as securities without filing a registration statement with the SEC for the offering.
Specifically, the court stated that LBRY’s business model – in which LBRY kept a significant amount of LBC tokens for itself, aligning its interests with token holders – created a reasonable expectation of profit, even without any explicit communication regarding the growth of LBC’s value. tokens. The court cited no authority to support this position, which, if more widely adopted, would place a very heavy burden on almost any project to overcome.
American CryptoFed DAO
On November 18, 2022, the SEC initiated administrative proceedings against the cryptocurrency collective American CryptoFed DAO. The action seeks to determine whether the SEC should suspend the registration of two cryptoasset tokens offered and sold by US CryptoFed.
According to the agency, US CryptoFed’s 2021 Form S-1 registration statement did not contain certain required information and included “materially misleading statements and omissions,” including allegedly inconsistent statements about whether tokens constitute securities.
Forcount Trader Systems crypto pyramid scheme
On December 14, 2022, the SEC charged four individuals with creating and promoting Forcount Trader Systems Inc., an alleged fraudulent cryptoasset pyramid scheme.
The SEC complaint alleges that the scheme raised more than $8.4 million from investors primarily in Spanish-speaking communities, with the defendants falsely guaranteeing high returns on investment.
CFTC Enforcement Actions
Digitex
On October 3, 2022, the CFTC announced a complaint against Adam Todd and his four companies: Digitex LLC, Digitex Limited, Digitex Software Limited and Blockster Holdings Limited Corporation.
The lawsuit alleges that Todd and his companies operated a digital asset exchange – Digitex Futures – and offered futures transactions on a platform other than a designated contract market in violation of the CEA, and that they attempted to manipulate the price of the original Digitex Futures token.
Virtual currency scam
On November 4, 2022, the CFTC announced the filing and settlement of charges against Jeremey Rounsville, aka David Peterson, finding that Rounsville engaged in a fraudulent scheme that involved impersonating the CEO of a virtual currency trading website and falsely attracting customers to the site.
The settlement requires Rounsville to pay a $177,000 fine and permanently prohibits it from registering with the CFTC or trading in commodities or virtual currencies.
This enforcement briefing is provided by Shawn Davisson and Sophia Breggia of Steptoe & Johnson LLP
Compliance with the law in America
