Crypto bankruptcies are eroding customer anonymity

Bankruptcy provides an extraordinary opportunity for troubled companies to pay off their debts in exchange for transparency in their affairs, including names and addresses of their business counterparts and known creditors. Government lawyers and media organizations have opposed FTX’s efforts to seal its clients’ information, arguing that they have not produced enough evidence to justify curtailing the public’s right to access court documents.

“One of crypto’s biggest selling points is its anonymity,” but the idea is becoming a problem in bankruptcy courts that require transparency, said Joanne Gelfand, a bankruptcy attorney at Akerman LLP.

“Many people believe that anonymity only protects wrongdoers, that anonymity allows thieves and fraudsters to transfer money without accountability,” she said. “Other people view it as a personal individual right to privacy issue.”

Lawyers representing crypto companies have urged the courts to err on the side of redacting information, saying disclosure will only diminish the value the companies have left and harm customers who are already suffering financial losses.

The turmoil in cryptocurrency markets this year has already damaged crypto’s credibility with the investing public as falling asset prices blew holes in the balance sheets of lenders, exchanges and hedge funds. The resulting bankruptcies blocked millions of individuals and institutions around the world from accessing their crypto and exposed how some platforms were not as careful with client funds as they let on.

FTX in particular shocked the crypto world with its rapid implosion and alleged misuse of client funds. Some platforms may just shut down if they can’t sell or reorganize their business in Chapter 11.

FTX management has said in court filings that keeping its customer information secret is critical to maintaining its competitive advantage and protecting the privacy of its customers. The company has put up for sale some potentially salvageable business units in Europe and Japan, but not FTX.com and FTX US, the largest platforms for international and US customers.

The Wall Street Journal, Bloomberg LP, The New York Times and The Financial Times Ltd. have intervened in FTX’s Chapter 11 case to oppose the sealing request. Attorneys for the Journal and the other media companies argued in court filings this month that creditor lists have traditionally been open to the public and that FTX has failed to meet its obligation to get an exception.

An FTX representative did not respond to requests for comment on the lawsuit by the Journal and the other companies. FTX’s attorney, Brian Glueckstein, said at a court hearing last month that releasing names and email addresses would give competitors a “free opportunity to rip customers off FTX” and potentially hurt the value of its assets. Identifying clients who are often high net worth individuals or entities with significant digital assets could put them “in the crosshairs of bad actors” such as identity thieves or hackers, he said.

“Many clients invest in cryptocurrency in part so as not to be publicly identified,” Mr Glueckstein said. “It’s a very sensitive issue for the customer community.”

FTX’s recent terms of use state that in the event of events such as a merger, restructuring, or bankruptcy, its customer information may be sold or transferred as permitted by law or contract. If customers never had a contractual right to keep their FTX information private, “it’s hard to understand why customers would suddenly be given privacy rights in bankruptcy,” said Adam Levitin, a professor at Georgetown Law.

Judge John Dorsey of the U.S. Bankruptcy Court in Wilmington, Del., who oversees FTX’s case, has expressed a willingness to shield identifying information about crypto customers in a Chapter 11 case.

In 2020, lawyers from online cryptocurrency platform Cred Inc. to Judge Dorsey to hide his client information from the general public. They argued that releasing such information could give Cred’s competitors an unfair advantage, while not giving the parties involved in the Chapter 11 case a clear advantage.

Cred, which filed for bankruptcy before the more recent wave of crypto insolvencies, said in court documents that its client list was a potentially valuable asset, and that disclosing its creditors as required by normal bankruptcy proceedings would amount to giving up that valuable asset . Judge Dorsey granted the sealing request.

Cred received approval in 2021 for a Chapter 11 plan to liquidate its assets over time and pay customers back a portion of the $160 million they owed. The customer list has never been sold or made public.

More recently, judge

Martin Glenn of the U.S. Bankruptcy Court in Manhattan in September allowed Celsius Network to redact contact information for individual customers while declining the company’s request to seal their names. However, companies were not stamped at all: their names, email addresses and physical addresses were made public.

“It is important for the fairness and public perception of the bankruptcy process to enable interested parties and the public to see the identity of creditors and the amount of their claims, and subsequently monitor the settlement and handling of claims during the bankruptcy proceedings the statement said. judge wrote.

After releasing clients’ names, Celsius lawyers reported phishing attempts in which clients received emails from senders posing as law firm employees, asking for wallet numbers and account information.

In his September ruling, Judge Glenn also rejected Celsius’s request to seal the identities of European customers covered by UK and EU data protection regulations, arguing that those rules did not override US bankruptcy law. His colleague in the same court, Judge Michael Wiles, allowed Voyager Digital Holdings Inc. however, to edit customer information, relying on the same European regulations.

Clifford White, who headed the Justice Department’s bankruptcy division until March, said creditors’ names were traditionally sealed to protect vulnerable populations, such as victims of sexual abuse or residents of nursing homes. But over the past decade, bankruptcy courts have expanded protections to others and most recently to crypto investors, he said.

Court approval of FTX’s request would “be a sign of a significant expansion of the practice of sealing,” Mr White said.

Write to Akiko Matsuda at akiko.matsuda@wsj.com