Recent Developments in Canadian Crypto-Litigation Orders Provide Cause for Concern

Introduction

Crypto-asset disputes constitute a growing area of Canadian and international jurisprudence. In light of the cross-border nature of quasi-criminal or criminal activities relating to crypto-frauds, jurisdictional barriers often pose significant issues with utilizing civil recovery methods through the traditional courts to assist alleged victims on crypto-recovery schemes. English courts have recently held that transference of digital assets to wallets of individuals located in external jurisdictions poses control issues relating to service,^[1] and there is a lengthy history of American courts declining to exercise their powers to assist plaintiffs due to jurisdictional concerns relating to the perceived “location” of crypto-assets.^[2] These judgments are disappointing.

As seen in the recent case of Kirshenberg v. Schneider, 2023 ONSC 2809 (“Kirshenberg”), barriers to obtaining urgent, practical relief to preserve crypto-assets in the hands of a defendant persist before the Canadian courts.

In Kirshenberg, the Ontario Superior Court of Justice (“ONSC”) declined to grant urgent, ex parte worldwide Mareva injunctive relief (an injunction freezing the assets of a defendant to secure a potential judgment) sought by a plaintiff to freeze crypto-assets held by the defendants as security for judgment. Despite comments made by the ONSC that the public blockchain disclosed that “millions of dollars worth of Ether continue to be transferred in and out of the [defendant’s] cryptocurrency wallet,” the ONSC declined to infer that there was a risk of asset dissipation by the defendants – a necessary condition of Mareva relief being granted.

Instead, the ONSC granted a preservation order limited to a specified quantum of cryptocurrency held in the defendant’s digital wallet. The court also granted an Anton Piller order to allow the seizure of evidence from the defendants which would be necessary to give effect to the preservation order. However, the ONSC declined to grant modifications to the traditional Anton Piller order which were sought by the plaintiff to ensure that the Anton Piller order would achieve its purpose of preserving the subject assets.

Kirshenberg again raises significant questions about the effectiveness of the Canadian courts and the civil asset recovery system in enabling the timely preservation of stolen or misappropriated crypto-assets.

Factual Background^[3]

In December 2021, U.S. resident Aaron Kirshenberg (the “Plaintiff”) minted a non-fungible token (“NFT”) and sold it online for millions of dollars worth of ether, a cryptocurrency.^[4] The defendant, Daniel Schneider (“Schneider”) operated Trustart Technologies Limited (“Trustart”), a money services business registered with FINTRAC.^[5] Trustart was connected with Svella Financial Corp., an alleged brokerage operating under the business name of Zaftr Inc. (“Zaftr” and, with Trustart and Schneider, the “Defendants”). The Plaintiff used Trustart to attempt to convert the ether relating to his NFT sale into USD. This decision was based on alleged representations made by Schneider to the Plaintiff that the Plaintiff would not find better exchange pricing anywhere else in the world, and that Trustart’s wire transfers were instantaneous and had no wire limit restrictions.^[6]

After performing a test exchange of cryptocurrency into USD with a digital wallet allegedly controlled by Trustart, the Plaintiff decided to send $500,000 (all figures U.S.) worth of ether to the same wallet a few minutes later.^[7] This time, the transaction did not go as smoothly, and no funds were returned to the Plaintiff. Schneider informed the Plaintiff that he did not have the requisite liquidity for such a large transfer, and subsequently wired the Plaintiff three $50,000 payments over the following months.^[8] From the time of the original transfer to the final $50,000 payment, Schneider made promises and offered reassurances to the Plaintiff that the remaining funds would be paid, which did not occur.

After the Plaintiff engaged U.S. counsel to address the outstanding balance, Schneider (on behalf of Trustart) and the Plaintiff entered into a settlement agreement, which indicated that both parties agreed that $350,000 was outstanding, and that Trustart would make monthly payments to the Plaintiff of $50,000 until the outstanding balance was fully paid.^[9] The settlement also included an agreement for an additional payment of $50,000 to be paid as an interest payment to the Plaintiff, as well as a penalty amount in the event of a default in payment. Trustart made an initial payment of nearly $50,000 to the Plaintiff under the settlement but failed to make any subsequent payments.^[10]

During this time, as stated above, the Plaintiff was able to see (from the blockchain) that millions of dollars were flowing in and out of the cryptocurrency wallet in question, and that it held ether equivalent to over $26,000,000.^[11]

Legal Analysis

In Kirshenberg, the Plaintiff’s ex parte motion sought (1) an interim order for the custody and preservation of the cryptocurrency wallet, and any and all digital assets inside the wallet (including the wallet’s passcodes) up to the equivalent of $300,000; (2) a worldwide Mareva injunction restraining the Defendants from dealing with their assets and directing certain banks to freeze the Defendants’ accounts for the sum of $300,000 plus the interest and penalty amounts; and (3) an Anton Piller order requiring the Defendants to permit the Plaintiff’s solicitors, the cryptocurrency receiver and other necessary persons to enter into and remain in the premises of the Defendants for purposes of identifying, inspecting, seizing and preserving evidence and assets related to this case.^[12]

i. Preservation Order

To begin, Akbarali J. of the ONSC granted the limited preservation order. Akbarali J. held that the test for obtaining such an order must establish that:

1. the assets sought to be preserved constitute the very subject matter of the dispute;
2. there is a serious issue to be tried regarding the plaintiff’s claim to that asset; and
3. the balance of convenience favours granting the relief sought by the applicant or moving party.

In answering the first part of this test in the affirmative, the ONSC considered jurisprudence from the U.K. and British Columbia, which describes cryptocurrency as falling within the definition of property.^[13] However, the ONSC refused to make a determination on whether ether or “digital assets” are a specie of property for the sake of the motion.^[14] Instead, the ONSC looked to the ruling in Cicada 137 LLC v. Medjedovic, 2021 ONSC 8581 (“Cicada”), paired with the inherent fungibility of cryptocurrency, to rule that such assets indeed constituted the subject matter of the dispute.^[15] After quickly determining that the second part of the test had been satisfied, the balance of convenience test was found to squarely favour the Plaintiff, since the Defendants faced little to no harm in preserving $300,000 worth of ether in a wallet containing ether worth more than $26,000,000.^[16]

ii. Worldwide Mareva Injunction

On the second issue of the worldwide Mareva injunction, the ONSC summarized that the moving party must establish:^[17]

1. it has a strong prima facie case;
2. there must be some grounds for believing that the defendant has assets in the jurisdiction;
3. there is a real and genuine risk the defendant will dissipate its assets for the purpose of avoiding judgment;
4. the moving party will suffer irreparable harm; and
5. the balance of convenience weighs in favour of the moving party.

While the Plaintiff could make out several of these factors, the ONSC ultimately refused to grant a Mareva injunction, as it held that the Plaintiff failed to establish a real risk that the Defendants would dissipate their assets for the purpose of avoiding judgment.^[18]

The ONSC acknowledged that in cases of fraud, the risk of dissipation of assets can be established by inference that can arise from the circumstances of the fraud itself.^[19] While accepting that “the nature of cryptocurrency is that it is easy to instantaneously and anonymously dissipate it” and that “the record makes a strong case that the defendants, or at least one of them, has been willing to take and keep what is not theirs,” the ONSC nevertheless refused to infer a risk of dissipation of assets and as such refused to grant a Mareva injunction.^[20]

iii. Anton Piller Order

An Anton Piller order is a further extraordinary remedy permitting a plaintiff or its legal representatives to enter a defendant’s premises in order to secure evidence. The execution of the order is supervised by an independent law firm, known as the independent supervising solicitor (the “ISS”).

In Kirshenberg, the ONSC outlined the test for granting an Anton Piller order as follows:

1. the plaintiff must demonstrate a strong prima facie case;
2. the damage to the plaintiff resulting from the defendant’s alleged misconduct, potential or actual, must be very serious;
3. there must be convincing evidence that the defendant has in its possession incriminating documents or things; and
4. it must be shown that there is a real possibility that the defendant may destroy such material before the discovery process can do its work.

The ONSC held that the four requirements were met because (1) the Plaintiff demonstrated a strong prima facie case of unjust enrichment; (2) the preservation order would be toothless without the additional granting of the Anton Piller order, because without it, the Plaintiff has no way of preserving the property in question (such as wallet passcodes); (3) due to the complexity of passcodes used for cryptocurrency wallets and other factors, it is likely that one or more of the Defendants had access to such passcodes and controlled the aforementioned cryptocurrency wallet; and (4) there is a real possibility that relevant evidence (especially passcodes) would be at risk of being destroyed if the Defendants or any of them seek to prevent the Plaintiff’s ability to preserve the cryptocurrency.^[21]

In his motion, the Plaintiff cited Cicada as a case^[22] where the execution of a traditional Anton Piller order failed to preserve the digital assets stored in a defendant’s cryptocurrency wallet.^[23] The Plaintiff accordingly sought a modified Anton Piller order that would require:

1. the ISS to remain with the individual Defendant post-service of the order to alleviate the Plaintiff’s concerns that the Defendant could call someone other than a lawyer to provide the digital passcode, enabling a third party to transfer the cryptocurrency from the digital wallet before the Anton Piller order could be executed; and
2. the individual Defendant be brought before the court on the day of the order’s execution to give sworn evidence about the digital assets and the passcode to the wallet.

Unfortunately, the ONSC refused these modifications to the model Anton Piller order, stating with respect to item ii. above that “[t]his court is under-resourced and cannot accommodate an on-the-fly examination when it happens to be convenient during the execution of the Anton Piller order.”^[24]

In limiting the relief sought at item i. above, the ONSC allowed the ISS to be in the room for the phone call between the individual Defendant and his counsel after the order was served, but required the ISS to: “wear noise-cancelling headphones […] and, if necessary, [to listen] to music to drown out the sounds of the conversation.”^[25] As such, the purpose for which this modification to the order was sought by the Plaintiff – namely, to ensure that the Defendant did not verbally instruct anyone to transfer the cryptocurrency from the digital wallet – was effectively undermined given the ONSC’s concerns about protecting the Defendant’s right to solicitor-client privilege.

Concluding Thoughts

Crypto-asset disputes remain an emerging area of litigation for courts. Hesitations in awarding injunctive relief prior to judgment, the under-resourcing of the judicial system and basic issues with judicial miseducation surrounding the classification of crypto-assets as property all remain deeply concerning to civil or insolvency litigators practicing in the crypto-asset space.

In an effort to overcome such obstacles, litigators should ensure evidence is before the court to meet the requisite legal tests for extraordinary injunctive relief and should take care in equipping the court with facta to clearly present prior case law where crypto-assets are unequivocally deemed property, where the risk of asset dissipation has been inferred and where appropriate modifications have been made to the model Anton Piller order to ensure that it can achieve its intended purpose.

In addition to litigation and motions for injunctive relief, litigators should explore with their clients the possibility of supplementing such measures with practical recovery steps outside of the court process, such as correspondence to exchanges or stablecoin providers.