New York Court Enjoins Cryptocurrency Firms iFinex, Bitfinex, and Tether from Fraudulent Practices

On April 24, the New York State Supreme Court (New York County) entered an ex parte order granting preliminary injunctive relief against cryptocurrency exchange Bitfinex, Bitfinex’s owner iFinex, and various corporate entities connected with the cryptocurrency tether.

The order stated that the court was granting injunctive relief “because alleged fraudulent practices of [the defendant companies] threaten continued and immediate injury to the public and that the potential dissipation of [those companies’] assets would render a judgment directing restitution or disgorgement ineffectual.”  The order also directed the defendant companies to produce an extensive array of documents, including various financial records, documents concerning Bitfinex users, accounts, clients, or customers and tether holders in New York, and “[i]dentification of all New York and United States customers of Bitfinex whose funds were provided to Crypto Capital and the amount of any such outstanding funds.”

This order stems from  an investigation by the New York State Attorney General’s Office (NYAG) into Bitfinex and tether that began in 2018.  Filings by the NYAG in connection with the order explained that Bitfinex, as a cryptocurrency trading platform,

allows New Yorkers to purchase and trade virtual currencies, including the so-called “tether” stablecoin, a virtual currency the companies long claimed was “backed 1-to-1” by U.S. dollars held in cash reserve.

The filings explain how Bitfinex no longer has access to over $850 million dollars of co-mingled client and corporate funds that it handed over, without any written contract or assurance, to a Panamanian entity called “Crypto Capital Corp.,” a loss Bitfinex never disclosed to investors.  In order to fill the gap, executives of Bitfinex and Tether engaged in a series of conflicted corporate transactions whereby Bitfinex gave itself access to up to $900 million of Tether’s cash reserves, which Tether for years repeatedly told investors fully backed the tether virtual currency “1-to-1.”

According to the filings, Bitfinex has already taken at least $700 million from Tether’s reserves.  Those transactions – which also have not been disclosed to investors – treat Tether’s cash reserves as Bitfinex’s corporate slush fund, and are being used to hide Bitfinex’s massive, undisclosed losses and inability to handle customer withdrawals.  The Office’s filings further detail how the companies obfuscated the extent and timing of these corporate transactions during the Office’s investigation.

Previously, in 2018 Bitfinex had maintained that the $850 million was deposited with Crypto Capital Corp. “and then, through no fault of Bitfinex’s, seized by government authorities in the U.S., Poland and Portugal.”

In its public response to the court order, Tether made three principal assertions.  First, the NYAG’s court filings  “were written in bad faith and are riddled with false assertions, including as to a purported $850 million ‘loss’ at Crypto Capital.”  Second, the $850 million entrusted to Crypto Capital “are not lost but have been, in fact, seized and safeguarded.” Third, “[b]oth Bitfinex and Tether are financially strong – full stop.”

At a May 6 hearing, New York State Supreme Court Justice Joel Cohen criticized the injunction as “vague, open-ended and not sufficiently tailored to precisely what the AG has shown will cause imminent harm,” adding, “I think it’s both amorphous and endless.”  Accordingly, Justice Cohen gave the parties one week to agree on what the scope of the injunction should be.

Note: The developments to which the Supreme Court’s order relates provide a concrete example of why the financial sector remains exceedingly wary of cryptocurrency firms and exchanges.  Bitfinex and Tether Ltd., both of which iFinex controls, have reportedly been the target of scrutiny by the U.S. Department of Justice and the Commodity Futures Trading Commission for more than a year — in part because of allegations that both companies were involved in efforts to manipulate the price of Bitcoin in 2017.  As for Crypto Capital, it has reportedly been “slowly emerging as the central bank of the crypto industry,” facilitating banking services to cryptocurrency firms and exchanges (including Bitfinex) even as traditional financial institutions shy away from cryptocurrency business..

While the NYAG investigation, and the related litigation, are likely to run for some time, an apparently related case may reveal additional details about the disputed $850 million.  On April 30, the United States Attorney’s Office for the Southern District of New York announced the arrest of Arizona businessman Reginald Fowler on charges of bank fraud and operating an unlicensed money transmitting business, as well as the unsealing of an indictment against Fowler and co-conspirator Ravid Yosef, who remains at large.

The United States Attorney’s Office alleged that

FOWLER and YOSEF, who worked for several related companies that provided fiat-currency banking services to various cryptocurrency exchanges (the “Crypto Companies”), allegedly participated in a conspiracy in which FOWLER made numerous false and misleading statements to banks to open bank accounts that were used to receive deposits from individuals purchasing cryptocurrency, and in which FOWLER and YOSEF falsified electronic wire payment instructions to conceal the true nature of a voluminous cryptocurrency exchange business.  Hundreds of millions of dollars flowed through the Crypto Companies’ accounts from banks located across the globe.

The indictment also contains forfeiture allegations that include detailed references to the government’s 2018 seizures of funds in bank accounts held by Fowler and Global Trading Solutions LLC.  The cryptocurrency news website The Block recently reported that Fowler owned Global Trading Solutions, and that Global Trading Solutions was an agent for Crypto Capital.  In addition, Bloomberg reported that federal prosecutors, in a May 1 filing, stated that “interviews conducted during their investigation have ‘corroborated in part’ that companies affiliated with [Fowler] may have failed to return $851 million to an unnamed client . . . .”

If the Justice Department can obtain a plea and prompt cooperation from Fowler, that could expedite both federal and state investigations of Bitfinex and Tether.  In the meantime, even as Bitfinex has seen a withdrawal of at least $430 million from its cold wallets after the NYAG announcement, it reportedly plans “to raise up to $1 billion from investors to shore up its financials through an initial exchange offering.  Time – and the market, and the judicial process – will tell.

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