The Law Commission’s long awaited report on Digital Assets has just been published. I commented on the consultation paper in my blog of 14 November 2022. Since that time the Law Commission has analysed the responses to the paper, examined the work of other law reform initiatives, met with some of those groups and with members of the judiciary. The report is detailed and extremely comprehensive, amounting to the culmination of two years of work examining the multitude of legal issues which arise in a crypto-economy.

The 2022 consultation paper raised fundamental questions about the extent to which proprietary rights do and should attach to this still emerging category of ‘digital things of value’. It made a number of tentative suggestions on which it requested comment. Importantly, the consultation paper suggested the statutory recognition of a new, third category of personal property known as the ‘data object’ which would sit alongside the existing ‘chose in action’ and ‘chose in possession’. The consultation paper suggested clear criteria (‘hard boundaries’) that any ‘thing’ would need to fulfil in order to be included in this new category.

Many consultees were concerned about this ‘hard boundary’ approach. The market for digital assets remains fast moving and evolving. New types of digital intangible continue to emerge, often with different technologies and processes for their creation and transfer. Some consultees had concerns that a clear statutory definition of this third category of asset would inevitably result in future ‘digital things of value’ falling outside the definition. This raises the undesirable spectre of future ‘things of value’ existing to which no proprietary rights would attach.

The Law Commission’s report recognised those concerns, accepted that the common law has to date been flexible enough to accommodate digital assets and also acknowledged that overt statutory reform could act to stifle, rather than encourage, the digital economy.

With that in mind, the report makes very few recommendations for law reform (but does so over 304 pages of analysis). The approach taken by the report is threefold:

1. A recognition that the common law is flexible enough to ascribe proprietary rights to ‘digital things of value’ and has already demonstrated that it is well able to do so over the past 15 years or so. That the work already done by the courts has created certainty and that the areas which remain uncertain are highly complex and nuanced.
2. That there should be targeted but limited statutory reform, but only to confirm and support the common law approach, or perhaps to bridge any lacuna where common law is not able to assist.
3. That there should be a panel of industry experts created to continue to assist and provide ongoing non-binding guidance. The Commissioners recognised that it is difficult, if not unrealistic, to expect the judiciary to be fully cognisant of all the developing aspects of the digital economy.

The report does propose statutory recognition of a third category of ‘thing’ which could include crypto-assets. However, the report now suggests an inclusive, rather than exclusive approach to definition. The report recommends legislation to explicitly confirm that a thing will not be deprived of legal status as property merely because it cannot be defined as either a ‘chose in action’ or a ‘chose in possession’.

The report concludes that it would not be appropriate for there to be hard definitional boundaries to such a third category, and that any classification is better dealt with by evolution of the common law. Indeed, it does not follow that this third category will be restricted to digital assets but could also encompass other assets which do not fit into the traditional action/possession paradigm. Obvious examples would be the EU milk quota or carbon emissions allowances (the proprietary status of both having already been accepted at common law). As set out in the report, this recommendation ‘is technology neutral’. The report concludes that by avoiding hard boundaries and by clarifying that property rights can attach to assets which are neither a chose in possession nor a chose in action this avoids the ‘“red herring” of the circular and hollow debate on categorisation’.

This of course does not mean all ‘things of value’ necessarily have proprietary rights and boundary issues will remain. The report gives some suggested indica for a ‘thing’ to be considered property, suggesting that they should ‘exist independently of persons and legal systems’ and be ‘rivalrous’ (i.e. the use by one prejudices the use by another). However, the report confirms these issues are best grappled with by the courts and cannot be solved (and indeed may well be exacerbated) by statutory intervention.

The recommendation is also made for the creation of a panel of industry-specific experts, legal practitioners, academics and judges who can provide non-binding guidance. By way of example, the concept of ‘control’ of a digital asset works differently for and is highly complex in relation to each type of digital object. The Commissioners felt that clear descriptions, with factual examples, would assist the courts when asked to consider the boundaries of rights and remedies associated with such objects.

The report also examines a large range of related issues, including:

1. The transfer of tokens: The report looks at the idiosyncratic and varying methods in which crypto-tokens can be transferred, both ‘offchain’ (by a change of control, perhaps handing over hardware/keys) and ‘onchain’ (i.e. by alteration to the blockchain itself).
2. What are ‘onchain’ transfers from a legal standpoint? Conceptually do ‘onchain’ transfers involve the destruction of the previous token and the creation of an entirely new token or does the asset have a continuity of existence? Proponents of the first theory suggest a transfer involves the previous coin being destroyed (thereby extinguishing the asset of the transferor) and an entirely new digital asset created to which property rights attached to the transferee (‘the extinction/creation analysis’). Proponents of the other suggest such transfers involve the persistence of the asset in question with propriety rights merely altering in respect of it (‘the persistent thing analysis’). The report does not prefer either analysis.
3. The common law defence of ‘good faith purchaser for value’ should apply to digital assets. It is neither necessary nor possible for there to be any statutory rule provided for this. It is not necessary because the common law can assist. It is not possible because any statutory rule would need a definition of the asset to which the rule relates in circumstances where the report had already concluded that there should be no such definition.
4. Whether intermediated holding arrangements should be considered as trust arrangements. This may depend on whether the intermediary has custody of the asset or not and whether there is a holding arrangement at all. The legal consequences here are of course most obvious in the event of the insolvency of the intermediary. Once again, the report concludes the common law is already sufficiently certain and flexible.
5. Section 53(1)(c) Law of Property Act (1925) – the requirement that dispositions of equitable interests must be in writing and signed. The report concludes that there are very strong arguments for concluding that the electronic communications used with intermediated and “on chain” network transfers can satisfy both the ‘writing’ and ‘signature’ elements and as such no statutory reform is required at this stage.
6. Collateral arrangements and the applicability of the Financial Collateral Arrangements (No 2) Regulations 2003 to crypto-tokens. This is the one area in which the report does suggest some significant legislative change in order to provide the markets with a level of certainty. Reform is proposed in order to clarify that crypto-assets fall within the regime (albeit scope is left to policy).
7. Causes of action and remedies as they apply to third category things. As above, the report concludes that most common law remedies can be applied without reform. In particular:
1. An obligation to ‘pay’ non-monetary units (i.e. cryptocurrency) would not be characterised as a monetary debt, meaning any claim to enforce such an obligation is a claim for unliquidated damages for failure to deliver. Such a claim would therefore be an action in damages, not an action in debt. The Commissioners are of the view that crypto-tokens are unlikely to be money in the same way as fiat currency because ‘crypto-currencies… are “self-anchored mathematical creatures” whose value depends on different structural and social concepts compared to fiat currencies.’
2. The report considers that the standard vitiating factors of mistake, misrepresentation, duress and undue influence apply equally to third party things as they do to contracts involving things in possession and things in action.
3. The report also suggests that following and tracing exercises and equitable remedies (including breach of fiduciary duty and constructive trusts) already can and do apply to this third category.
4. However, whilst a claim for proprietary restitution and restitution for unjust enrichment would likely be available for this third category, given that conversion can only apply to things in possession, a claim for conversion would not be.
8. ‘Burning’: Given the above analysis as to remedies, there may be a lacuna in one specific, if unusual, scenario – ‘burning’. Burning is where the claimant’s crypto-token is effectively destroyed (‘burned’) by the defendant by sending to a wallet address which is inaccessible by anyone. This essentially removes the token from circulation. In such a scenario any claim for propriety restitution would fail (the property cannot be returned) as would a claim for unjust enrichment (the defendant does not have the benefit or value of the token). Given a claim for conversion would also fail (conversion being a remedy limited to things in possession), a claimant may potentially be left with no remedy at all. The report suggests that the courts develop specific and discrete principles of tortious liability which develop or draw on elements of the tort of conversion to deal with a wrongful interference with third category things.
9. Enforcement: Amongst other matters the report considers that third party debt orders would not be available for cryptocurrencies (not being money) and neither would charging orders (third category assets not being included in the exhaustive list contained in the Charging Orders Act 1979) unless unusually the crypto-tokens were in some trust-based custodial intermediated holding arrangement. The report also considers whether s.39 Senior Courts Act 1981 (which enables the court to execute a conveyance in the face of refusal or neglect to do so by the respondent) could be used by the court to effect a blockchain transfer. The Commissioners suggests that it could be used in this way, but the circumstances would be so unusual (the court would need knowledge of the private key) that it is unlikely to ever arise.
10. Monetary awards: The report concludes that although the courts can make a monetary award denominated in a foreign currency, there is no precedent which suggests that the courts in England and Wales have the power to award monetary remedies denominated in third category things, including crypto currencies. The report states, ‘we recognise that, at present, crypto-tokens are unlikely be regarded as money under the law of England Wales… [but] if it is so desired, a court could potentially exercise its discretion to award a “monetary” remedy denominated in (certain types of) crypto-tokens in certain circumstances… However, we acknowledge that, on its face, this would be a novel step.’ This underscores my own personal view that MCA lump sum and periodical payment orders should not be denominated in crypto-currencies, at least not until the existence of some binding authority which concludes such a step is permissible.

The report makes for interesting (if lengthy) reading. The summary of the above is essentially that the Commissioners accept that the common law of England and Wales is more than flexible enough to adequately deal with most issues arising in relation to digital assets. However, the report also traverses numerous issues which may be of relevance to Financial Remedy applications. Given the relatively high percentage of the adult population who hold crypto assets in one form or another these problems will arise from time to time. It is vital to properly consider the proprietary status of digital assets and the legal remedies available when considering what steps to take in litigation, particularly in relation to injunctions, final orders and enforcement. Cases such as Piroozzadeh v Persons Unknown, Binance Holdings Limited and Ors* [2023] EWHC 1024 (Ch) highlight the dangers than can arise when one gives too little thought to the ultimate control and/or legal ownership and/or beneficial interest in digital assets when embarking on proceedings or when seeking interim relief.