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Digital Currency Control – LexBlog


Secured lenders who include personal property assets as collateral in lending transaction structures have long relied upon the regularity and clarity of the Uniform Commercial Code (“UCC”) provisions which provide a roadmap for creation, perfection and enforcement of security interests in personal property. Revisions made to the UCC since 2000 have recognized and incorporated concepts to address changes in marketplace reality driven by technological advances.  The creation of cryptocurrencies, however, has posed challenges to entrepreneurial lenders and their counsel who desire to reach a level of comfort that a perfected security interest in a cryptocurrency can be achieved within the existing UCC framework.  The mere fact that a new Article 12 of the UCC, tentatively entitled “Controllable Electronic Records”, is in the early stages of adoption in state legislatures is proof enough that current law is at best inadequate to address issues peculiar to digital asset classes, including cryptocurrencies. The Wyoming legislature amended its version of UCC Article 9 effective as of July 1, 2019 with the intent of permitting perfection by control for cryptocurrencies (by controlling the applicable private key, including through a multi-signature arrangements) without addressing significant legal, practical and policy issues addressed in the proposed new Article 12 and its conforming amendments to other UCC articles.  It is presently unclear if Wyoming will follow other jurisdictions in adopting the Article 12 regime.

Secured lending against cryptocurrencies as collateral is but one of the topics addressed by the proposed UCC revisions.   Lenders who are currently taking  cryptocurrencies as collateral and their counsel have followed two basic approaches to achieve security interest perfection to the extent possible under current law:

Approach 1: The cryptocurrency is transferred to a securities intermediary, the securities intermediary agrees to treat the cryptocurrency as a “financial asset” which is then credited to the borrower’s “securities account” held at the “securities intermediary,” and the securities intermediary, the borrower and the lender enter into a control agreement as to the “securities account” and the “securities entitlement”; or

Approach 2: The lender files a UCC financing statement indicating the cryptocurrency/general intangible as collateral, the borrower provides the lender with the private key, and the lender transfers the cryptocurrency into its own public address or “wallet”. Note that absent the filing of the financing statement, the lender will be unperfected; having the cryptocurrency in the lender’s “wallet” alone does not perfect the security interest. Often, lenders may have no option under current law other than to perfect via Approach 1 as borrowers may be apprehensive about transferring the cryptocurrency to the lender and having a public record by filing of a financing statement tying the borrower to ownership of cryptocurrency, especially if the public address or amount of cryptocurrency is disclosed in the financing statement.  

Neither of these approaches, however, provides the securities intermediary or the secured party with any legal or practical assurance that the borrower owns the cryptocurrency free of other claims, nor that the securities intermediary will acquire the cryptocurrency free of other claims. Under the current version of Article 9 of the UCC there is also no way to ensure priority of the security interest without obtaining a release or subordination from all other secured parties, even if they are disclosed.  While the Wyoming non-uniform UCC amendments offer some additional protections, these uncertainties cannot be fully resolved under the current state of the law.

Therefore, lenders may need to simply rely on representations and warranties from the borrower as to its ownership of the cryptocurrency being free and clear of liens and other adverse claims encumbrances. In addition, in order to provide some comfort to the lender until the law catches up with the marketplace, the lender may need to engage in a factual diligence process to protect itself from other claimants to the cryptocurrency that may exist at the time of the transfer to the securities intermediary or the filing of the financing statement, such as examining the on-chain transactions and inquiring about the prior owners and prior public addresses of the cryptocurrency being used as collateral. In practice, while not fully resolving these concerns, some lenders have required borrowers to incorporate a borrowing entity in Wyoming to utilize Wyoming’s amendments to Article 9 to make use of the perfection by control rules available in that jurisdiction.

The revisions to the UCC, once enacted, will as a legal matter, create uniform rules for perfection of “controllable electronic records” (a new asset class that includes digital assets broadly defined and most, but not all, cryptocurrencies) via a “control” regime aligned to the peculiarities of this new asset class and rules that will either cut off prior claims or that will give the secured lender with control a priority over other claims.  These revisions are more clear and robust than the non-uniform Wyoming amendments. Wyoming, for example, provides for a cut off of prior claims only after two years following perfection by filing provided the secured party does not have actual, as opposed to constructive, notice of an adverse claim during  two-year window. Unlike the very familiar account control agreements for deposit accounts and securities accounts currently in use where parties can look for the magic language that imparts “control” to the secured party, the new Article 12 paradigm will  require careful analysis to determine if in fact the asset in question is a “controllable electronic record” and whether it is meets the newly developed tests for “control” of a “controllable electronic record” set out in the new Article 12. It is unlikely that a “form” document like an account control agreement will be the one size fits all mechanic to gain perfection by “control” for this asset class.


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