Article source: Xiao Za lawyer.
Recently, the team has received numerous inquiries from partners wanting to use cryptocurrencies like BTC, ETH, USDT, or USDC as transaction consideration for selling/purchasing equity in domestic companies. The team understands this idea, as using cryptocurrencies for large transactions can easily avoid many troubles, reduce transaction costs, and even facilitate the outflow of funds.
However, where there are advantages, there are also disadvantages. Using crypto assets for complex commercial transactions may involve various legal and commercial risks. Today, the team will briefly analyze the potential legal risks of using crypto assets as equity transaction consideration based on practical experience in handling cryptocurrency-related cases, helping partners make correct and suitable judgments.
01. Legal risks of partial or total invalidity of transaction contracts.
On September 24, 2021, the People's Bank of China, the Central Internet Information Office, the Supreme People's Court, the Supreme People's Procuratorate, the Ministry of Industry and Information Technology, the Ministry of Public Security, the State Administration for Market Regulation, the China Banking and Insurance Regulatory Commission, the China Securities Regulatory Commission, and the State Administration of Foreign Exchange jointly issued a notice (Regarding Further Preventing and Disposing of Risks from Virtual Currency Trading Speculation). The first article clarifies the essential attributes of virtual currency and related business activities. Clause (1) states: 'Virtual currency does not have the same legal status as fiat currency. Virtual currencies such as Bitcoin, Ethereum, and Tether do not have the characteristics of being issued by monetary authorities, using encryption technology and distributed accounts or similar technologies, and existing in digital form. They do not possess legal compensation and should not and cannot circulate as currency in the market.' Clause (4) states: 'Participating in virtual currency investment and trading activities carries legal risks. Any legal person, non-legal person organization, and natural person investing in virtual currencies and related derivatives that contravene public order and good customs will have their related civil legal actions invalidated, and any losses incurred will be borne by themselves. Those suspected of disrupting financial order and endangering financial security will be investigated and dealt with by the relevant departments in accordance with the law.'
Therefore, if under Chinese law (or agreed upon domestic arbitration and application of Chinese law), an equity transaction contract uses cryptocurrencies such as BTC, ETH, USDT, etc., as transaction consideration, once a dispute arises, the court will proactively review the legality of the transaction contract. In practice, courts often deem cryptocurrency-related transaction contracts to be invalid for 'violating public order and good customs.' Thus, using mainstream cryptocurrencies like Bitcoin BTC, Ethereum ETH, or mainstream algorithmic stablecoins like USDT and USDC as equity transaction consideration carries the legal risk of partial or total invalidity.
Classic reference case for invalid contracts: [2023 Annual Top Ten Financial Commercial Trial Cases of Shanghai Courts (8) Validity and Liability of Investment Contracts with Virtual Currency as the Investment Target — A Case of A vs. B in a Dispute Over an Entrusted Wealth Management Contract].
An arbitration ruling regarding the validity of a cryptocurrency contract was overturned by the Intermediate People's Court. Reference case: [Shenzhen Intermediate People's Court (2018) Yue 03 Min Te 719].
Special reminder: In civil and commercial cases involving cryptocurrency, the liability for invalid contracts does not follow the conventional interpretation of Article 157 of the Civil Code, which states that civil legal acts are invalid, revoked, or determined not to take effect. Instead, the common judgment is 'risk borne by the parties themselves,' which is a relatively unfavorable and serious liability distribution mechanism following contract invalidation, posing significant risks for large equity transactions.
02. Risks associated with the price volatility of cryptocurrencies like Bitcoin BTC and Ethereum ETH.
Cryptocurrencies like BTC and ETH are severely influenced by market sentiment, major political events, and economic developments, leading to potential price surges and crashes. Historically, several notable crash events are summarized as follows.
Bitcoin's first crash: In 2011, it fell to $2 within six months.
Bitcoin's second crash: In 2017, the price fell from $700 per coin to $340 per coin within seven weeks.
Bitcoin's third crash: In September 2017, it fell from $5,000 to $2,900 within a few days.
Bitcoin's fourth crash: On November 14, 2018, it plummeted by 10% within a few days.
Therefore, if using non-algorithmic stablecoins like BTC and ETH for transactions, significant price fluctuations may occur during the transaction period before equity delivery, increasing uncertainty and the potential for disputes.
03. Special risks associated with using algorithmic stablecoins like USDT and USDC as transaction consideration.
Main risks include prohibition, asset freezing due to involvement in case funds, etc.
USDT faces a compliance crisis, being banned in several important countries and jurisdictions, and its exchange or use with fiat currencies may be restricted in the future.
According to the EU's MiCA regulation on crypto assets, which will take effect on December 30, 2024, stablecoin issuers must meet strict compliance obligations, obtain an EU electronic money license, hold substantial reserves, and closely monitor related transactions. However, Tether Limited, the issuer of USDT, has failed to obtain a license, so USDT will be delisted from regulated platforms within the EU and cannot be used in EU countries.
Algorithmic stablecoins like USDT and USDC are widely used for money laundering and concealing criminal proceeds, such as having transaction records with accounts marked as risky. Algorithmic stablecoin issuers can directly freeze U in the user's wallet, making it unusable; the cost and duration of unfreezing are high.
The issuer of USDT is a private company registered in Hong Kong, which has control over the USDT it issues. Technically, USDT is also a product based on blockchain technology. Tether can use backend technical means to manage USDT. Once a wallet address is blacklisted by Tether, those USDT can no longer be used.
Xiao Za's legal team is currently helping several clients with frozen USDT in the unfreezing process. Such cases tend to have long durations and low unfreezing rates, involving multiple countries and legal systems, making dispute resolution costs extremely high.
04. Final Remarks
A simple conclusion: If both parties have a high degree of trust and the transaction period is very short, the likelihood of disputes is low, then using cryptocurrencies for transactions is not strictly prohibited by our laws; it is theoretically feasible, and in practice, some partners have indeed done so.
The team advises that before using cryptocurrencies for complex commercial transactions, it is essential to consult a professional legal team for compliance processing of transaction documents and targeted dispute resolution design to prevent falling into a deadlock or encountering significant losses due to transaction failures.
