New digital assets like bitcoin are often seen as potentially disruptive to the global monetary system and the legacy financial infrastructure. But they also pose a fundamental challenge to existing legal concepts of property, say the authors of a new Cambridge University study.
In a report called ‘Global Cryptoasset Regulatory Landscape Study’, published by the Cambridge Centre for Alternative Finance and sponsored by the Nomura Research Institute, a team of academics points out how legal systems around the world are currently struggling with the property status of cryptoassets.
The report starts by noting that cryptoassets exist exclusively as digital book entries in a virtual, shared (or ‘distributed’) ledger.
It is far from straightforward to assume that knowledge of a private key is equivalent to legal possession
And moving cryptoasset units, for example to transfer ownership, requires an authorisation in the form of a cryptographically signed message by the person initiating the transaction.
The signature, produced by a private key, represents the user’s permission for a distributed ledger system to request a ledger entry reflecting the change in ownership.
However, say the report’s authors, while proving ownership and exercising the ownership rights of cryptoassets is dependent on knowing that private key, it is far from straightforward to assume that knowledge of a private key is equivalent to legal possession.
“The meaning of ‘ownership’ differs fundamentally across major jurisdictions”
A more fundamental problem, say the authors, is that there is no single global legal framework for virtual assets.
“The meaning of ‘ownership’ differs fundamentally across major jurisdictions, and even more so with regards to how property law treats immaterial digital objects,” they write in the new report.
There are three broad approaches to the ownership of virtual assets across the world’s major legal systems, the report’s authors say.
Japan and Germany stipulate that only material objects qualify as things that can be owned
In common law jurisdictions like the UK and the US, a legal category called ‘choses in action’ is used to treat immaterial property rights as material things. This approach enables those rights to be owned and transferred like other types of personal property.
Most civil law jurisdictions treat certain rights as things, too, although a few civil law countries, such as Japan and Germany, stipulate that only material objects qualify as things that can be owned.
“The latter subset of civil jurisdictions presents the most fundamental problems, as the recognition of any non-physical object as an object of property rights has to get around this dogmatic axiom,” the report’s authors say.
Japan’s legal approach to property has led directly to problems in asserting ownership rights to lost bitcoin in the case of the Mt. Gox cryptocurrency exchange failure in 2014, note Professor Louise Gulliver of Oxford University, Megumi Hara, a professor of law at Gakushuin University in Japan and Charles Mooney, a professor at Pennsylvania Law School, in a recent commentary.
Clients relying on the Mt. Gox exchange to hold their bitcoin securely lost 740,000 coins (currently worth around $3.8bn), or around 6 percent of all bitcoin ever mined, as a result of the hack of the exchange’s virtual vaults.
However, say Professors Gulliver, Hara and Mooney, when one client of Mt. Gox brought a legal action against the bankrupt exchange and the bankruptcy trustee in respect of 458 bitcoin which he claimed was held for him, he ran into Japanese law’s refusal to treat bitcoin as a tangible thing, and his lawsuit was rejected.
In the lawsuit, wrote Gulliver, Hara and Mooney, the claimant argued that the electronic record held on the Mt. Gox exchange’s bitcoin node represented the bitcoin, which would appear to give it tangibility.
Bitcoin’s creators explicitly rejected an account-based ownership system
However, noted Gulliver, Hara and Mooney, the Japanese court held that bitcoin did not fulfil this criterion. Instead, the court argued, while the bitcoin ledger recorded all past transactions relating to bitcoin, there was no electronic record representing the bitcoin itself.
In fact, bitcoin’s creators explicitly rejected an account-based ownership system in favour of a system based on so-called unspent transaction outputs (UTXOs): rather than a separate account entry along the lines of a traditional bank account, each ‘bitcoin’ is represented in the ledger merely as the unspent output of a previous transaction.
Bitcoin’s ‘blockchain’ is merely the set of all transactions in the digital currency, with individual transaction chains originating at the point at which each bitcoin was brought into existence through the process of mining.
In their commentary, the law professors distinguished the ownership rights represented by the bitcoin blockchain from those represented by a bank account.
“In English law, we might think of [the transactions relating to bitcoin] as analogous to the ledger of transactions involving a bank account,” the professors said.
“In English law, the bank account itself can be owned since it is a debt owed by the bank to the account holder: that is, a chose in action which is classified as intangible property. The ledger is just a record of transactions concerning this chose in action. But bitcoin is definitely not a chose in action,” the professors said.
Important questions of property rights remained unresolved in the Mt. Gox case
Since the Japanese court ruled that bitcoin itself could not be owned, other important questions of property rights remained unresolved in the Mt. Gox case, said Professors Gulliver, Hara and Mooney.
“There was no judicial discussion of whether, if it were possible for bitcoin to be the object of ownership, the customers had a proprietary claim to the bitcoin or merely a personal claim against the exchange,” the professors said.
Nor, said the professors, was there any discussion of whether clients of the failed exchange had rights to ownership of specific bitcoin or merely a right of co-ownership of the bitcoin retained in the bitcoin address managed by the exchange.
“Cryptoassets remain a grey area within property law”
Sorting out a coherent framework for property rights in cryptoassets remains a significant challenge, say the authors of the new Cambridge University report.
“Potential difficulties in all three legal systems remain,” the report’s authors write.
“Legislative attention is needed for a rational and consistent treatment of virtual objects in the future. Generally, until a closer examination of their property status by lawyers, courts and legislatures [takes place], cryptoassets will remain in a grey area within property law.”