NFTs ruling shows courts ahead of legislators on question of crypto property law

NFTs ruling shows courts ahead of legislators on question of crypto property law

By accepting the argument that constructive trusts can be formed through the holding of digital assets, the High Court appears to continue to approach the issue of property rights in respect of digital assets flexibly, Tom Aries of Pinsent Masons said.

The case before the High Court concerned an application for an extension to an injunction obtained previously by blockchain consultant Lavinia Osbourne that prevents alleged hackers from dealing with or disposing of two non-fungible tokens (NFTs) that she had held in a digital wallet. The NFTs were transferred out of the wallet without Osbourne’s knowledge or consent on 17 January 2022, according to the ruling. The NFTs are said to confer benefits on the holder, including access to exclusive virtual events, and are said to be worth between £3,000 and £5,000.

Osbourne originally obtained an interim injunction against ‘persons unknown’ last year, targeted at the individuals or entities that unlawfully gained access to and removed the NFTs on 17 January 2022. Osbourne’s fresh application sought to extend the injunction to further ‘persons unknown’, being the individuals or entities that are in possession or in control of the NFTs. She also sought to add one individual, Thembani Dube, as a further defendant who is alleged to be in possession or control of the NFTs.

Mr Justice Lavender said he would grant the extended injunction after determining that the balance of convenience favoured doing so.

In reaching his decision, the judge said decided there was “no reason to depart” from case law established by the High Court in early proceedings in the case last year in which the court found there is at least a realistically arguable case that NFTs are to be treated as property as a matter of English law. He also determined that “there is a serious issue to be tried whether [Dube] hold[s] one or more of the two NFTs on constructive trust for [Osbourne]”.

The Civil Procedure Rules (CPRs) confer on the court the power to make judgments binding on non-parties in respect of property which is subject to a constructive trust. 

Mr Justice Lavender said: “There is evidence that the two NFTs are property which was obtained by [persons unknown] by fraud and which has been transferred by them in breach of trust and has been transferred into the hands of [persons unknown thought to be in possession and/or control of the NFTs and Dube] in circumstances which are, as yet, unexplained.”

Aries said: “One of the key issues on enforcing on or the recovery of digital assets at present, is the lack of certainty around their precise status as property. Indeed, the Law Commission published a consultation paper in July 2022 on provisional law reform proposals to ensure that the law recognises and protects digital assets – including crypto-tokens and cryptoassets – in a digitised world. The consequences of this paper will not be known until later this year, and whilst many may be hoping for a third category of property to be proposed, only time will tell what changes the Law Commission’s report will bring.”

“In the meantime, the court appears to continue to be willing to agree that a constructive trust can be created where digital assets are held and controlled in custodial wallets; further opening the door to making it easier for claimants to recover assets where they can show a proprietary right to the digital assets held,” he said.

After determining that Osbourne’s application for an extended injunction should be granted, the court had to consider the question of how notice of the injunction could be served to persons unknown thought to be in possession and/or control of the NFTs and Dube.

Dube is thought to reside in South Africa. To serve out of the jurisdiction of England and Wales, a claimant needs to show that there was a serious issue to be tried; that there is a good arguable case that the claim falls within one of the ‘gateways’ that enable service out of the jurisdiction, set out in Practice Direction 6B; and that England and Wales was the most appropriate forum for bringing the case. The claim began prior to the introduction of the new gateways for service out of jurisdiction which came into force on 1 October 2022.

Mr Justice Lavender considered there was little issue in establishing that there was a serious issue to be tried or that England and Wales was the most appropriate forum, but felt the issue of whether the claim fell within one of the gateways was more complicated.

However, ultimately, the judge considered that gateway 15(c) was available for service out of jurisdiction in this case. It states: “The claimant may serve a claim form out of the jurisdiction with the permission of the court under rule 6.36 where… a claim is made against the defendant as constructive trustee, or as trustee of a resulting trust, where the claim … is governed by the law of England and Wales.”

The judge said that there is no clear case law concerning choice of law rules in respect of constructive and resulting trusts. However, he considered that there was a strong argument that the constructive trust alleged to have been created when the hackers transferred the NFTs out of the claimant’s wallet was governed by English and Welsh law, “…and consequently, that the question whether [persons unknown thought to be in possession and/or control of the NFTs and Dube] in turn became constructive trustees when they received the trust property was also governed by English law.”

The judge granted Osbourne permission to serve the amended statement of case and injunction via hyperlinks embedded in an NFT, after considering evidence that there was no other available method of service beyond an email address linked to Dube.

According to the ruling, the question of service by NFT raised data protection issues which the judge said could be resolved through redactions.

Mr Justice Lavender said: “One feature of service by NFT in the present case, since the NFT was to be ‘on the blockchain’, was that the NFTs used to effect service would be open to the public and the hyperlinks contained in them could be used by anyone to view the documents served. In those circumstances, I was asked to sanction the redaction of the documents to be served in order to prevent access to personal data. I did so, but only on condition that: (1) the defendants would be offered access to unredacted versions of the documents; and (2) the only redactions which would be made were those which were approved by the court.”

Aries said: “This looks to be the first time in which the High Court has approved service by NFT as the sole method of service of documents, and it appears the court may be becoming more comfortable in allowing service in such a way to take account of this technological advancement. However, it may also be wise to consider whether the court’s agreement is owing to a desire to ensure access to justice in these growing types of crypto fraud where it is often difficult to identify the defendant, rather than comfort.”