Lost Money in Crypto Bankruptcies? Here’s What To Do

Depressed frustrated trader tired of overwork or stressed by bankruptcy stock photo
Victoria Gnatiuk / iStock.com

The crypto space has been marred by several platforms and exchanges that went bust in the past few months. In turn, investors have been left frustrated about how to recoup their losses, unlock their frozen assets or how to not get caught up in legalities.

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Let’s take a look at how so many people lost their crypto holdings and what recourse they have to get their money back.

The Collapse of Crypto

Of course, the now infamous FTX platform filed — along with its more than 130 subsidiaries — for Chapter 11 on Nov. 14, 2022.

The FTX fallout contagion ensued, and fellow crypto platform BlockFi also filed for bankruptcy on Nov. 28, saying this “follows the shocking events surrounding FTX and associated corporate entities and the difficult but necessary decision we made as a result to pause most activities on our platform.”

In January, another one bit the FTX dust, as the Securities and Exchange Commission (SEC) charged Gemini and Genesis for “the unregistered offer and sale of securities to retail investors through the Gemini Earn crypto asset lending program.”

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“Through this unregistered offering, Genesis and Gemini raised billions of dollars’ worth of crypto assets from hundreds of thousands of investors. Investigations into other securities law violations and into other entities and persons relating to the alleged misconduct are ongoing,” the SEC said in a Jan. 12 statement.

Of course, this all came on the heels of the earlier busts of crypto lending platforms Voyager Digital and Celsius, which promised eye-popping yields to their customers — that is until they both filed for bankruptcy in July 2022 due to their exposure to the now infamous Three Arrows Capital, which itself went bankrupt after the implosion of Terra LUNA and its TerraUSD stablecoin.

Who Owns the Crypto?

Now, millions of investors are left seeking answers — and their money.

“Whether the customers of these bankrupt crypto entities will have access to the crypto and cash held on these respective platforms is typically exclusively determined by the governing terms and conditions,” said Richard Mico, U.S. CEO and chief legal officer of Banxa. “The fundamental question in reviewing the terms and conditions is: Who owns the assets held by these platforms?”

Generally, if the assets held by the platforms are owned by the customers, then they will not be the property of the platforms in bankruptcy, Mico explained. The customers should receive their assets back much more quickly.

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“If the assets are ‘owned’ by the platforms,” Mico said, “then the customers will typically be nothing more than unsecured creditors — ranking behind secured and other priority creditors in the related bankruptcy process.”

That often means that, after the secured and other priority creditors have been paid, there are insufficient assets for all unsecured creditors to be paid in full.

“Unsecured creditors typically rank equally amongst each other — so the remaining assets are divided evenly amongst them, meaning often they only receive cents on the dollar,” Mico said, noting that the type of bankruptcy selected by any particular platform also can dictate the length of time required for the customer to receive any repayment.

Mico added, “All of these issues are currently being closely considered and examined in the collapses of Celsius, BlockFi and FTX.”

How Bankruptcies Affect Your Taxes

Another factor to bear in mind is that bankruptcy proceedings tend to be very lengthy. While a platform is in bankruptcy proceedings, you can’t take a loss on your taxes. While you are waiting, TurboTax recommends the best thing you can do is gather documents related to your crypto account.

Once the platform’s bankruptcy is settled and the assets are deemed worthless, “You can offset the loss of the crypto based on what you paid for it against your gains and offset any additional loss against ordinary income like wages up to $3,000,” TurboTax says. “Any additional loss over $3,000 can be carried over to the next year.”

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All in all, options to recoup losses in such instances are few and far between. Aaron Kaplan, founder and co-CEO of Prometheum, noted that recovery from the FTX and other debacles likely will be quite limited as the costs of bankruptcy will materially reduce the ultimate payments that will be available to customer creditors of these failed institutions.

However, Kaplan added that investors who have other capital gains should consult their tax advisors about writing off their losses from these failed institutions against such capital gains.

“Many class-action lawsuits have been commenced against various participants and or aiders and abettors in the failed institutions activities,” he said. “These class actions will probably add some small return to damaged investors.”

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About the Author

Yaël Bizouati-Kennedy is a full-time financial journalist and has written for several publications, including Dow Jones, The Financial Times Group, Bloomberg and Business Insider. She also worked as a vice president/senior content writer for major NYC-based financial companies, including New York Life and MSCI. Yaël is now freelancing and most recently, she co-authored  the book “Blockchain for Medical Research: Accelerating Trust in Healthcare,” with Dr. Sean Manion. (CRC Press, April 2020) She holds two master’s degrees, including one in Journalism from New York University and one in Russian Studies from Université Toulouse-Jean Jaurès, France.
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