Can a lender challenge debtors’ transactions with a parent company as fraudulent conveyances when the debtors had disclosed the transactions before the loan was advanced? In NYDIG ABL LLC v IE CA 3 Holdings Ltd, the Supreme Court of British Columbia said yes. On appeal, the British Columbia Court of Appeal in IE CA 3 Holdings Ltd v NYDIG ABL LLC said no, finding that transfers from the subsidiaries to their parent had not been fraudulent conveyances because they had been disclosed to the lender before the lender had loaned any funds.

BC Lower Court Finds Fraudulent Conveyances

A parent company and two subsidiaries had inter-company agreements concerning the transfers of hashpower used for Bitcoin mining. After its loans went into default, the lender alleged that the hashpower agreements constituted fraudulent conveyances. The BC lower court agreed with the lender, concluding that the impugned transactions should be declared void as fraudulent conveyances because there was a disposition of property with an intent to delay, hinder or defraud the creditors. The Court found that the following “badges of fraud” were evident in the transaction that proved intent on the part of the debtor companies: 1) the transfers of hashpower were between parties that were not at arm’s length; 2) the related companies reaped most of the financial benefit generated by the equipment while leaving the debtor companies unable to meet their existing liabilities to the lenders; and 3) the debtor companies were left with the need for ongoing subsidies to meet their financial obligations. Finally, the Court found that had the transfers not occurred, the hashpower generated by the equipment would have remained with the debtor companies, and the Bitcoin mined with it would have formed part of the collateral charged by the lender.

BC Court of Appeal Reverses

The Court of Appeal held that the trial judge erred in finding the hashpower agreements to be fraudulent conveyances because any intent on the part of the debtors was rebutted by disclosure of the agreements to the lender prior to the loans being made.

The Court of Appeal stated that it is “well established” that while badges of fraud may create a presumption of the necessary fraudulent intent, that presumption is rebuttable by evidence that the transferor did not dispose of the assets in furtherance of an improper purpose. In this case, the Court of Appeal found that the disclosure to the lender rebutted the presumption of fraudulent intent.

Takeaways

This decision provides valuable insights into a possible risk mitigation strategy for companies engaged in cryptocurrency mining operations financed by debt. By dividing specific aspects of its Bitcoin mining operations between its subsidiaries and the parent company, the parent company was able to minimize its potential liabilities. Specifically, by stipulating in the contract that the Bitcoin would only be exposed as collateral where it was possessed by the subsidiary, and by structuring the inter-company arrangement so that the subsidiaries only ever transferred hashpower, and never came into possession of Bitcoin, the Bitcoin became protected in the event of a default on the loan.

This case is also a warning to lenders to fully understand a debtor’s business before lending to it and to carefully negotiate adequate protections and remedies in light of the nature of the business model.

With thanks to Daniel McKeown for his assistance with this article.