Celsius Bankruptcy Filings Hint Retail Customers Will Bear Brunt of its Failure

Liquidity-strapped crypto lender Celsius Network filed for Chapter 11 bankruptcy protection in the Southern District of New York on Wednesday, more than a month after it halted customer withdrawals because of “extreme market conditions.”

The filing came nine days after crypto broker Voyager Digital filed for Chapter 11 bankruptcy in the same court, after it paused customer withdrawals earlier this month as it faced its own liquidity crisis triggered by the collapse of Singapore-based crypto hedge fund Three Arrows Capital.

Court filings revealed that Celsius has a $1.2 billion hole (at minimum) in its balance sheet – the company has $5.5 billion in liabilities ($4.7 billion of which represents customer holdings) and only $4.3 billion in assets, much of which is illiquid. Though the company has already begun to make good on its debt to institutional creditors, retail investors have been left in the dark and will likely bear the brunt of Celsius’ failing.

“Celsius has set the stage for conflict between its customers and its sophisticated institutional creditors,” Daniel Gwen, a business restructuring associate at New York-based law firm Ropes & Gray, told CoinDesk.

“In particular, Celsius has pointed out in its pleadings that customers transferred ownership of crypto assets to Celsius, making those customers unsecured creditors. This detail may undercut customer expectations, who thought they were depositing their assets into a construct similar to a traditional bank,” Gwen added.

David Silver, a founding partner of the Florida-based law firm Silver Miller, agreed.

“Celsius is the dangerous result of what happens in an unregulated marketplace. People who thought they were investing in low-risk investments and had withdrawn their crypto from high-risk investments just lost a generation of wealth,” he told CoinDesk. “For the moment, the bankruptcy process will not be the average investor’s friend.”

Much like Voyager Digital, Celsius looked a lot like a bank to average investors.

Customers could connect their credit cards or bank accounts to the platform, and use it to buy and trade crypto, or to take out fiat loans against their crypto assets. To entice customers to stake their crypto with Celsius, the company promised returns of up to 17%.

Read more: Behind Voyager’s Fall: Crypto Broker Acted Like a Bank, Went Bankrupt

But, as several lawyers pointed out to CoinDesk, neither Celsius nor Voyager is a bank, and neither is subject to the same stringent regulations that banks are.

This is evident in both lenders’ decision to file for Chapter 11 bankruptcy protection. Often called “reorganization bankruptcy,” Chapter 11 bankruptcy allows businesses to keep operating while they restructure their finances in order to pay back their creditors.

It’s an option that isn’t available to broker-dealers. When regulated securities or commodities brokers go bankrupt, their only option is to liquidate, usually through Chapter 7 bankruptcy.

Rick Hyman, a New York-based partner in Crowell & Moring’s corporate and financial services groups, told CoinDesk that Celsius’ and Voyager’s ability to restructure through Chapter 11 rather than be forced to liquidate is a result of the lack of regulatory clarity surrounding cryptocurrencies.

“While there has been much discussion regarding the nature of digital assets and whether they should be deemed securities or commodities, and the [U.S. Securities and Exchange Commission] has expressed some views on the subject, no such determination has been made,” Hyman said. “Unless and until that determination is made, cryptocurrency platforms like Celsius Network and Voyager will not be classified as broker-dealers.”

Though Voyager is based in New York and filed for bankruptcy in the Southern District of New York, Celsius’ decision to file in the same court has caused some confusion, because Celsius’ headquarters are in Hoboken, N.J.

In its court filings, Celsius listed a New York address as a location for its principal assets, which Gwen told CoinDesk is another method for determining bankruptcy venue or jurisdiction.

Aaron Javian, a partner at New York law firm Reed Smith, told CoinDesk it’s actually quite common for companies based outside New York to file for bankruptcy in the city.

“There typically is a significant nexus that companies have to New York because of its status as a financial center. If [Celsius] has got cash or crypto or whatever that’s held through accounts that are in New York, then there’s likely a significant asset and business reason to file in the SDNY.”

One of those reasons could be that the Southern District of New York is perceived as a friendlier – or at least more crypto-savvy – jurisdiction.

“Many large commercial debtors are able to file bankruptcy in a district that has a particular expertise in their industry and a reputation for conducting efficient proceedings,” Hyman told CoinDesk. “[Celsius] may have determined that it would be favorable to have the same court, although not the same judge [as Voyager] address the many novel issues that are certain to arise in these high-profile cases.”

New York’s bankruptcy judges are widely considered to be some of the most sophisticated in the U.S., because of their experience in dealing with complex financial bankruptcies.

“New York, for example, was home for the bankruptcy cases of Lehman Brothers and the Bernie Madoff investment fund,” Gwen said.