Canadian Lawyer InHouse

MARCH/APRIL 2019 6 INHOUSE News Roundup Will Quadriga CK spur regulatory oversight for crypto exchanges? T he loss of about $190 million of investor money resulting from the death of the founder of crypto-currency exchange Quad- riga CX demonstrates the regulatory gaps and necessity for better oversight, say lawyers ac- tive in the area of blockchain technology. "I think Quadriga CX is going to be the case that turns things in Canada and kick- starts regulation because this problem could very well happen again," says Chetan Phull, founder of Smartblock Law PC, a cyber-tech law fi rm in Toronto focused on blockchain, data privacy, IT contracts and litigation. "Quadriga CX, I think, will trigger Par- liament to act and regulate crypto-exchang- es more like banks," he says. On Feb. 5, the Supreme Court of Nova Scotia granted Quadriga CX creditor pro- tection for 30 days, under the Companies' Creditors Arrangement Act. The company is represented by Maurice Chiasson and Sara Scott of Stewart McKelvey and the court appointed Ernst & Young Inc. as mon- itor of the process, which will be represented by Elizabeth Pillon and Lee Nicholson of Stikeman Elliott LLP. In a statement made Feb. 5, the company said it fi led for creditor protection because it has been unable to access its customers' crypto-currency and could not get the funds to settle customer withdrawal requests. Historically, the threat to cybersecurity in crypto-platforms has typically been a breach from an outside third party. What makes the case of Quadriga CX unique, says Phull, is that the exact opposite is the prob- lem. The money is locked, as if in an inde- structible safe with no way to open it. The security of blockchain technology became its peril, as the only way to access the wallets containing the digital currency died with the owner of the exchange, Gerry Cotten, who left no password behind. "I'm hoping this case illustrates the im- portance of not just data security from the standpoint of breaches but also data security from the standpoint of putting these im- penetrable locks on data that can never be accessed again because of irresponsible con- duct," says Phull, whose fi rm focuses on data privacy and cybersecurity. Regulators around the world wrestle with crypto-currency's ambiguous status — cer- tain types in certain contexts can take the form of a currency, commodity or security, all of which apply different regulatory frame- works. In Canada, crypto-currency does not meet the legal defi nition of money and most regulators are treating it as a commodity, but it can also be used as an investment contract, for example, to raise funds for a startup, in which case it is a security, says Phull. "There really isn't anything in our laws that would regulate a company like Quadriga CX," says Mike Stephens, a partner at Fasken Martineau DuMoulin LLP in Vancouver. Though Quadriga CX was run without the contingency measures that would have protected its customers, Stephens says, there was not much regulators could have done, as the company exists in the gap between the jurisdiction of securities regulators and the jurisdiction of the Financial Transactions and Reports Analysis Centre of Canada, which regulates money transmitters. Crypto-graphic instruments are not de- fi ned as securities, though some regulators in Canada "infi ll the defi nition of securities" to include them by applying the Pacifi c- Coin test, he says. To determine if an investment is a secu- rity and, therefore, needs to be registered with a provincial securities regulator, Cana- dian courts apply the 1970 Supreme Court case Pacifi c Coast Coin Exchange v. Ontario Securities Commission. The case produced a test: A fi nancial arrangement is an invest- ment contract if it includes an investment of money in a common enterprise, with the ex- pectation of profi t from the efforts of others. Pacifi c Coast Coin follows closely the 1946 U.S. Supreme Court case Securities and Ex- change Commission v. W.J. Howey Co., which applies a nearly identical test. "Quadriga CX, having been the fi rst ma- jor exchange in Canada, was the fi rst entry point for many Canadian early adopters, and so this entire situation came as a shock to many of us," said Aaron Grinhaus of Grin- haus Law Firm PC. Grinhaus, who wrote the textbook A Practical Guide to Smart Contracts and Blockchain Law, says he expects that re- cent amendments to the Proceeds of Crime (Money Laundering) and Terrorist Financ- ing Act will be helpful but until the Canada Revenue Agency, securities regulators and FINTRAC get on the same page, there will be ambiguities that will be exploited by practitioners but will be "remarkably detri- mental" to regulators. "In a perfect world, the securities regu- lators would be regulating crypto-exchang- es," says Stephens. "But we need to have the regulation to kind of bring it under their ju- risdiction, for sure. And then we don't have Quadrigas in the future." In responding to the Quadriga CX mat- ter, Stephens says Canadian authorities need to undergo a process of "education, evaluation and, ultimately, legislation," in order to mandate internal processes of crypto-businesses. IH — Aidan Macnab CBA passes motion defi ning diversity at AGM T he Canadian Bar Association passed a motion at its annual general meeting defi ning diversity after a multi-year consultation. "This defi nition will provide almost like a GPS, what our basic co-ordinates are in terms of addressing diversity. But I personally feel there's a lot to be done yet," Kamaljit Lehal told Legal Feeds. Lehal moved the resolution at the AGM in Ottawa while speaking by video conference from Vancouver. The motion was passed without debate. The same motion had failed to pass in 2018 be- cause the AGM had run out of time before members could vote. The defi nition states that diversity "means the inclusion of members from a variety of backgrounds, with particular attention to representation in the Association of members from equality-seeking groups, including but not limited to women, LGBTI2S (lesbian, gay, bi-

• Cover