On Monday, January 23, 2022, the New York Department of Financial Services (the “DFS”) released a letter (the “Guidance”) clarifying virtual currency custody and disclosure standards and practices that the DFS expects from entities that have received a “BitLicense” and New York limited purpose trust companies (the “VCE Custodians”).  The Guidance is final and effective immediately.  The Guidance complements existing regulatory requirements for VCE Custodians and is designed to “help to ensure that VCE Custodians are providing a high level of customer protection with respect to asset custody” and “better protect customers in the event of an insolvency or similar proceeding.”

Custodial Requirements

The Guidance discusses four different categories of requirements for VCE Custodians receiving virtual currency to hold in a custodial capacity, covering accounting practices, interest in and use of the custodied virtual currency, sub-custody arrangements and customer disclosure.  The Guidance specifically requires VCE Custodians:

  • to segregate customer virtual currency from any of the VCE Custodian’s own virtual currency or any other noncustomer virtual currency by separately accounting for such assets and avoiding commingling;
  • either to maintain customer virtual currency in separate on-chain wallets and internal ledger accounts under each customer’s name or to maintain customer virtual currency in omnibus on-chain wallets and internal ledger accounts that contain only customer virtual currency which are held by the VCE Custodian as agent or trustee;
  • where a VCE Custodian does maintain customer virtual currency in an omnibus account, to maintain a clear internal audit trail to identify customer virtual currency and account for all customer transactions;
  • to take possession of customer virtual currency only for the limited purpose of carrying out custody and safekeeping services and not to establish a debtor-creditor relationship with the customer or employ such virtual currency for its own use;
  • to request prior approval from the DFS before entering a sub-custody arrangement with a third party;
  • to clearly disclose to each customer in writing the general terms and conditions associated with its products, services and activities, including that it is entering a custodial relationship, rather than a debtor-creditor relationship, with the customer, and obtain acknowledgment of receipt of such disclosure prior to entering into an initial transaction with the customer; and
  • to have clearly documented policies and procedures for their custody business.

Scope of Guidance

The Guidance comes on the heels of guidance from the DFS in December that outlined the pre-approval application and evaluation process for New York-regulated banking organizations seeking to engage in new or significantly different virtual currency-related activities.[1]  The December guidance set onerous and prescriptive procedural requirements for its applications.  This Guidance only heightens the bar for New York entities that seek BitLicenses for engaging in virtual currency custody activities.

Crucially, though the Guidance describes custody services in general terms, it does not attempt to detail the outer bounds of situations under which the terms of the Guidance are triggered, i.e., under what circumstances a BitLicensee or New York limited purpose trust company is obligated to treat the relationship established with a customer as “custody” and therefore abide by the Guidance.  This question is of particular import to entities that offer multiple products to customers, including digital asset interest accounts or “Earn” products, whereby entities effectively borrow customer digital assets and create a debtor-creditor relationship.  While these boundaries are not clearly defined, the Guidance indicates that it would be applicable “when a customer transfers possession of an asset to a VCE Custodian for the purposes of safekeeping,” which at least implies that it would not apply to all situations in which a VCE Custodian might receive virtual currencies it hasn’t purchased.

Implications of Custody Guidance

The Guidance appears to be prompted by the absence of meaningful rulemaking regarding the custody of digital assets, as demonstrated by the ongoing uncertainty that has manifested in pending high-profile crypto bankruptcies.  As discussed in previous blog posts,[2] one of the key questions arising in the pending bankruptcies is whether digital assets that are held on behalf of customers are viewed as an “interest of the debtor’s estate.”  This question is crucial and may have significant economic implications for customers and debtors alike.  Property of the estate is generally available for distribution to the debtor’s creditors[3] in accordance with the priorities set forth in the Bankruptcy Code.[4]  Therefore, if bankruptcy courts view digital assets received from customers as the debtor’s corporate assets, those customers may be treated as unsecured creditors with an equal or lower priority right to payment compared to other creditors and thereby lose some or all of the value of their investment in the digital assets.  By contrast, if digital assets are identifiable and considered to be held by the creditor as a bailee or trustee or in another capacity that keeps them outside of the debtor’s estate, customers will generally be entitled to withdraw these assets if they do not have unpaid debts to the estate.

Very briefly, the question as to what assets constitute property of the debtor is not answered by the Bankruptcy Code,[5] but is generally determined by applicable nonbankruptcy law.[6]  The answer to whether digital assets are property of the debtor’s estate is highly fact-specific and is likely not the same for all accounts of a specific debtor.  This in turn depends on principles of contract interpretation and common law, as well as the specific terms of the applicable customer agreements.  The information coming out of the current cases indicate that the contracts that were used leave much open to dispute.  The outcome may depend on, among other things, (a) the express terms of any governing agreement, (b) whether the digital assets are deemed to be held in trust for the customer or the agreement provides for the transfer of ownership, (c) whether the assets are commingled with the debtor’s assets or can be readily traced and identified and (d) whether the debtor has control over such assets.[7]  As discussed below, the pending crypto bankruptcy cases have started to provide some clarity on these key questions, while also reaffirming that courts may not provide a one-size-fits-all answer.

Recent Court Developments

The bankruptcy judge overseeing Celsius Network’s chapter 11 case issued rulings that highlight how crypto customers may face different outcomes depending on the type of account.  On January 4, 2023, the Celsius court found that digital assets that customers deposited into yield-earning “Earn” program accounts were property of the debtors’ estates, basing the conclusion on the applicable terms of use.[8]  The Court noted that because title to the digital assets in the Earn Accounts was granted to the debtors, account holders would be treated as unsecured creditors whose recovery would depend on the general distributions to unsecured creditors under a confirmed chapter 11 plan.[9]  Characterizing the issue of the ownership of assets in Earn Accounts as one of contract law, the court found that the terms of use formed “a valid, enforceable contract” between Celsius and its account holders with terms that “unambiguously transfer title and ownership of Earn assets deposited into Earn accounts from accounts holders to the debtors.”[10]

In contrast to the Earn accounts, the Celsius court previously ruled that digital assets in the “Custody Wallets” and certain “Withhold Accounts” were not property of the debtors’ estates under section 541 of the Bankruptcy Code.[11]  In light of this ruling, the Celsius debtors recently filed a notice that holders of “Pure Custody Assets” and “Transferred Custody Assets” will be entitled to withdraw their digital assets, notwithstanding the pending bankruptcy case.[12]

Unlike the Celsius case where it took several months to litigate the different types of customer accounts, the BlockFi debtors filed a motion early in its bankruptcy case seeking court approval to permit clients to access digital assets held in customer “Wallet Accounts” (but not the interest-bearing accounts) on BlockFi’s platform because the debtors have “always prioritized doing right by their clients.”[13]  The BlockFi debtors cited the BlockFi Wallet terms of service in support of the request, which provide that “title to the cryptocurrency held in your BlockFi Wallet shall at all times remain with you and shall not transfer to BlockFi” and that such digital assets were not rehypothecated for the debtors’ lending activities.[14]  Thus, BlockFi acknowledged that “any property held by the Debtors on account of the Wallet Accounts is not property of the Debtors’ estates.”[15]  A hearing on this motion is scheduled for February 21, 2023.

The Voyager Digital Holdings case addressed services provided through sub-custody arrangements with digital asset platforms.  In Voyager, certain of the debtors’ customers had “for the benefit of” (“FBO”) accounts with the Metropolitan Commercial Bank.[16]  The Voyager customer agreements provided that cryptocurrency would be held in Voyager’s own name and granted certain rights to Voyager with respect to the use, lending, “staking” and rehypothecation of such cryptocurrency, “with all attendant rights of ownership.”[17]  The customer agreements also expressly warned about the uncertainty of the treatment of cryptocurrency holdings in the event of an insolvency proceeding, noting that the law governing the treatment of cryptocurrency in insolvency proceedings was unsettled.[18]  Nevertheless, with respect to the FBO accounts with Metropolitan Commercial Bank, the Voyager debtors asserted that the debtors had no legal or equitable rights to such customer funds.  The court agreed, determining that customers should be permitted to withdraw funds held for them in the FBO accounts and that such funds were not property of the debtor’s estate under section 541 of the Bankruptcy Code.[19]  It is worth noting that in reaching this decision, the Voyager court specifically noted that because the overwhelming percentage of claims were held by customers (as opposed to other types of creditors), there were no parties that had strong financial incentives to oppose the relief.  Accordingly, the court cautioned that the decision was not intended to be a general ruling on the rights that customers may have in other cryptocurrency cases or with other types of accounts.[20]


Despite the flurry of recent crypto-related bankruptcies, there still remains significant uncertainty regarding the treatment of digital assets in bankruptcy due to limited legal precedent, the fact-specific nature of the inquiry and the lack of consistency in the applicable agreements.  These disputes also reflect differing expectations regarding who owned the relevant digital assets and whether the relevant relationships were fundamentally custodial relationship or debtor-creditor.  While DFS does not directly wade into these issues, the Guidance is intended to reduce unintended outcomes for customers by providing much needed “clarity regarding standards and practices” where the relationship is arguably custodial in nature.


For more discussion and analysis of developments regarding bankruptcy law and crypto entities see our other posts:


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[1]      See Jeffrey L. Robins, et al., NYDFS Issues Guidance Regarding Prior Approval for Virtual Currency-Related Activities, Debevoise and Plimpton FinTech Blog (Dec. 22, 2022), https://www.debevoisefintechblog.com/2022/12/22/nydfs-issues-guidance-regarding-prior-approval-for-virtual-currency-related-activities/.

[2]        See Sidney P. Levinson, et al., Recent Crypto Bankruptcy Filings May Provide Clarity to Critical Unresolved Questions, Debevoise and Plimpton FinTech Blog (Jul. 13, 2022), https://www.debevoisefintechblog.com/2022/07/13/recent-crypto-bankruptcy-filings-may-provide-clarity-to-critical-unresolved-questions; Sidney P. Levinson et al, Recent Disclosure Guidance Highlight Growing Concern Surrounding the Risks of User Assets Held by Various Crypto Custodians, Debevoise & Plimpton Fintech Blog (June 6, 2022). https://www.debevoisefintechblog.com/2022/06/03/recent-disclosure-guidance-highlight-growing-concern-surrounding-the-risks-of-user-assets-held-by-various-crypto-custodians/.

[3]      See Mission Product Holdings, Inc. v. Tempnology, LLC, 139 S. Ct. 1652, 1658 (2019) (“The filing of a petition creates a bankruptcy estate consisting of all the debtor’s assets and rights.  See § 541.  The estate is the pot out of which creditors’ claims are paid.”).

[4]        The Bankruptcy Code is codified in Title 11 of the U.S. Code.

[5]      See Begier v. I.R.S., 496 U.S. 53, 58 (1990)(“The Bankruptcy Code does not define ‘property of the debtor.’”).

[6]        See Butner v. United States, 440 U.S. 48, 55 (1979) (“Property interests are created and defined by state law.”).  Accordingly, “Whatever limitations on the debtor’s property apply outside of bankruptcy apply inside of bankruptcy as well.  A debtor’s property does not shrink by happenstance of bankruptcy, but it does not expand, either.”  Mission Product Holdings, Inc. v. Tempnology, LLC, 139 S. Ct. at 1663 (internal citations omitted).

[7]        11 U.S.C. § 541(d) explicitly excludes from a debtor’s bankruptcy estate any property in which a debtor holds only legal title and not an equitable interest, such as assets held by the debtor under trust, escrow, agency or bailment arrangements.  The Supreme Court has commented that Section 541(d) demonstrates that “Congress intended to exclude from the estate property of others in which the debtor had some minor interest such as a lien or bare legal title.”  United States v. Whiting Pools, Inc., 462 U.S. 198, 205 n.10 (1983).

[8]        Memorandum Opinion and Order Regarding Ownership of Earn Account Assets, In re Celsius Network LLC et al., Case No. 22-10964 (MG) (Bankr. S.D.N.Y. Jan. 4, 2023), Docket No. 1822.

[9]        Id.

[10]       Id.

[11]       Order (I) Authorizing the Debtors to Reopen Withdrawals for Certain Customers with Respect to Certain Assets Held in the Custody Program and Withhold Accounts and (II) Granting Related Relief, In re Celsius Network LLC et al., Case No. 22-10964 (MG) (Bankr. S.D.N.Y. Dec. 20, 2022), Docket No. 1767.  Certain customers have appealed this ruling.

[12]       Notice of Schedule of Custody Users Entitled to Withdraw Certain Assets, In re Celsius Network LLC et al., Case No. 22-10964 (MG) (Bankr. S.D.N.Y. Jan. 31, 2023), Docket No. 1958.

[13] Debtors’ Motion for Entry of an Order (I) Authorizing the Debtors to (A) Honor Withdrawals from Wallet Accounts, (B) Update the User Interface to Properly Reflect Transactions and Assets as of the Platform Pause and (C) Conduct Ordinary Course Reconciliation of Accounts, and (II) Granting Related Relief, In re BlockFi Inc. et al., Case No. 22-19361 (MBK) (Bankr. D. N.J. Dec. 19, 2022), Docket No. 121.

[14]     Id.

[15]     Id.

[16]       In re Voyager Digital Holdings, Inc., No. 22-10943 (MEW), 2022 WL 3146796, at *1 (Bankr. S.D.N.Y. Aug. 5, 2022).

[17]       Id. at *2.

[18]       Id.

[19]       Id. at *3.

[20]       Id.


Sidney Levinson is a partner and Co-Chair of the firm’s Restructuring Group. He can be reached at slevinson@debevoise.com.


Jeffrey L. Robins is a corporate partner and a member of Debevoise’s Banking Group. He can be reached at jlrobins@debevoise.com.


Elie J. Worenklein is a corporate counsel and a member of the firm’s Restructuring Group. He can be reached at eworenklein@debevoise.com.


Ezra Newman a corporate associate and a member of Debevoise's Financial Institutions Group. He can be reached at enewman@debevoise.com.


Ruth Ramjit is a corporate law clerk and a member of the Restructuring Group. She can be reached at rramjit@debevoise.com.