These rulings are the first to address this matter and they show that there is still much uncertainty around cryptocurrencies and their legal qualification and characteristics, severely limiting their use at a corporate level.
Summary of the facts and rulings of the First Instance and Appeal Courts
The First Instance decision
An Italian limited liability company gave approval for a corporate capital increase to be partially carried out through the contribution of a certain quantity of “ONE COIN” cryptocurrency, qualified as contribution in kind and subject to the sworn expert report pursuant to Article 2465 of the Italian Civil Code. However, the Notary Public refused to proceed with the registration of the resolution in the Register of Enterprises, arguing that the value of cryptocurrencies is uncertain due to their volatility and that this volatility would not allow for an evaluation of the relevant contribution in kind, making it invalid under Italian law. The sole director of the limited liability company in question challenged the Notary Public’s decision and filed a petition before the Brescia Court.
The Court upheld the Notary Public’s decision and rejected the petition filed by the company’s director. Indeed, while the Court recognized that cryptocurrencies could theoretically be subject to capital contribution, it determined that the ONE COIN cryptocurrency was unsuitable for economic evaluation in accordance with the requirement set forth by Article 2464, Paragraph 2 of the Italian Civil Code.
Specifically, the Court found that an asset can be subject to a valid capital contribution in kind if it meets the following three requirements: (i) the value of the asset can be determined at a given moment; (ii) the asset can be exchanged on a market, so that it is also possible to determine the asset’s degree of liquidity (i.e. the actual possibility of exchanging that asset for money); (iii) the asset’s suitability for being subject to expropriation by the company’s creditors (this last requirement is controversial from the perspective of commentators and case law). However, the Court emphasized that the only platform where ONE COIN could be used as a means of exchange was a platform managed by the issuers of ONE COIN themselves. This, according to the Court, makes it impossible to establish the economic value of ONE COIN, apart from the value unilaterally determined by the issuer itself (the sworn expert report did not provide any other criteria for determining the value of the contributed cryptocurrency). Additionally, the Court found that the ONE COIN cryptocurrency could not be subject to any hypothetical expropriation without the consent and cooperation of the debtor, due to the existence of technological security measures protecting the cryptocurrencies from the activities of third parties without the owner’s consent. In light of all this, the Court ruled that ONE COIN did not meet the requirements for a valid capital contribution in kind.
The decision of the Court of Appeal
The Court of Appeal confirmed the Court’s decision, but with rather a different reasoning. According to the Court of Appeal, indeed, no cryptocurrency can be considered a valid asset for capital contribution. This is because, in the view of the Court of Appeal, cryptocurrencies are neither assets in kind nor money, as required by the Italian Civil Code. On the one hand, cryptocurrencies can be compared to money based on their function, as they are used as a means of exchange to make purchases. On the other hand, unlike fiat currencies, they are not accepted by all. Rather, they are accepted as a means of exchange only in certain markets and, in those markets, they are used to express the value of other goods/services. In light of this, the value of cryptocurrencies cannot be determined by the procedure provided for by the Italian Civil Code for contribution in kind, because such a procedure applies only to goods, services and other utilities. However, according to the Court of Appeal, it is not possible to attribute an exchange value to a product which itself constitutes an element of exchange in trading. This is also because it is currently impossible to assign cryptocurrencies a countervalue in fiat currencies, since there is no stable and easily verifiable exchange system as there is for fiat currencies.
What cryptocurrencies are and the issues they raise
The decisions outlined above show that there is still much uncertainty around cryptocurrencies and their legal qualification in the absence of any proper regulation on this matter.
Under Italian law, the only statutory definition of virtual currencies can be found in the anti-money laundering legislation, which defines virtual currency as “digital representation of value, not issued by a central bank or a public authority, not necessarily linked to a fiat currency, used as a means of exchange for the purchase of goods and services, and transferred, stored and negotiated electronically” (Article 1, Paragraph 2, Point qq of Italian Legislative Decree no. 90 of May 25, 2017, which extended some of the anti-money laundering obligations to providers of services relating to the use of virtual currencies).
A more comprehensive definition is provided by the European Securities and Markets Authority (ESMA), which in its recent “Advice on Initial Coin Offerings and Crypto-Assets” (January 9, 2019) uses the more general wording “crypto-assets” to indicate a multitude of private assets whose ability to function is based on cryptography and distributed ledger technology, i.e. repeated digital copies of data available at multiple locations.
Crypto-assets may have very different characteristics and serve different functions. Based on these features and functions, crypto-assets are commonly classified into three categories:
- investment-type (or security): crypto-assets which have some profit rights attached, such as equities, equity-like instruments or non-equity instruments;
- utility-type: crypto-assets providing some utility or consumption rights, such as the ability to use them to access or buy some of the services/products that the ecosystem in which they are built aims to offer;
- payment-type: crypto-assets used as a means of exchange or payment in return for goods or services that are external to the ecosystem in which they are built. An example of this type of crypto-asset is Bitcoin.
In light of the above, crypto-assets could be qualified as goods, contractual money, financial instruments or financial products — with the respective regulatory implications — depending on the characteristics of the relevant crypto-asset.
Apart from any regulatory implications, the decisions of the Brescia Court and the Court of Appeal highlight the difficulty in legally qualifying assets which could potentially serve more than one function at the same time and, consequently, the difficulty in determining their economic value. This could be an issue in the context of capital contribution, as the main rationale behind corporate capital is to provide a generic guarantee for the debts undertaken by the company in the course of its economic activity. However, according to the Court, the impossibility of establishing specific criteria for determining the economic value of crypto-assets could seriously impair this generic guarantee and could, therefore, make the contribution of cryptocurrencies invalid under Italian law.
Moreover, some further concerns are also raised by the very technology on which crypto-assets rely, blockchain technology, which is a form of distributed ledger technology where details of transactions are held in the ledger as blocks of information. A block of new information is attached to the chain of pre-existing blocks via a computerized process through which transactions are validated. Most existing crypto-assets are based on un-permissioned blockchain, where the validation process is managed by a consensus mechanism rather than by a central entity. In this situation, once the block is validated, it is impossible for anyone to intervene in the blockchain. Therefore, in the event that the company became insolvent, it would be difficult (if not impossible) for creditors to succeed in expropriating the crypto-assets which constitute part of the corporate capital.
At the same time, qualifying crypto-assets as goods rather than financial instruments or financial products might have an impact on the applicable regulations and the relevant legal consequences. Crypto-assets may, in fact, differ significantly from each other. For instance, payments in the form of certain crypto-assets (such as Bitcoin) are commonly accepted in transactions by a significant number of online shops, while others may be more similar to stocks, as they also confer certain rights upon the owner (such as profit rights). In addition, crypto-assets are often traded or exchanged for fiat currencies or other crypto-assets on specialized trading platforms so that investors may decide to purchase crypto-assets based on the possibility of their value increasing in the future. In this context, crypto-assets would be no different from other goods that are commonly accepted as valid capital contributions. In other words, there could be grounds to assert that, if a crypto-asset meets certain requirements, it could theoretically be used as a legally valid capital contribution. Based on this assumption, the courts should make assessments on a case-by-case basis, depending on the type of crypto-asset, to determine whether it is an asset or a currency that can be contributed to a company’s corporate capital.