10 09 / 18


Kliment Rusakomsky  Forbes Contributor

The instances of fraud in ICO market are spreading both on national and international level. Is there any chance to reveal fraud or at least to return the money already invested in an empty shell project?

All around the globe there is an expending tendency to invest into the ICO-projects. Investors purchase by means of cryptocurrency tokens, which are publicly offered. In accordance with the data of Russian Association of Cryptocurrency and Blockchain (RACaB), Russian projects account for 10 % of the global ICO market. In 2017 the share of funds raised by the Russian projects exceeded $310 million. In experts ‘estimation, more than 250 000 of Russian citizens are engaged in a process of mining. The number of “miners” has increased by 45 % just in the second half of the year. It should be stressed that this number is true if we disregard the crypto investors.

Identified area has not received proper attention from Russian legislator so far. In fact, there are no specific laws regulating this sphere. The first draft of federal law on digital financial assets was submitted to the State Duma only on March 20 by a group of Russian deputies headed by Anatoly Aksakov, Chairman of the State Duma Committee on Financial Markets. In particular, this bill recognizes both cryptocurrency and token as property. However, the bill does not recognize digital financial assets as legitimate means of payment on the territory of the Russian Federation.

The bill allows transactions for the exchange of tokens to Russian rubles or foreign currency. In order to protect non-qualified investors the bill entitles the Central Bank of the Russian Federation to impose limitations on the total sum of tokens. In accordance with the bill, Russian citizens without investment expertise have a right to purchase only a certain sum of tokens identified by CBR.

In the end of March, another draft law was submitted to the State Duma (the authors of draft law are the Chairman of State Duma, Vyacheslav Volodin, and the leader of the parliamentary Legislation Committee, Pavel Krasheninnikov). The proposed draft law regulates the relations and status of tokens and cryptocurrency owners within the scope of Russian Civil Code. This document introduces definitions of “digital law” and “digital money” to replace the concepts of “tokens” and “crypto currency”. Simultaneously this draft law recognizes digital assets as property, thus, it recognizes transactions with digital assets including sale and purchase agreements, inheritance and deeds of gift.

However, none of the draft laws made it at least to the second reading of the bill. Therefore, those who have already invested in digital assets or are just planning to do so should note that current legislation provides for very limited protection of their interests. Undoubtedly, the issue of protection of rights and interests of crypto investors will become extremely topical in the nearest future.

It is a typical situation that a brand new market and absence of any specialized legal framework attracts many swindlers all around the world.

U.S. Securities and Exchange Commission (SEC) has initiated dozens of investigations against companies that had raised funds by the tokens sales. It is highly remarkable that the first ICO fraud case was filed against the businessperson with Russian origins, namely against Maxim Zaslavsky. He offered investors non-existent tokens and cryptocurrency and promised them that they will receive considerable return on diamonds and real estate investments. Subsequently it was revealed that his companies did not perform any activities at all. The examples of fraud are spreading over!

How to spot a fraud?

In this regard, I invite you to consider one particular case. Crypto investor from Moscow accused the organizers of project on cultivation of all organic bananas in Republic of Laos of fraud. He had invested in this project during ICO.  

Marketing data was undoubtedly indicating that the money was raised for the extension of active plantation in Republic of Laos (not only photos of the plantation were provided but its exact coordinates as well). The project team had a considerable experience in agrobusiness. Subsequently, the investigation revealed that the photos and the business plan used in arrangements for the ICO project belong to Laos’s agrocompany and are irrelevant to the project. Interesting fact is that the founder of “bananas” start-up is a minority shareholder of the hereinabove Laos’s agrocompany. However, other shareholders of the company were unaware of this start-up project until the start of its aggressive advertisement in the Internet in September 2017. Information that agrocompany is not an organizer of public offering of tokens and is not responsible to buyers of the tokens was released on the website of the project only in November by request of other shareholders of the company. However, not all potential investors are reading fine print in the very bottom of web pages.

The first advice for potential investor in the field of ICO would be to review all the data carefully. Do not be lazy! To protect yourself from the crooks you should at least find and review the personal profiles of the project team members in social hubs. If the links to personal profiles of project’s members are absent in respective sections of the website, it raises serious doubts about the project’s credibility for the following reason. Absence of this information means that investor does not have an option to check out any fact about the team members and to ask them about their participation in the project. In addition, do not forget about other public sources of information where you can assess the information regarding organizers of ICO e.g. website of Russian Federal Bailiffs Service. If you reveal that organizer of the project has serious indebtedness, this is the sort of information worth consideration.

Go through the business plan with extreme thoroughness. Apparently, in Laos start up case the idea of cultivation of all organic bananas for export to China was that attractive for investors sitting in their offices in winter or autumn that they could believe in it. Meanwhile, any expert would consider this project rather more sceptically – e.g. in expenditure part of the business plan costs of fertilizer, costs of electricity, labor costs required for indicated squares were not even considered. We can only guess to which extent the income part of business plan was overestimated. Apparently, organizers did not pay too much attention to this “weaknesses” of the plan during the ICO.

In November 2017, Laos’s agrocompany was obliged to halt its industrial activities due to minority shareholders activities directed at advertisement of ICO project. The corporate conflict is now in height – at the very moment start-uppers are trying to assign to themselves or front men the land, which was received for a long-term lease by the Laos’s agrocompany. Other shareholders regard this fact as an attempt of a hostile takeover. Probably potential investor could not have known about corporate conflict issues, nevertheless, he/she could have checked all the names, addresses and names from whitepapers in public sources.

When an investor in our Laos ICO project realized that there are no assets under the colorful pictures of bananas and he was cheated, the investor filed a claim to Department of Economic Security and Combating the Corruption of Directorate of the Ministry of Internal Affairs for the North-West Administrative district Main Directorate of the Ministry of Internal Affairs in Moscow. This was the first application for the initiation of criminal proceedings submitted against ICO organizers in Russia.

Is there any possibility to protect yourself from the fraudulent actions?

What should an investor do considering the current legislation framework if he has already invested funds into fraudulent project? First, analyze the agreement (terms and conditions, whitepapers), website of the company and any other relevant information.

Second, you should identify the person that can be sued if things go wrong. This person can be an organizer of ICO or any other person that is linked somehow to organization of the project. Russian procedural legislation requires identification of respondent in a statement of claim, otherwise, the court provisionally defers acceptance of the claim (pp.3 p.2 Art. 125, p.1 Art.128 of Arbitration Procedural Code of Russian Federation and pp.3 p.2 Art.131 и p.1.Art.136 of Civil Procedure Code of Russian Federation). Third, court practice worldwide demonstrates that collective claim is a rather more perspective procedural instrument. In other terms, parties adversely affected by the fraud should unite and file the collective claim to successfully protect their rights.

The initiation of a criminal case against the natural persons involved in fraud is possible under the following articles of Criminal Code of Russian Federation: fraud (Art. 159-159.6); illegal entrepreneurship (Art. 171); organization of activity dealing with eliciting of funds or other property (Art. 172.2.); legalization (laundering) of money or other assets acquired through criminal activity (Art. 174).

If the aggravated party is willing to defend its right in civil proceedings, it should file a claim to court with a request to declare the certain transaction invalid as executed under the substantive mistake (Art. 178 of Russian Civil Code). In our bananas ICO case, there is a chance to prove it for the following reasons. If the investor had known about the real state of affairs, he would have never ever purchased this tokens. Simultaneously, investor’s misconception is an apparent consequence of tokens’ issuer actions.

The validity of this investments related transaction could be challenged under Article 179 of Russian Civil Code as well. In accordance with this article, the transaction is held void if a party has been induced to conclude a transaction by the fraudulent conduct of another party. The topic of crypto industry is brand new for the law enforcement agencies. The law enforcement practice is absent as well. Therefore, for the hereinabove reasons investors and bona fide businesspersons need legislative regulations in this sphere as more definite are rules the lesser number of crooks.