On July 9, the Appellate Division of the Supreme Court of New York, First Department issued a significant decision in James v. iFinex that confirmed the broad authority of the New York State Attorney General (NYAG) to investigate potential fraud. The decision is notable because it is the first appellate decision to apply the Martin Act’s expansive powers to an NYAG investigation of foreign entities in the cryptocurrency industry.
Why it matters: The NYAG now may be emboldened to use this authority to more actively police the industry by seeking asset freezes and other preliminary injunctive relief against potential bad actors outside of the state.
Regarding the James v. iFinex case, the NYAG was investigating whether respondents BFXNA Inc., BFXWW Inc., iFinex Inc. (collectively iFinex), Tether Holdings Limited, Tether Limited, Tether Operations Limited and Tether International Limited (collectively Tether Holdings) made untrue claims about their virtual currency, tether. Up until around March 4, 2019, tether was “backed by one U.S. dollar, and any holder of tether may redeem it for one U.S. dollar at any time.” Afterwards, Tether Holdings “changed its representation on its website to state that, while every tether is still valued at one U.S. dollar, tether is backed by Tether Holding’s ‘reserves,’ which include unspecified currency, ‘cash equivalents,’ and ‘other assets and receivables from loans made by Tether Holdings to third parties,’ including to affiliated entities.”
The NYAG saw issue in that each respondent is:
- Incorporated outside of the United States
- Neither headquartered nor registered for service of process in New York
- Majority owned by nonparty Digfinex Inc.
- Operated by a small group of executives and employees, some of whom are or have been located in New York
The NYAG then initiated the investigation in November 2018 due to a “concern that respondents lacked sufficient liquidity to permit customers to redeem tether at the represented value.” During the investigation, the NYAG learned that a third-party foreign entity, which processed customer deposits and withdrawals for iFinex, had refused to provide iFinex with nearly “$1 billion of their commingled client and corporate funds;” Tether Holdings had transferred $625 million to iFinex; and iFinex took a $900 million line of credit from Tether Holdings (despite the NYAG’s expressed concerns).
Based on these findings, the NYAG sought and obtained an ex parte order pursuant to the Martin Act on April 24, 2019, compelling respondents to produce certain documents and staying them from (i) making any claims on the U.S. dollar reserve held by Tether Holdings, (ii) making any payments to any individual associated with respondents from the Tether Holdings reserve, and (iii) altering or destroying any documents related to the investigation. While the motion court granted respondents’ motion to modify the ex parte, is rejected their attempt to vacate it and, later, move to have it dismissed. On appeal, the Appellate Division of the Supreme Court of New York, First Department rejected respondents’ arguments and affirmed the motion court’s order.
Among its reasonings: From the outset, the First Department recognized the NYAG’s broad powers under the Martin Act to seek an ex parte order pursuant to General Business Law § 354 compelling documentary and testimonial evidence and enjoining respondents as appropriate. Upon the NYAG making an application for the order, it is “the duty of the justice of the supreme court to whom such application for the order is made to grant such application,” it said. The First Department also found that tether is a commodity under the Martin Act and that the respondents had sufficient minimum contacts with New York for the purpose of a Martin Act investigation.
Regardless of how the investigation concludes, this decision demonstrates the broad range of activity and persons that are subject to the NYAG’s investigative powers pursuant to the Martin Act.