Cryptocurrency ICOs: It's impossible to police what you can't see

UK regulators are drafting laws to control ICOs but a legal expert has cast doubt on how they can be enforced.

Initial Coin Offerings (ICOs), commonly connected to cryptocurrency including Bitcoin (BTC) and Ethereum (ETH), are events which investors worldwide have clamored to capitalize on.

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These events, also known as token sales, ask for investment in cryptocurrency in return for company tokens rather than shares, as which are the case with traditional company Initial Public Offerings (IPOs).

Funds generated from ICOs may allow legitimate startups, as well as established firms, gather enough resources to launch cryptocurrency and Blockchain-related projects, but in recent times, ICOs have passed from speculation, in some cases, to the farcical.

ICOs have paved the way for so-called "exit scams," in which fake companies launch an ICO and make off with investor proceeds. BitConnect is one of the latest companies which wound up its exchange operations, crashing the price of its BitConnect Coin (BCC) in the process.

Investors were promised converted funds in BCC, but as their original investment had to be made in ETH, they have suffered countless losses as BCC's value crashed and burned, leading many to believe the whole system was a scam -- and one, unfortunately, which has cost its investors millions of dollars.

Confido generated roughly $300,000 from an ICO before vanishing, and another startup called Prodeum -- which claimed to be in the midst of developing a vegetable supply chain-based Blockchain solution -- disappeared after making a grand total of $11 from investors through an ICO, leaving nothing more than the word "Penis" on the firm's website.

The Prodeum example may raise eyebrows and a smirk, but when thousands of dollars are stolen through an ICO from innocent investors, it is not a laughing matter.

ICOs are a risk -- especially with cybercriminals constantly targeting the events -- and while legitimate events can be beneficial, there is a lack of control and regulation across the board.

According to Ernst & Young, over 10 percent of all funds changing hands during ICOs have been lost or stolen, and cyberattackers have managed to steal almost $400 million from ICOs since 2015.

While the Australian Securities and Investments Commission (ASIC) has published legal guidance on conducting or investing in ICOs, few countries have been so quick off the mark.

In the US, some Ethereum trading and ICOs may be bound by securities law, and in the UK, nothing is set in stone.

In 2017, the UK Financial Conduct Authority (FCA) issued a warning to consumers that ICOs are "very high-risk, speculative investments," and that "many ICOs will fall outside the regulated space." In other words, you are risking your money and there likely will be no protection should things go awry.

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Speaking to ZDNet, Arianne King, managing partner and Solicitor Advocate of London-based legal firm Al Bawardi Critchlow said that the issue has emerged through a lack of UK law which binds the hands of the FCA in relation to ICOs and cryptocurrency trading.

"As it stands, there is no specific legislation covering the cryptocurrency market and, until such laws are passed, the Financial Conduct Authority (FCA) won't have any specialized powers by which to regulate ICOs, coin operators or protect investors," King said.

However, as some ICOs may have parallel structures and systems with IPOs, each claim would have to be made on a case-by-case basis.

The UK government has said that laws regulating ICOs will be reaching the table "soon," but according to King, the rapid and complex cryptocurrency market means that "regulatory lag" is probable.

"Even if specific laws are passed, and the FCA is afforded greater regulatory powers, it's still unclear how they will be enforced," King commented. "The Blockchain technology that underpins cryptocurrencies is, of course, encrypted and anonymized, and these chains don't recognize national borders."

"It's hard to police what you can't even see," King added.

Borders, or lack thereof, pose a huge problem. In the case of investors losing their funds to theft, ICO exit scams, and cyberattacks, it is already highly unlikely that funds traded outside of the UK would be protected through the UK's financial watchdogs and protectors, such as the Financial Services Compensation Scheme or the Financial Ombudsman Service -- and so investors must instead attempt to claw back their lost funds through civil courts.

When an ICO takes place overseas, protection is non-existent.

King commented:

"Many scam ICOs are set up by shell companies, which makes it harder to track down who to sue, and elongates the whole process.

Where fraud is alleged, it may be possible to sue those behind any company personally. However, the evidentiary burden will often be much higher and any such claim harder to establish."

In theory, for example, if an ICO is compromised by attackers or funds are stolen from a wallet, an investor could sue. However, it depends where the ICO was registered, in what country, whether or not the company conducting the ICO was legitimate, and whether or not the ICO operators can be unmasked.

All of this together is a nightmare not only for regulators and courts but duped investors themselves.

Even if those behind a scam ICO are in the UK, tracked down, and a claim for negligence or breach of contract -- depending on the terms of the contract -- is accepted by lawyers, there is also the problem of whether or not a claim would ever be paid.

See also: The risky business of bitcoin: High-profile cryptocurrency catastrophes of 2017

Investor cryptocurrency funds can be whisked away to multiple wallets and potentially "washed" through Dark Web services to become extremely difficult to track, and without cold, hard currency in a scammer's bank account, little can be done.

"With or without specific regulation, it is critical that investors do their due diligence before participating in the market," King says. "Some investors may feel more reassured if they opt for coins backed by operators that have chosen to float on regulated stock exchanges, have invested time and money and establishing a credible reputation (particularly by reference to those on the board) and have long-term plans for the use of Blockchain technology."

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