Judicial Disposal of Virtual Money in China: Exploring Compliance Paths for Disposal

Recently, an article from Reuters has drawn the attention of lawyers in the crypto world and some scholars to the judicial disposition of virtual money. As one of the early web3 criminal lawyers concerned with judicial disposition, Lawyer Liu (web3_lawyer) has had in-depth discussions with some disposal companies and public security organs on how to legally and compliantly handle the virtual money involved in cases. Based on the current new situation, Lawyer Liu wrote this article to discuss the research on compliant pathways for judicial disposition.

1. The Necessity of Judicial Disposal of Virtual Money

From the perspective of judicial authorities, there are two common ways to handle virtual money involved in cases: first, before the court ruling, law enforcement agencies dispose of the seized virtual money to realize its value; second, after the court ruling takes effect in criminal cases, law enforcement agencies dispose of the virtual money involved. Both disposal modes have corresponding legal bases, which will not be repeated in this article.

Let's focus on why there is the issue of judicial disposal of Virtual Money.

The regulatory policy for virtual money in mainland China was gradually tightening before 2021. On September 15, 2021, ten ministries of our country jointly issued the "Notice on Further Preventing and Handling Risks of Virtual Money Trading and Speculation" (referred to as the "9.24 Notice"), which basically established China's attitude towards virtual money from September 2021 to the present. This includes:

(1) Bitcoin, Ethereum, Tether and other virtual money are not legal tender and should not and cannot be circulated as currency in the market;

(2) It is strictly prohibited for domestic entities to engage in the exchange business of virtual money and fiat currency, coin-to-coin trading, and to provide pricing and information services for virtual money trading;

(3) It is strictly prohibited for foreign virtual money exchanges to provide any services within our country.

Thus, a contradiction has emerged. In criminal cases involving Virtual Money, the property involved is represented by various types of Virtual Money and is also seized as property/evidence involved in the case; for future cases where the property involved needs to be confiscated (such as pyramid scheme crimes, operating illegal casinos, illegal business operations, etc.), based on the aforementioned "9.24 Notification" provisions, the court cannot rule to confiscate the involved Virtual Money for state treasury, and it is necessary to convert the Virtual Money into fiat currency.

However, our country strictly prohibits anyone from engaging in the exchange of Virtual Money and fiat currency, which creates an irreconcilable contradiction between the need to liquidate Virtual Money in judicial activities and the reality that engaging in the exchange of Virtual Money and fiat currency is prohibited in mainland China. This contradiction determines that all compliant Virtual Money judicial disposal activities in China must be conducted overseas.

2. Common Disposal Models at Present

Based on my experience in practice and communication with different disposal companies, I have summarized the following current disposal models:

First, there is a joint disposal model of domestic and foreign. This is currently the most common disposal model, where a domestic disposal company signs a commission contract with judicial authorities/suspects, and then commissions a foreign disposal entity to carry out the substantial disposal. The foreign disposal entity must comply with local laws and regulations, regulatory requirements, and have financial qualifications for virtual money and fiat currency exchange (trading). Then, the foreign entity will remit the fiat currency obtained from the disposal into the account of the domestic disposal company, which will finally convert the disposal proceeds and remit them into the accounts of judicial authorities or special accounts for fiscal non-tax revenue.

The second is to dispose of assets in the free trade zones both domestically and internationally. Currently, some companies in China have registered in free trade zones developed jointly by China and foreign countries, as the trade zones are subject to the laws of both countries, thereby circumventing the disadvantage of not being able to conduct virtual currency transactions in China. The final disposal needs to be carried out through an auction. Judicial authorities with disposal needs must sign a contract with the disposal company and then bring the virtual currency to the company's registered location (i.e., within the trade zone) for the actual auction, where the highest bidder wins. The final disposal company will then transfer the auction proceeds back to China through bank foreign exchange settlement.

The third is to handle it through overseas banks. Another disposal model is to cooperate directly with overseas banks that have the qualification for exchanging Virtual Money and fiat currency. After the bank converts the Virtual Money into fiat currency, it then transfers the fiat currency into the domestic market.

Fourth, the overseas virtual currency issuer shall recover the virtual currency for cash realization and disposal. In 2023, the Shandong Provincial Department of Finance issued a document (Notice on the Work Regulations for the Disposal of Confiscated Items in Shandong Province (Trial), Lu Cai Shui [2023] No. 18), which stipulates that law enforcement agencies can negotiate with the issuer of the virtual currency for the disposal of confiscated virtual currency, and the issuer will recover it, and the recovery price shall not be less than 80% of the value of the virtual currency. For centralized virtual currencies (such as the most common USDT Tether), some disposal companies have the ability to negotiate with Tether to recover the USDT involved in the case, and pay the disposal company no less than 80% of the value of the recovered virtual currency in fiat currency, and then the disposal company will settle the fiat currency into the country.

3. Exploration of Compliance Disposal Models

The judicial disposal of Virtual Money has gone through three stages from 2020 (or even earlier) to the present: Disposal 1.0, Disposal 2.0, and Disposal 3.0. Of course, these three periods are all based on the aforementioned first model as the standard. The aforementioned second, third, and fourth models do not show any obvious signs of iteration.

In the Disposal 1.0 period, it is the domestic disposal company that uses RMB to buy currency directly from the judicial authorities. According to the provisions of the "9.24 Notice", this is essentially an illegal financial activity; During the Disposal 2.0 period, modern disposal companies began to emerge in China, and the real disposal business took place overseas, but it was not necessarily disposed of legally and compliantly outside the country (for example, overseas virtual currency is also prohibited from trading, or virtual currency is sold to overseas individuals, and anti-money laundering and anti-terrorist financing reviews cannot be conducted, etc.), and at the same time, the settlement of foreign exchange of the disposal of realized funds is generally settled in the name of trade in goods, trade in services, under the capital account, etc., which does not conform to the real background of foreign exchange settlement and violates the relevant regulations of the State Administration of Foreign Exchange; In the Disposal 3.0 era, the above-mentioned problems have basically been solved, but some details still need to be optimized, such as how to determine the benchmark price of virtual currency transactions, the absence of legal opinions issued by domestic + overseas law firms, the absence of on-chain transaction addendums for overseas virtual currency transactions, and the monitoring mechanism to prevent the return of virtual currencies involved in the case to China after the fact, etc.

In summary, the current compliance disposal model leans towards a domestic + overseas joint disposal model, while also needing to improve on aspects such as foreign exchange compliance, overseas trading compliance, legal compliance, and blockchain technology compliance. Regarding the details, Lawyer Liu will discuss them in future articles or videos.

Four, written at the end

At present, it is difficult for the judicial disposal business of virtual currency to be uniformly disposed of by a certain department or agency of the state, as some people predict or expect, because behind this is a huge problem of financial and judicial ownership. Even at present, cases in the prefecture and city do not have to be reported to the provincial department, or even if the provincial department or ministry knows, it is difficult to directly reach out and take away the local case. What we can do is to serve our clients well and ensure that every disposal business must be legally compliant, safe and efficient, and there are no sequelae.