Losses from Virtual Currency Mining: Beware of Alleged Fraud
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Although regulatory authorities in mainland China have further tightened oversight of virtual currency investment and mining activities since the issuance of the “September 24 Notice” (Notice on Further Preventing and Disposing of Risks Associated with Virtual Currency Trading and Speculation) and the Notice on Rectifying Virtual Currency “Mining” Activities in 2021, it is undeniable that a substantial number of active investors in mainland China continue to engage in virtual currency mining and related investment activities. Some institutions predict that approximately 20% of Bitcoin mining hash rate remains located in China (the accuracy of this figure is uncertain and provided for reference only). (Further reading: “2023 In-Depth Report on Bitcoin Mining: Halving Approaches—Miners’ Survival and Preparedness》
This helps explain why, despite stringent regulation in mainland China, there continues to be a steady stream of civil and commercial disputes involving virtual currencies, as well as criminal cases. One representative category of cases involves fundraising for investments in virtual currency mining; the key legal question is how such arrangements should be characterized after losses are incurred.
In our practice, we have encountered numerous similar inquiries. In some instances, clients have become subjects of criminal investigations initiated by public security organs; in others, alleged “victims” have filed criminal complaints. These experiences prompted this article: Does the organizer of a fundraising scheme for virtual currency mining incur criminal liability when losses occur?
Before reaching a conclusion, we must clarify the following three issues.：
Assessment of the Legality of Fundraising
Fundraising in the virtual currency investment sector is predominantly conducted through private placements. Therefore, before assessing the legal nature of virtual currency investments and the consequences of investment losses, Attorney Liu advises readers first to evaluate the legality of the private placement.
The legality of a private placement should be assessed based on four criteria:
(I) Assessment of Legality
For private placements, legality is primarily determined in accordance with the China Securities Regulatory Commission’s Interim Measures for the Supervision and Administration of Private Investment Funds (hereinafter referred to as the “Measures”). As long as the arrangement complies with the Measures, there are, of course, no legal impediments to its legality.
However, in practice, fundraising activities more commonly arise among friends and relatives based on relationships of trust,featuring atypical legal appearancesin their fundraising conduct(i.e., conduct for which there are no clear and direct statutory provisions, and which is not common in practice),. To determine whether such diverse and varied fundraising activities are lawful, the core element is to assess whether the fundraising conduct clearly violates national laws and regulations, as well as the expressly prohibited fund-absorption behaviors stipulated in the legal framework governing financing administration. Provided that such provisions are not violated, the conduct generally falls within the realm of freedom where what is not prohibited by law is permitted.
In addition to meeting the requirements of legality, several other factors must be considered:
(II) Whether the fundraising is conducted publicly
China currently imposes relatively high standards and conditions for public fundraising. By contrast, the thresholds for private placements are not high; however, as a private placement, it must not be conducted publicly. If conducted publicly, it may, at a minimum, result in administrative penalties for violation of the State Council’s Regulations on Preventing and Disposing of Illegal Fundraising, and, at a maximum, may constitute crimes related to illegal fundraising. Common methods of public promotion include dissemination through media, the internet, promotional meetings, flyers, and mobile text messages. Furthermore, even if deceptive or false advertising is not employed in such public promotion, the conduct may still be deemed illegal fundraising.
(III) Whether there are promises of principal protection and guaranteed returns
Lawful and compliant private placements are prohibited from promising principal protection and guaranteed returns. However, for the aforementioned “atypical legal appearance” fundraising activities resembling private placements, or even “loan-investment” arrangements among friends and relatives, a promise by one party to repay principal and interest does not necessarily violate mandatory provisions of law. To completely isolate legal risks, Attorney Liu advises that, whether in the context of private placements or fundraising activities bearing the appearance of a private placement, fundraisers must not make any promises of principal protection or guaranteed returns.
(IV) Whether the fundraising targets are specific
It should be noted that it is imperativenot toconduct public fundraising from the general public. In other words, the targets of fundraising must be specific and limited to a finite number of specified individuals, such as among relatives, friends, colleagues, or other lawful organizations, institutions, or specified persons.
Can the funds raised be invested in virtual currency mining?
After addressing the legality of the fundraising, whether the raised funds can be invested in virtual currency mining depends on two scenarios:
The first scenario involves mining investments made before September 3, 2021, which are generally considered valid; the second scenario involves mining investments made after September 3, 2021, which are generally considered invalid.
In other words, prior to September 3, 2021, investing in virtual currency mining operations was an investment activity not explicitly prohibited by the state. In such cases, even if losses occur, liability of the initiators should be determined based on agreements such as the Investment Agreement or Partnership Agreement. If, according to the investment terms, the losses constitute purely market risk and the initiators have provided adequate risk disclosures, it is unlikely that judicial authorities will pursue criminal liability against the initiators.
If the investment activities occurred after September 3, 2021, because relevant national authorities issued the Notice on Rectifying Virtual Currency "Mining" Activities on that date, courts in practice generally hold that contracts for investing in virtual currency mining are void due to violation of mandatory national regulations. The legal consequences of a void contract are as follows: performance shall be terminated for unperformed obligations; for performed obligations, depending on the performance status and nature of the contract, the parties may request restoration to the original state or take other remedial measures, and have the right to claim compensation for losses (based on the 2023 Minutes of the National Courts' Financial Trial Work Conference (Draft)).
After incurring losses from mining investments, do the fundraising initiators constitute the crime of fraud?
If investments in virtual currency mining result in losses, can ordinary investors report the case to public security organs as victims? If accepted by public security, will the case be filed for investigation on suspicion of fraud?
Attorney Liu believes that for investments in virtual currency mining activities prior to September 3, 2021,even if losses occur, disputes should generally be resolved through civil legal channels for investors.Of course, if the promoter uses investment in virtual currency mining as a pretext to defraud others of their property, and there is in fact no genuine investment activity, there is indeed a possibility that the crime of fraud may be constituted. For virtual currency mining investment activities conducted after September 3, 2021, if investors incur losses, given the limited efficacy of civil remedies, it cannot be ruled out that those seeking redress will tend to pursue criminal complaints. Furthermore, since national regulators explicitly prohibited virtual currency mining after September 3, 2021, fundraising activities by promoters of such mining investments thereafter carry significant legal risk and are more likely to attract the attention of public security organs, thereby exposing promoters to the risk of criminal complaints and even criminal enforcement actions beyond ordinary commercial risks.
From the perspective of defense counsel, whether a fundraising promoter constitutes the crime of fraud or other crimes shall be determined strictly in accordance with legal provisions.
Taking the crime of fraud as an example, it is necessary to assess at minimum whether the investment promoter had the subjective intent of illegal possession; whether there were objective acts of fabricating facts or concealing the truth; and whether the victims fell into mistaken belief and disposed of their property based on such mistaken belief, ultimately suffering property loss. Only when the above conditions are strictly satisfied may the investment promoter be deemed to have committed the crime of fraud. Apart from this, even if disputes arise, they should be handled as civil and commercial disputes.
However, in practice, the investigative approach of public security organs does not strictly follow the defense strategy advocated by lawyers; indeed, it may be quite the opposite. It is undeniable that many public security organs still exhibit a pronounced presumption of guilt in their current case-handling processes. Once a criminal case is filed, the likelihood that public security organs will accept the suspect’s exculpatory statements during investigation is low. If the suspect has objective evidence to prove their innocence, that is favorable; however, if the suspect cannot produce compelling evidence to demonstrate the absence of intent to “defraud,” then, in the view of the public security organs, no matter how logically consistent the suspect’s defenses may be, they will be regarded as unpersuasive. Most suspects ultimately yield under the “intense pressure” exerted by public security organs.
Recommendations from Mankun Lawyers
Even in present-day China, technologies such as blockchain and Web3 remain encouraged and supported by the state for development. Tokens are a crucial component of blockchain technology, virtual currencies are the most common form of tokens, and mining is an indispensable link in the generation of virtual currencies. Therefore, although mainland China imposes strict regulatory controls and prohibitions on virtual currencies, mining activities are difficult to eradicate entirely, which inevitably involves mining-related investments. Under the current circumstance where national regulators prohibit virtual currency mining, while such investments are not protected by law, as long as the promoter lacks the intent and conduct constituting fraud, the crime of fraud should not be deemed to have been committed.
As for the desire of the so-called “victims” to seek redress through criminal means, even if their position is beyond reproach, the rash intervention by public security organs in cases that clearly do not constitute crimes raises suspicions of “using criminal measures to interfere in civil disputes.” For public security organs, such conduct may range from regulatory violations, to illegality, and in serious cases, to crimes of dereliction of duty. Therefore, even within the legal framework, we must uphold the principle of “render unto God what is God’s, and unto Caesar what is Caesar’s,” ensuring that civil matters remain civil and criminal matters remain criminal.
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