Insolvency in cryptocurrency means when a crypto individual or company can no longer meet its financial obligations to lenders.
As part of informal arrangements with creditors, an insolvent company or individual may set up alternative payment arrangements before filing for bankruptcy.
Insolvency can arise from hacks, poor cash management, a reduction in cash inflow, or an increase in expenses.
Insolvency affects a large number of individuals and businesses mainly in a crypto winter than in a bull market. However, it is much more common for businesses to become insolvent than individuals.
Some Cases of Insolvency in Cryptocurrency
Mt. Gox Insolvency due to Hack
A suspension of trading and the closure of the website and exchange service of Mt. Gox took effect in February 2014. As a result, it filed for bankruptcy protection in the United States, Japan, and elsewhere. Bitcoin transactions handled by Mt. Gox reached 70% in 2013 at its peak.
It was reported that hackers gained access to and stole 740,000 bitcoins from Mt. Gox customers. The company itself also lost 100,000 bitcoins. A few months after this hack in 2014, Mt. Gox found 200,000 bitcoins, which its customers hope to recover by 2022.
Celsius and Voyager Insolvency
Celsius and Voyager became insolvent in July 2022 before filing for Bankruptcy. The collapse of Celsius led to a blood bath in the crypto industry wiping away nearly $1 trillion dollar from the market and thousands of investors lost their money.
FTX Insolvency Due to Liquidity Crunch
Recently, FTX, one of the largest cryptocurrency exchanges in the world became insolvent due to a liquidity crisis and filed for bankruptcy in the U.S. FTX was valued at $32 billion before it became insolvent alongside the sister company Alameda Research, which was to act as a liqudiity provider on FTX.
What Happens to Investors When a Crypto Exchange Becomes Insolvent?
Cryptocurrencies are not regulated and do not offer the same protections as those in a bank or brokerage firm. This means that if something goes wrong with your cryptocurrency exchange account, you may have trouble getting your money back.
In 2014, Mt. Gox filed for bankruptcy protection in Japan, leaving its creditors empty-handed after losing millions of dollars worth of bitcoin due to its failure to keep up with demand from customers. As a result of this bankruptcy filing, users are still waiting for their bitcoins to be repaid to date and it's likely that they won't ever be paid back.
In another example of how unregulated crypto assets can go wrong, Celsius, a cryptocurrency exchange based in Canada, filed for Chapter 11 protection in early 2019 owing around $4.7 billion to its customers. Investors will likely have to wait until the full bankruptcy process is complete before receiving remuneration from their investment funds — and usually, bankruptcy lasts years.
There are no regulations governing crypto assets or exchanges themselves — meaning that if something goes wrong at an exchange (or even if it collapses), there's no guarantee that investors would be able to get their money back if they froze someone's account or were hit by fraud or identity theft.
Conclusion
Insolvency affects both crypto individuals and companies; however, it is much more common for businesses to become insolvent than individuals.
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