Crypto Firm Settles $4.5 Billion in Legal Trouble after $40 Billion Fraud Scandal

• The U.S. Securities and Exchange Commission has approved a $4.5 billion settlement with Do Kwon and Terraform Labs.
• Binance previously settled with the U.S. in November for $4.3 billion.
• The recent string of criminal convictions and penalties signifies the resolution of several individuals who contributed to the disruption of the crypto market in 2022.

Nearly a decade before the FTX fraud was exposed and the U.S. settlement with Binance, Do Kwon was widely regarded as crypto's top villain for nearly dismantling the entire sector with his failed U.S. dollar-pegged stablecoin.

In May 2022, Kwon was experiencing great success. His company, Terraform Labs, was known for its popular U.S.-pegged stablecoin, and Kwon had landed a spot on the Forbes 30 under 30 list. Additionally, his coins, terra and luna, were worth tens of billions of dollars, and his venture funding was rolling in.

Kwon, in his final act of confidence before the empire's collapse, named his newborn daughter Luna, after his greatest invention.

And then it all came crashing down.

Unlike most stablecoins, which are backed by a combination of cash and other assets to match the value of tokens in circulation, Kwon's invention was backed by a complex set of code. In May 2022, when the algorithm failed, it resulted in a $40 billion loss in market value overnight, causing devastating losses to multiple investors and contributing to the collapse of hedge fund Three Arrows Capital in June 2022, followed by crypto lenders Voyager Digital, then BlockFi, then Genesis, and, indirectly, FTX.

The implosion of the stablecoin further eroded confidence in the cryptocurrency market and intensified the existing downturn.

Since then, U.S. courts have been addressing the aftermath of the incident by prosecuting wrongdoers and imposing fines on failing companies. This week, a judge approved a settlement between Do Kwon and Terraform Labs and the U.S. Securities and Exchange Commission for $4.5 billion. Following a jury's unanimous verdict, Kwon and his company were found guilty of securities fraud after just two hours of deliberation.

The payment of the fine for Kwon, who is currently in the Balkans or Terraform Labs, which is still in bankruptcy and has only $150 million in assets, is uncertain. However, this serves as a recent instance of crypto's bad actors making amends for their past wrongdoings.

In November, Binance's founder and ex-CEO was sentenced to four months in prison after settling with various government agencies for $4.3 billion. A few weeks earlier, in March, the FTX founder and ex-CEO was sentenced to 25 years in prison. Later this year, in September, Celsius CEO Alex Mashinsky will begin his jury trial.

As the digital asset market matures and gains the backing of Wall Street's top brass, the washout of crypto's previous class of tycoons becomes apparent.

Bitcoin has reached a new all-time-high of over $73,000 in March, while traditional finance giants such as BlackRock and Fidelity have recently entered the crypto market by issuing billions of dollars worth of spot bitcoin exchange-traded funds in the U.S.

The individuals responsible for almost causing a catastrophe in the crypto industry are currently being tracked down, with some still evading capture.

Terraform Labs' Do Kwon

Currently, Kwon is residing in a state of limbo in the Balkans, both legally and socially.

The 32-year-old fugitive, Do Kwon, has been hiding in Montenegro for over a year after leaving Singapore for various destinations, including Dubai, Serbia, and Montenegro. He is currently on bail but is restricted to the Balkan state until the country's Supreme Court determines whether to extradite him to South Korea to face trial or to the United States, where he has been tried in absentia and found guilty on civil charges.

The criminal repercussions for Kwon will depend on the Montenegrins' decision.

South Korea's prosecutors are determined to bring justice to the victims of crypto criminals, including Kwon, who could potentially face the longest jail term for a financial crime in the country's history, which could exceed 40 years.

The fall of terraUSD (UST) and its sister token luna in May 2022 marked the beginning of the crime.

Kwon was skilled at persuading others to purchase his ideas, particularly his proposal for a revolutionary payment system that would disrupt the current financial system and replace all currencies worldwide.

In 2021, luna experienced a 15,800% increase in value while functioning as a sister token to TerraUSD (UST), a U.S. dollar-pegged stablecoin intended to replace global fiat transactions. UST's peg was maintained by luna, and investors profited from the appreciation of luna. Additionally, traders were able to arbitrage the system and profit from price deviations between the two tokens.

Since at least 2015, algorithmic stablecoins have been in existence, utilizing a complex set of code instead of hard currency reserves to maintain their price stability. The concept of staking crypto to generate an unrealistically high return became increasingly popular concurrently with the growth of decentralized finance, or DeFi.

Kwon was skilled in marketing, adopting the image of a modern-day Satoshi Nakamoto combined with Elon Musk's social media presence.

Kwon raised $207 million for Terraform Labs, which launched luna and UST, and an aggressive online posture, in which he shunned luna skeptics on Twitter, drawing in the masses. He inspired an almost cult-like following of self-identifying LUNAtics, including billionaire investor Mike Novogratz, who went so far as to memorialize his membership in this club with a tattoo on his arm.

The success of Terra's Anchor platform, which helped UST gain recognition with a 20% return, could have raised concerns among investors. Despite government bonds paying only 2% and savings accounts offering less than 1%, investors still invested heavily in luna and UST, resulting in a combined market value of almost $40 billion at one point.

The massive failure of both tokens caused their value to plummet overnight, rendering them virtually worthless. This catastrophic event led to a significant drop in the entire crypto asset class, wiping out half a trillion dollars from the sector's market cap. Additionally, it eroded investor confidence in the entire space.

Kwon's second attempt at launching an algorithmic stablecoin was reportedly unsuccessful, despite his first effort resulting in losses of tens of millions of dollars instead of tens of billions.

Gary Gensler, SEC Chair, reaffirmed in a press release that the economic realities of a product, rather than the labels, spin, or hype, determine whether it is a security under the securities laws.

"The fraudulent activities of Terraform and Do Kwon resulted in devastating losses for investors, wiping out entire life savings in some cases. Their failure to comply with the law has caused harm to investors. Despite our efforts to investigate, Terraform and Kwon fought against investigative subpoenas all the way to the Supreme Court. However, with this settlement, the victims of their massive fraud will now receive some justice."

FTX's Sam Bankman-Fried

In March, Sam Bankman-Fried, the founder of FTX, was sentenced to 25 years in prison for the fraud and conspiracy that led to the collapse of his cryptocurrency exchange and hedge fund, Alameda Research.

The sentence for Bankman-Fried in Manhattan federal court was less than the 40 to 50 years requested by federal prosecutors but more than the five to six-and-a-half years suggested by his attorneys.

Judge Lewis Kaplan warned that the 32-year-old man may commit a serious crime in the future before imposing a sentence and ordering him to pay $11 billion in forfeiture to the U.S. government.

Kaplan stated that it's not a minor risk.

Bankman-Fried has never expressed remorse for committing terrible crimes, according to Kaplan.

In 30 years on the federal bench, the judge had never witnessed a trial testimony like Bankman-Fried's.

Kaplan stated that if Bankman-Fried was not lying during cross-examination, he was evasive.

The judge stated that Mr. Bankman-Fried's name is currently viewed negatively worldwide.

In November, jurors at trial rejected Bankman-Fried's account of the events, resulting in his conviction on seven criminal charges and his responsibility for the $10 billion loss of customer funds due to the securities fraud conspiracy.

Alameda Research took out loans to fund Bankman-Fried's political donations and personal use, and he led a conspiracy to loot customer money for these purposes, prosecutors said.

Bankman-Fried plans to appeal his conviction and sentence.

Ryan Salame, a former high-ranking officer of FTX founder Sam Bankman-Fried, has been given a 90-month sentence, which is equivalent to seven and a half years, and will be followed by three years of supervised release.

Three individuals who gave testimony against Bankman-Fried at trial are now awaiting their own sentencing following guilty pleas to criminal charges related to FTX and Alameda Research.

The individuals mentioned are Caroline Ellison, the CEO of Alameda Research, who at one time had a romantic relationship with Bankman-Fried; Nishad Singh, the engineering chief of FTX; and Gary Wang, the co-founder and CTO of FTX.

In May, FTX's bankruptcy estate announced that almost all customers would receive their money back, plus more. The collapsed exchange stated that it has between $14.5 billion and $16.3 billion to distribute to creditors. Additionally, FTX users whose claims were $50,000 or less would receive approximately 118% of the amount of their allowed claim, according to the proposed reorganization plan.

Binance's Changpeng Zhao

Changpeng Zhao, the billionaire founder of Binance, has been transferred to a low-security federal prison in Lompoc, California, as per the Bureau of Prisons website.

In April, Zhao was given a four-month prison sentence after admitting to facilitating money laundering at his cryptocurrency exchange.

The former Binance chief was sentenced to less than three years, despite federal prosecutors seeking it for three years. The defense had requested five months of probation, and the sentencing guidelines recommended a prison term of 12 to 18 months.

Before receiving his sentence, Zhao apologized to U.S. District Judge Richard Jones, as reported by Reuters.

"According to court records, Zhao stated that the initial step in accepting accountability is to acknowledge one's errors. Specifically, I neglected to establish a sufficient anti-money laundering system. Now, I understand the gravity of that oversight."

In November, Zhao, commonly known as "CZ," reached an agreement with the U.S. government to resolve a long-standing investigation into Binance, the world's largest cryptocurrency exchange. As part of the settlement, Zhao relinquished his position as CEO of the company.

Despite no longer being the CEO of the company, Zhao is said to have a reported 90% stake in Binance.

The alleged crimes of the individual encompassed not implementing an effective anti-money laundering program as mandated by the Bank Secrecy Act and permitting Binance to handle transactions involving funds derived from illegal activities, including those between Americans and individuals residing in sanctioned countries.

The SEC did not participate in the joint effort by the DOJ, CFTC, and Treasury against Binance and its founder, who agreed to pay a $50 million fine.

Fallen crypto tycoons awaiting judgement

The collapse of Kwon's stablecoin project led to the fall of crypto hedge fund Three Arrows Capital and lenders Voyager Digital and Celsius.

The flood of margin calls from 3AC's lenders led to a shortage of cash, and many of the firm's counterparties were unable to meet demands from their investors, including retail holders who had been promised annual returns of 20%.

In January, Celsius emerged from bankruptcy, while the other three companies are still in the process of settling their debts.

The former CEO of Celsius, Mashinsky, will face a criminal trial in the U.S. later this year, while Kyle Davies, the co-founder of 3AC, has not expressed regret for the collapse of his fund and has thus far evaded jail time by traveling around the world, unlike Su Zhu, who served time in a Singaporean prison.