Terraform Labs & Do Kwon’s $4.47B SEC Settlement Sparks Criticism, Higher than CZ’s $4.32B Penalty: Will Victims See Relief?

The downfall of Terraform Labs and its founder, Do Kwon, in May 2022, serves as a poignant reminder of the complexities and risks inherent in the cryptocurrency domain.

In a striking turn of events, barely a year after the disintegration of his once-celebrated multi-billion dollar crypto venture, Kwon and an associate were apprehended in Montenegro on charges of possessing forged official documents.

Presently, Kwon is on bail in Montenegro, with his future uncertain as he awaits potential extradition to either the United States (US) or South Korea.

This sequence of events follows his departure from the company he once steered, a firm that was once heralded as a beacon of blockchain innovation.

Terraform Labs Settles Civil Lawsuit with the SEC for $4.47 Billion

In a significant development, Terraform Labs has reached a settlement with the United States (US) Securities and Exchange Commission (SEC), agreeing to a substantial payment of approximately $4.47 billion.

This comprehensive resolution encompasses various financial components, including disgorgement fines amounting to roughly $3.6 billion, a civil penalty of $420 million, and prejudgment interest of nearly $467 million.

The agreement was concluded following a two-week trial where Terraform Labs and Kwon were found culpable for the collapse of the Terra ecosystem, an event that resulted in the erasure of $40 billion in investor assets.

The court filings read:

“From at least April 2018 through May 2022, Terraform and Kwon offered and sold crypto asset securities in unregistered transactions and perpetrated a fraudulent scheme that led to the loss of at least $40 billion of market value, including devastating losses for US retail and institutional investors.”

Under the terms of the settlement, Kwon is personally responsible for a significant portion of these remedies, including $110 million in disgorgement penalties, $80 million in civil penalties, and approximately $14.3 million in prejudgment interest fines.

The settlement filing outlines the immediate and short-term actions required, including the transfer of all crypto assets held by the Luna Foundation Guard and all Pyth Network (PYTH) token holdings from Kwon to offset the disgorgement fines and prejudgment interest, with any surplus from the sale of these assets to be applied towards the civil penalty fines.

The settlement also stipulates that Terraform Labs may treat the amount due as an unsecured claim in its bankruptcy proceedings, ensuring that the SEC receives funds through a distribution upon the effectiveness of Terraform Labs’ Chapter 11 plan, in accordance with distribution priorities.

The SEC is granted the authority to enforce the court’s judgment using all available collection procedures, including civil contempt measures should Kwon fail to comply with the transfer orders within 30 days of the judgment.

The court documents filed Wednesday stated:

“Payment of the monetary remedies against Kwon shall be deemed satisfied, provided that all transfers by Kwon to the SEC and the Terraform bankruptcy estate in the Bankruptcy Case total no less than $204,320,196, excluding the value of any Terraform Crypto Assets transferred to the Terraform bankruptcy estate, only if and until Kwon completes: (1) transferring into an escrow account agreed by Kwon and the Commission staff $4,700,000 within 30 days of Final Judgment.”

Furthermore, the agreement imposes permanent bans on Terraform Labs and Kwon, prohibiting them from engaging in fraudulent activities as outlined in Section 10(b) of the Exchange Act and Section 17(a) of the Securities Act.

It will also bar them from buying and selling crypto asset securities, including all tokens within the Terra ecosystem, with limited exceptions for transactions related to the bankruptcy case.

Kwon is additionally prohibited from serving as an officer or director of any issuer with registered securities or reporting obligations.

In a demonstration of the SEC's commitment to accountability, Kwon has agreed to a personal payment of $204 million, a figure that the agency emphasizes reflects nearly all the relief it sought against Kwon for his misconduct.

The lawyers wrote:

“If approved, the proposed judgment will send an unmistakable deterrent message to not only those who engage in brazen misconduct, but also to all those who seek to evade the requirements of the federal securities laws by crafting new standards of behavior for crypto assets that fall under the purview of the federal securities laws."

This settlement, which aims to serve as a deterrent, was submitted to the court on Wednesday and is awaiting approval by US District Court Judge Jed Rakoff of the Southern District of New York (SDNY).

Both parties have informed the court of their decision to settle, with filings due on 12 June, marking a significant step towards resolving the legal fallout from the Terra ecosystem collapse.

What Will Happen to Do Kwon?

This recent development unfolded within a mere two months after a Manhattan jury rendered a verdict of liability following a nine-day trial.

The SEC had levelled accusations against Terraform Labs and Kwon, claiming they misled investors regarding the stability of their products.

The collapse of the $40 billion ecosystem, which revolved around the algorithmic stablecoin UST and an earlier iteration of LUNA in May 2022, sparked a contagion that rippled through the industry.

Later in the month, the SEC signalled its intention to impose a $5.3 billion penalty to settle the case, marking one of its most substantial fines against a cryptocurrency project.

Terraform countered in court that only an "appropriate civil penalty" per violation should be applied.

During the trial, Terraform Labs’ current CEO Chris Amani disclosed that the company was in bankruptcy proceedings with roughly $150 million in remaining assets.

Kwon's legal team asserted that their client had "no illegal profits ... to disgorge."

Kwon, who remains on bail in Montenegro pending a decision on his extradition to either the US or South Korea to face criminal charges related to Terra's downfall, was notably absent during the trial.

In South Korea, Kwon faces separate allegations of financial crimes, including fraud, bribery, transaction volume manipulation, and violations of capital markets laws.

After serving a four-month sentence, Kwon was released from prison in Montenegro, where the courts have vacillated on the decision to extradite him multiple times.

Legal representatives for the Terraform founder have contested the proceedings, citing improper procedures and filings in the lower courts through various appeals.

Until the extradition issue is resolved, Kwon is anticipated to remain in the region.

According to court documents, both Kwon and Amani, consented to the terms of the settlement on 6 June.

However, the settlement agreement awaits approval by the New York judge presiding over the case before it becomes binding.

This settlement, one of the largest in SEC history, underscores the regulatory body's dedication to enforcing securities laws within the cryptocurrency market.

The judgment, should it be approved by the court, would conclude the legal conflict between the regulator and Terraform.

Terraform Labs' $4.47B Outsize Binance CZ's $4.32B

Similar to Terraform Labs, Binance Exchange recently settled a long-standing probe with the Department of Justice (DOJ).

The platform agreed to pay $4.32 billion to the DOJ, the Financial Crimes Enforcement Network (FinCEN), and the Commodity Futures Trading Commission (CFTC).

This settlement also led to the resignation of founder Changpeng Zhao (CZ), who is now in jail.

If accepted, Terraform Labs' settlement would be the largest in a crypto fraud case to date, surpassing Binance CZ's $4.32 billion settlement with the DOJ in November.

Settlement Funds Not Going to Victims, Spark Public Outcry and Criticisms

Coinbase's Chief Legal Officer, Paul Grewal, has voiced scepticism regarding the SEC's $4.47 billion settlement with Do Kwon and the now-bankrupt Terraform Labs.

Grewal questioned the practicality of the settlement in providing relief to Terraform's victims.

On X, Grewal expressed doubts about the settlement's efficacy, criticising the SEC's approach to the case.

He pointed out that the settlement merely positions the SEC as an unsecured creditor in Terraform's bankruptcy proceedings and requires Kwon to relinquish only $7 million of his assets.

Grewal argued that this falls short of adequately compensating those who suffered financial losses due to Terraform's allegedly fraudulent actions.

Joining the discussion, other prominent figures in the cryptocurrency industry have echoed similar sentiments.

Ki Young Ju, CEO of CryptoQuant, cast doubt on Terraform Labs' ability to possess the funds necessary for such a settlement, questioning the legitimacy of their financial dealings.

Ki's remarks reflect a broader scepticism within the crypto community about Terraform Labs' transparency and ethical standards.

There is growing concern among industry leaders and the crypto community about how the settlement funds will be allocated and their ultimate destination.

Zach Rynes, a community liaison at Chainlink, also expressed dissatisfaction with the fact that the settlement will be paid to the SEC rather than directly to those impacted by Terra's collapse.

This criticism highlights an emerging debate on the importance of regulatory measures that prioritise investor protection and the recovery of misappropriated funds.

Additionally, there is scepticism about whether Terraform or Kwon actually have the financial resources to meet the settlement obligations.

Young Ju stated:

“$4.47B cash-out is impossible, even with a $40B market cap; Do and Terraform aren't supposed to hold that much money.”

Terraform Labs' Collapse Revisited: Singapore Addresses Licensing Irregularities

Last month, Singapore distanced itself from the failed cryptocurrency venture Terraform Labs, clarifying that the platform was not engaged in activities requiring a license from the Monetary Authority of Singapore (MAS) and was neither licensed nor exempt from licensing by the regulator.

The city-state also minimised the repercussions of the Terraform Labs debacle on its financial infrastructure.

Lawrence Wong, who was then the Deputy Prime Minister, Minister for Finance, Chairman of the MAS, and is now the prime minister of Singapore, observed that the aftermath of TerraUSD's collapse—the stablecoin developed by Terraform Labs—was confined to the cryptocurrency sector, with a negligible effect on Singapore's traditional financial system and economy.

He underscored that local financial institutions had minimal involvement with cryptocurrencies.

Lawrence concluded:

“We also remind those who trade cryptocurrencies that MAS' rules and regulations cannot prevent monetary losses arising from such activities. Consumers must be aware of the risks of doing so, and understand that cryptocurrencies are highly volatile and have no intrinsic value.”

Notwithstanding the contained fallout, the episode underscored the speculative and risky aspects of cryptocurrencies.

Since 2017, the MAS has been advising the public about these risks and took action to curb cryptocurrency advertising in public spaces in January 2022.

In line with evolving global standards, the MAS has implemented stricter regulations, with a focus on safeguarding retail consumers.

New measures set to be enforced this year include compulsory risk-awareness assessments for clients, prohibitions on trading incentives, and limitations on offering credit for cryptocurrency transactions.

These regulations also cover business conduct, mandating platforms to uphold proper asset segregation, conduct conflict of interest evaluations, and establish robust risk management protocols.