NFT Fraud Allegations.

What do federal prosecutors mean by NFT fraud allegations?

To be clear, “NFT fraud” is not a crime in and of itself, but a catch-all term that federal prosecutors use for crimes that involve the use of non-fungible tokens in deceptive means. Federal law contains no standalone statute entitled NFT fraud, and prosecutors must instead use statutes designed to target fraud in general. With that said, prosecutors will and do pursue charges when NFT transactions, exchanges, or offers that involve fraud, particularly when deceptive schemes result in losses for the parties involved.

The vast majority of NFT fraud allegations are prosecuted under 18 U.S.C. § 1343. Section 1343 is the federal wire-fraud statute, which prohibits using interstate or foreign wire, radio, or television communications to execute a scheme to defraud or to obtain money or property through false or fraudulent pretenses, representations, or promises. The statute covers schemes using interstate or foreign wire, radio, or television communications and does not require the conduct to take place online.

To convict defendants under 18 U.S.C. § 1343, federal prosecutors must be able to satisfy three elements:

• A scheme to defraud, or a scheme to obtain money or property through false or fraudulent pretenses, representations, or promises;
• Use of an interstate or foreign wire communication in furtherance of the scheme; and
• Knowledge of the fraudulent scheme and an intent to defraud.

These elements apply to all forms of wire fraud, including cases involving NFTs. While NFT fraud can take many different forms, including counterfeit collections, fake marketplaces, and fraudulent returns, these are all just different variations on a theme. The common thread between all cases involving NFT fraud is that they all involve some form of a scheme to defraud others for the purposes of obtaining or controlling money or property.

But it should be clear: this is not the same thing as a project that fails or whose price drops. While this can have consequences, the crash of a cryptocurrency, the decline of an NFT project, and the failure of the broader market for NFTs are all not criminal offenses, in and of themselves. As a result, even if NFT holders or investors suffer losses as a result of a project’s failure or declining value, that fact alone is not enough to support fraud charges.

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Which NFT conduct can support laundering, securities, conspiracy, or tax charges?

Money laundering allegations typically invoke 18 U.S.C. § 1956, a federal statute that addresses transactions intended to conceal the nature, location, source, ownership, or control of the proceeds of specified unlawful activities. However, the mere use of cryptocurrency or the use of an anonymous wallet does not, in and of itself, support a charge under Section 1956. Prosecutors may allege a violation of the statute if any transactions to, from, or involving NFTs are found to have been designed to mask the proceeds of a separate fraud, such as the sale of a counterfeit NFT collection or a fraudulent investment opportunity.

While NFT fraud allegations can also involve securities fraud, the ability to prosecute this crime depends on the specific nature of the NFT offering and claims. Generally, if an NFT offering involves the intent to raise investment funds by making deceptive representations (such as offering a guaranteed return on investment), then this conduct can be sufficient to trigger allegations of fraud under the federal securities laws. This is true even if the offering is marketed as an NFT rather than a traditional investment vehicle, and whether an NFT is considered a security, or is deemed not a security, depends on its legal classification (rather than its label), and federal prosecutors can pursue charges under the federal securities laws if an NFT offering’s representations are found to be deceptive.

More than just conspiracy, federal prosecutors can also pursue charges for a number of other related crimes as well. When NFT fraud cases involve more than one defendant, prosecutors frequently seek to establish criminal liability for conspiracy in violation of 18 U.S.C. § 371. As a result, anyone who knowingly joins a fraudulent scheme is at risk for liability if the government can prove, beyond a reasonable doubt, that the defendant agreed to commit wire fraud, that an overt act furthered the conspiracy, and that the defendant possessed the intent required for that offense.

Finally, the Internal Revenue Service (IRS) may also be involved in some NFT fraud cases. While a fraud allegation does not automatically equate to a tax allegation, taxpayers have a duty to report all income, and federal prosecutors have brought a variety of charges in cases involving cryptocurrency or NFTs. In particular, the failure to report NFT gains (especially, in some cases, even failure to report fraudulent gains that were obtained through illicit means) can create separate federal tax allegations. This includes charges such as tax evasion under 26 U.S.C. § 7201 (which requires proof beyond a reasonable doubt of the willful attempt in violation of the tax laws to defeat or evade tax) becoming a possibility as well.

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What facts distinguish a failed NFT project from deceptive promotion or insider trading?

To understand the types of facts that distinguish a failed NFT project or declined NFT market from deceptive promotion or “insider trading,” it is helpful to look at specific examples. For instance, in a recent case involving a company named OpenSea, the U.S. Department of Justice obtained its first conviction for NFT insider trading against a former OpenSea employee, Nathan Chastain. In this case, federal prosecutors alleged that Chastain knowingly bought the NFTs of an emerging project shortly before featuring them on the OpenSea homepage. Shortly after, he resold the NFTs that he purchased to the general public. According to the prosecution, his resale profits were approximately two to five times the original purchase price.

While the government obtained a criminal conviction against Chastain in 2023, it is also important to understand the legal framework the government used in his prosecution. With no standalone federal statute prohibiting NFT insider trading, prosecutors charged Chastain with wire fraud under 18 U.S.C. § 1343. This case highlights the government’s intent to adapt its existing fraud and insider-trading enforcement tools to include new assets like NFTs, and this example is relevant to any case involving federal prosecution for cryptocurrency or NFT offenses.

The examples above focus on insider trading; but what examples are relevant to “fraudulent promotion” in the context of NFTs? In these cases, the allegations will vary depending on the types of facts at issue. However, some examples of the conduct that has led to fraud allegations include:

• Making misleading or false statements about the utility of the project’s NFTs
• Misleading prospective purchasers about the likelihood of generating substantial investment returns
• Using artificial scarcity to sell an NFT collection to the public
• Making false or misleading statements about an affiliation between an NFT and a celebrity, corporation, or well-known public figure.

Finally, it is also important to understand that creators, promoters, developers, and investors can face varying types of liability. While these individuals and entities are often accused of fraud in the same case, there are often key differences regarding their actual roles and conduct. For example, an NFT project’s creators can face liability for promoting its tokens deceptively, and promoters can face liability if they knowingly push a fraudulent investment scheme. However, for developers, the government typically needs to find evidence that the individual engaged in insider trading or other deceptive conduct.

How do cross-border NFT cases move from wallet tracing to seizure and sentencing?

Wallet tracing is often the most prominent feature of cross-border NFT fraud investigations, but it is merely the initial phase of the process. Federal prosecutors and agents with the FBI and other agencies trace the movement of tokens and digital assets across decentralized blockchain ledgers to identify the accounts and wallets that were involved in suspected fraud. From there, they may subpoena records from centralized exchanges in an effort to connect particular wallet addresses to individuals.

If the authorities establish probable cause, they can seek a search warrant to raid an individual’s home, business, or other properties. In addition to any physical or electronic records, a warrant in an NFT case may also specifically include the authority to seize, “seed phrases,” “private keys,” “hard wallets,” and authentication devices. If these warrant searches uncover evidence that an individual is illegally holding digital assets, federal authorities can seek seizure of exchange accounts and any relevant NFTs, stablecoins, or hardware wallets.

This process of investigating, arresting, and sentencing is coordinated primarily between federal prosecutors and the various agencies involved. This includes the Department of Justice (DOJ), the Federal Bureau of Investigation (FBI), the U.S. Securities and Exchange Commission (SEC), the U.S. Commodity Futures Trading Commission (CFTC), and the Internal Revenue Service Criminal Investigation division (IRS-CI), among others.

Finally, sentencing in the federal system can vary based on the specific charges and the facts at issue. When pursuing criminal fraud charges for the sale of NFTs, penalties can depend on a number of factors. As a result, the loss amount involved and the number of victims are very important. For example, a criminal sentence can be substantial even if the court determines that the defendant was not personally responsible for the conduct that gave rise to the investigation. In some cases, the loss amount involved can have a profound impact on federal sentencing. As a result, understanding the amount of loss is a critical aspect of any NFT fraud defense.

Speak With a Federal Defense Lawyer

If you are dealing with any part of what this article describes, the next step is a conversation with a lawyer who handles these cases. Spodek Law Group is a second generation criminal defense firm practicing since 1976, representing clients nationwide from offices in New York, Brooklyn, Queens and Los Angeles. Call 888 348 8028 to speak with our team.