Celsius Failed to Set Up Controls to Track Customer Funds in Some Accounts, Examiner Says

In a report released Saturday, examiner Shoba Pillay found that since Celsius hadn’t developed separate infrastructure for the so-called custody program it started offering in April, the firm had to take steps to transfer funds into the custody accounts from the rest of its holdings to address frequent shortfalls. Moreover, Celsius continued to mix deposits in so-called withhold accounts, the second type of account it created in response to regulatory pressure, with the rest of its funds, according to Ms. Pillay’s report.

As a result, Celsius customers now face uncertainty over which assets belong to them as of the date of the bankruptcy filing, according to the report from Ms. Pillay, the examiner appointed to investigate Celsius’s handling of customer funds.

Celsius wasn’t immediately available for comment.

The bankruptcy of FTX has put a spotlight on accounting and financial control issues at crypto firms, with FTX’s new CEO pointing to the “complete absence of trustworthy financial information” at the crypto trading giant in his first revelations about the company.

Deposits at Celsius, which called itself a crypto bank, ballooned as the company attracted hundreds of thousands of customers with high-yielding accounts that allowed them to earn rewards on their digital coin deposits.

In 2021, state and federal regulators began investigating whether Celsius’s so-called earn accounts were securities that shouldn’t be sold to unaccredited investors. In September 2021, regulators in New Jersey ordered Celsius to stop offering new yield-earning accounts to individual investors.

In response, Celsius created the custody and withhold programs, requiring U.S. customers to make any new deposits into those new types of accounts that earned no interest.

A distinction between the custody accounts and the company’s interest-bearing accounts is that in its contracts with customers, Celsius stated that it wouldn’t sell, transfer or use the custody account deposits to make investments to generate revenue.

The status of customers with holdings in the custody and withhold programs is at the heart of a key dispute in the Celsius bankruptcy case, with customers of the custody and withhold programs pushing for the release of their coins before other customers. Just a small slice of Celsius’s $4.7 billion in coin deposits are held in the custody and withhold programs.

At the time of Celsius’s bankruptcy filing, there were $180 million of coins held in the custody accounts, according to a court filing by the company. Withhold accounts have just over $13 million in deposits, according to Ms. Pillay’s report.

Under time pressure, Celsius failed to develop robust controls for the custody programs, according to Ms. Pillay’s report. The firm planned to develop more effective processes to track funds for the custody programs later.

Celsius also created another type of account, the so-called withhold accounts, for customers in nine states where it lacked the licenses to offer a custody program, which was meant to protect them from risks associated with the high-yielding earn program. Celsius, however, treated funds in the withhold accounts similar to those in earn accounts that could be deployed for investment purposes, according to the report.

Since Celsius hadn’t developed a separate infrastructure to accept custody deposits, the firm’s custody program didn’t automatically balance the coins reflected in those accounts with the coins held in the digital custody wallets. Celsius had to manually transfer coins to ensure that the amounts in each type of account accurately reflected the number of coins in each program.

Between April and July, Celsius moved coins from its main wallet to custody wallets to cover shortfalls in the custody accounts. A deficit in the custody accounts was erased by the time Celsius filed for bankruptcy, but a deficit of nearly $17 million built up again by Oct. 28, according to Ms. Pillay’s report.

Write to Soma Biswas at soma.biswas@wsj.com