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Coinbase Faces Bankruptcy Threat, It Could Wipe Out Users Fund

Coinbase has delivered 1st quarterly results. The U.S.’s biggest crypto exchange recorded a quarterly loss of $430 million and a 19 percent reduction in monthly users. It also offers information on the risks of using its platform that may surprise millions of users.

Coinbase reported Tuesday that it owns $256 billion in fiat and cryptocurrency on behalf of the customers in its quarterly report. However, the exchange warned that the digital currencies that they hold in their custody on behalf of customers might be subject to bankruptcy if it ever went bankrupt. Users of Coinbase would be considered “general unsecured creditors,” with no right to demand any specific property from the exchange in court proceedings. The users would not be able to access their funds.

Why are users’ funds not secure in Coinbases exchange?

One of the primary selling points emphasized by blockchain advocates is that an individual’s bitcoin ownership is unchangeable and absolute. However, when users register a Coinbase account, they end up putting their crypto in a Coinbase-controlled wallet, implying that the customer relinquishes a part of their control over their cash.

Private Key, a lengthy string of characters that functions as a password, controls access to a crypto wallet. A user can not access the cryptos in the wallet without the Private Key. Coinbase stores the Private Key and allows customers to access the funds in the wallet with a more traditional password. By requiring users to remember a simpler password, the configuration makes it easy to access their accounts.

However, Coinbase will ultimately decide whether a user gets access to all those assets when it comes down to it.

What is Coinbase’s response?

Coinbase CEO and founding member Brian Armstrong said on Twitter that the exchange was not in danger of going bankrupt. The announcement was required owing to new requirements created by the U.S. SEC for public corporations that handle crypto assets on behalf of others.

This disclosure makes perfect sense in that these legal protections have not been tested in court for crypto assets; specifically, Armstrong said. He also added that it is possible, though unlikely, that a court might decide to evaluate customer assets as part of the corporation in bankruptcy proceedings, even if it harmed consumers. He reassured his users that their coins were safe at Coinbase.

Coinbase offers a self-custody wallet called Coinbase Wallet. In this, customers know their private keys. However, trading crypto on Coinbase does not require a Coinbase Wallet—or another crypto wallet. Coinbase highlights a fundamental distinction between putting your savings with blockchain exchanges compared to traditional banks by stating that digital currencies are not secure in bankruptcy.

Is there any silver lining?

Deposit insurance provided by the Federal Deposit Insurance Corporation protects bank accounts in the United States. The FDIC steps in to safeguard deposits up to $250,000 if a bank fails, keeping depositors from going bankrupt along with the bank. Crypto exchanges don’t provide enough security, so crypto fans recommend storing crypto in a personal wallet rather than on an exchange.

Effect on Coinbases share prices

After the crypto exchange revealed its earnings, Coinbase shares plunged 15.6 percent in after-hours trading, bringing the company price to 80 percent below its Nasdaq launch in April 2021.

Trading volume on the Coinbase exchange fell from $547 billion down $309 billion in the 1st quarter. It also reported a shrinking user base and lower-than-expected income. Coinbase predicted that trade volume would drop even more in the current quarter.