Synapse Bankruptcy: Little Progress Ahead Of Today's Hearing
YieldStreet Claims Lineage Is Slow-Walking Release of Funds; Yotta Argues For Conversion to Chapter 7 & Engaging Forensic Accountants
Hey all, Jason here.
Happy almost-4th of July (though, of course, that’s not a holiday in the Netherlands.) Sending out a quick recap of the latest filings before this morning’s status hearing in the Synapse bankruptcy case. That hearing will be held at 10:00am Pacific time.
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Synapse Bankruptcy: Little Progress Ahead Of Today's Hearing
While perhaps overshadowed by the catastrophic hack of Evolve Bank & Trust, the Synapse bankruptcy case — which Evolve is also heavily involved with — continues, with a number of developments in advance of this morning’s status hearing.
A quick recap of the key developments since the last hearing on Friday, June 21st, in chronological order:
Anonymous Letter Urges Judge To Look Into “Potential Financial Crimes”
A physical letter — apparently anonymous — sent to the judge was entered into the docket on June 25th.
The letter lauds the efforts of the Chapter 11 Trustee, former FDIC Chair Jelena McWilliams, but raises the issue of the audits of Synapse conducted by Kroll, which appear to have taken during 2022 and/or 2023.
Specifically, the letter inquires as to the conclusions of Kroll’s work, if any, and raises concerns that “clients of Synapse, coincidentally backed by some of VC’s vested [sic] in Synapse, left on a hurry and ‘as a surprise’ to different providers.”
The letter poses a number of questions to the judge:
Did VCs who had invested in Synapse or sat on its board pass along inside-information to other companies they worked with?
How long did the board know about reconciliation issues and the scope of the problem?
What measures were taken by the board to attempt to address the issues?
The letter cites previous reporting by The Information’s Michael Roddan, who documented that issues were known inside Synapse for some time, including an on the record quote from a former Synapse compliance head who worked at the firm between 2022 and 2023, who told him, (emphasis added) “Their books and records would not match. Customers were constantly complaining that they were being double-debited. Everyone knew there was a huge hole.”
The letter also cited previous reporting by Forbes and Fintech Business Weekly.
YieldStreet Claims It’s Fully Reconciled, Blames Lineage For Delays
Yesterday, July 2nd, alternative investment platform YieldStreet sent its users an update, claiming it had fully reconciled users’ “Wallet” balances, which, it says, are held at Lineage, and blamed the bank for slow-walking releasing the funds.
YieldStreet explained Lineage’s role in Synapse’s so-called “modular banking” approach by saying in part, “Lineage Bank is one of the partner banks that Synapse, our former payment processor, used in their Cash Management Account (CMA) program. When you deposited money into your Yieldstreet Wallet, Synapse directed those funds to FDIC-insured accounts at partner banks like Lineage. This structure was designed to provide additional FDIC insurance coverage for larger deposits.”
The email went on to claim that YieldStreet has “completed a thorough reconciliation of all account balances, confirming the amount of your funds to the cent,” but that “Lineage Bank has not yet agreed to release them.”
YieldStreet told its impacted users that it would “implore” the FDIC, which is Lineage’s primary federal regulator, to “compel” Lineage to release the funds as soon as possible.
FDIC and OCC Respond to McWilliams’ Pleas for Help
As part of her last status report, McWilliams — a former top bank regulator herself — included correspondence sent to the heads of the FDIC, OCC, FRB, SEC, Finra, imploring the agencies to assist impacted consumers.
The FDIC and OCC have formally responded to that request.
The FDIC’s response notes that Synapse, the bankrupt entity, is not a bank, recognized Lineage, which it oversees, for its efforts on progressing reconciliation, and concluded by saying, (emphasis added) “The Synapse bankruptcy highlights the potential consumer risk present when money is not directly deposited with a federally-insured bank or credit union, and the bankruptcy process may take some time” — advice that would’ve been more helpful to end users before Synapse collapsed.
For its part, the OCC, which oversees AMG National Trust and American Bank, clarified that it “expects supervised entities to take all necessary steps to return customer funds consistent with applicable law.” The agency said it is “monitoring and will continue to monitor AMG’s and American Bank’s progress in returning all customer funds affected by the bankruptcy.”
Chapter 11 Trustee McWilliams’ Status Report
McWilliams’ status report summarized a timeline of key events to date and context on Synapse’s non-debtor subsidiaries, broker-deal Synapse Brokerage LLC and state-licensed lender Synapse Credit LLC.
The report notes that as of July 1:
American Bank still holds $43,339.67 of FBO funds related to a single fintech program for a single end user. American, the program, and the end user are processing the paperwork to release these funds. American has previously claimed it is owed $2,337,000 from other Synapse banks related to unsettled debit card transactions.
AMG has paid out about $100.7 million of $110 million in FBO funds it held to 31,694 end users of 14 fintech programs. AMG is awaiting payment instructions on the remaining approximately $9.5 million.
Evolve holds about $46.9 million in FBO funds it received as RDFI for Synapse brokerage. There were virtually no additional details or updates since the last status report on Evolve’s progress.
Lineage holds a combined $61.7 million of DDA and FBO funds in a single FBO account (more detail on Lineage’s efforts below.)
The shortfall of funds remains between $65 and $96 million — this is a range because about $31 million of funds in question are “Synapse-related” funds from interest and rebate payments. Further reconciliation is necessary to determine to what extent these may belong to end users.
The Trustee has engaged B. Riley Advisory Services as proposed financial advisor and continues to work to preserve and migrate Synapse systems and information. The estate has gained access to Synapse’s AWS and Google Workspace instances.
Partner banks have expanded their work with American Deposit Management Company (ADMC), the sweep network employed by Synapse Brokerage.
McWilliams ends her status report by reiterating the estate has no funds and, even if it did, there is no agreement with secured creditors TriplePoint Capital and SVB about access to cash collateral.
For the time being, McWilliams recommends the case stay in Chapter 11 and not convert to a Chapter 7 liquidation.
Lineage Bank’s Status Report
Lineage’s status report emphasizes the effort and resources the bank has and is expending in working to resolve the situation. Lineage has engaged a former Synapse engineer on a freelance basis to assist it in accessing and understanding Synapse’s records.
According to Lineage, it has been working to reconcile 420 million transactions and 92 million statements across 42 million “nodes” (accounts.) Lineage has made progress in generating 14.7 million out of 19.2 million statements for the month of May, a necessary step in the reconciliation process.
Yotta’s Status Report
Yotta, the largest program impacted by Synapse collapse and subsequent freeze of end user funds, filed its own brief status report.
Per its report, Yotta argues that, absent the help of forensic accountants, the parties may be unable to fully reconcile and release funds.
To that end, Yotta contacted Berkley Research Group, a consulting firm that specializes in financial services, blockchain, cryptocurrency, and digital asset bankruptcy cases.
According to Yotta’s filing, “BRG has informed counsel for Yotta that, subject to agreement on terms of employment with the Trustee, it is willing to provide its services should the case be converted to Chapter 7 (with the understanding that there are no available funds in the estate at this time, and there is no assurance of payment).”
As such, Yotta argues the case should be converted to a Chapter 7 liquidation and that BRG should be engaged to assist in reconciliation efforts.
Finally, the company argues that “it may be necessary to conduct discovery of various parties from whom it has heard conflicting statements over the course of the case,” saying it will attempt to coordinate discovery efforts with the Trustee and file appropriate motions.
What’s Next?
Evolve, a critical player in unwinding the situation, did not provide any status update prior to today’s hearing.
The bank continues to grapple with the fallout from a ransomware attack, which, after the bank declined to pay the bounty, saw as much as 33 terabytes of Evolve’s, its partners’, and its end users’ sensitive data released publicly on the darkweb. Per Evolve’s statement, the hacking incident first came to its attention in “late May.”
Some bankruptcy experts have suggested that, given the current logjam, an “interpleader” is the logical next step. An interpleader can commence when a party (in this case, the banks) hold property on behalf of others (fintech programs and end users), but does not know to whom the property should be transferred.
In such a proceeding, the parties holding the funds are often known as “stakeholders,” while those claiming ownership (end users, but also potentially the fintech platforms and possibly secured creditors, to the extent FBOs hold money belonging to the Synapse estate) are the “claimants.”
An interpleader would consolidate various potential claims and actions into a single proceeding and, basically, ask the court to examine the claims and make a determination about the rightful owners of funds.
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