Lawyer's Interpretation: Why is the Interstellar Alliance Classified as a Pyramid Scheme?

Author: Wang Yongfei, Ran Xuedong, Hua Xia Times
On November 6, the Xuzhou Public Security Bureau's official website published an article titled "Xuzhou Police '2021 Hanfeng No. 3' Crackdown and Rectification Unified Action, 288 Cases Solved in 48 Hours," which attracted attention. The article mentioned that "the Fengxian County Bureau has successively captured 31 members of the Interstellar Alliance's network pyramid scheme criminal gang in Shanghai, Wuhan, Shenzhen, and other places, seizing virtual currencies such as Ethereum, Tether, and FIL worth approximately 400 million yuan."

A reporter from the Hua Xia Times contacted the chairman of the Interstellar Alliance, Fang Jun, immediately but had not received a reply by the time of publication. Sources revealed that the arrests occurred on November 4, with the police in Minhang District, Shanghai, assisting the Fengxian Public Security Bureau.

Qualifying Pyramid Scheme

According to the Xuzhou Public Security Bureau's official website, this action was aimed at consolidating and deepening the results of the previous "Hanfeng Action," severely cracking down on prominent illegal activities and public security issues during the autumn and winter seasons. From 8 PM on November 2 to 8 PM on November 4, public security agencies across Xuzhou organized a concentrated and unified action codenamed "2021 Hanfeng No. 3."

The reporter noted that on November 5, the Interstellar Alliance issued a notice stating, "Recently, our company received a notification from the Public Security Bureau of Xuzhou City, Jiangsu Province, to assist in the investigation of a case. As the funds paid by the suspects for purchasing from our company are suspected of being illegal proceeds, at the request of the police, we have temporarily handed over the relevant technical accounts and permissions to the police, which will be restored to normal after their investigation is completed."

On November 6, before the police issued their announcement, the Interstellar Alliance also stated, "The media has over-interpreted the situation regarding the Interstellar Alliance's cooperation with the Xuzhou police in investigating related cases, and we have communicated with some media to clarify the relevant facts."

On November 6, the Xuzhou Public Security Bureau announced that the activities of the Interstellar Alliance were classified as network pyramid scheme criminal activities. The Fengxian County Bureau has successively captured 31 members of the Interstellar Alliance's network pyramid scheme criminal gang in Shanghai, Wuhan, Shenzhen, and other places, seizing virtual currencies such as Ethereum, Tether, and FIL worth approximately 400 million yuan.

"The announcement from the Interstellar Alliance might have been an attempt to stabilize their investors, but unexpectedly, the police issued an announcement on November 6. Their office has now been closed, with a note saying 'Company employees are working from home; please call customer service for any issues,'" said Mr. Liu, an investor, to the reporter.

The reporter called the number listed on the Interstellar Alliance's official website, but it was not answered after multiple attempts. The reporter then received a text message stating, "Thank you for calling the Distributed Storage Interstellar Alliance. Company address: 3rd and 7th floors, Building T6, No. 3299 Caobao Road, Minhang District, Shanghai."

When the reporter inquired with customer service on the Interstellar Alliance website, they received a reminder that "there is currently no customer service online."
According to some investors, some Interstellar Alliance staff members who were not arrested are still promoting in their social groups, "Unite! Present a unified front! Do not be misled! Seek truth from facts! The food we have worked hard to produce cannot be taken away by unfounded accusations!"
According to their official website, the Interstellar Alliance's headquarters is located at Room 301, Building T6, No. 331 Long Road, Minhang District, Shanghai, and at the 10th floor of Building T2, No. 500 Long Road, Minhang District, Shanghai. They have multiple offices worldwide and own over 200 IDC data center resources globally.

Investor Losses Are Difficult to Recover

From the operational model of the Interstellar Alliance, assuming an investment in 2 units of 96T mining machines for self-packaging, the initial investment would be 1032 FIL, with a total investment of 1919.6 FIL, and a payback period of 152 days, mining for three years would yield 10573.82 FIL. The reporter learned that as of the time of publication, the price of the virtual currency FIL was 62 USD. Generally, investments in the FIL distributed storage project involve activities such as selling equipment and packaging for coin production.

Why is the Interstellar Alliance Classified as a Pyramid Scheme?

Liu Yang, a consultant and lawyer at Beijing Deheng Law Firm, analyzed for our reporter: "The Interstellar Alliance primarily engages in FIL mining business, and the FIL mining model has distinct characteristics of holding coins for interest and borrowing new to pay old.

First, FIL mining requires staking FIL tokens, meaning that if investors want to participate in mining, in addition to purchasing mining machines and computing power, they also need to buy FIL tokens to stake at the project party's nodes. Secondly, the staked FIL tokens have a lock-up period of 540 days, which is relatively long. After the lock-up period, the FIL obtained from mining is not released all at once but is released in phases over a long period.

Finally, the sales model of FIL mining machines is its biggest problem. Besides obtaining tokens through mining, mining machine sellers often use recruiting new members as a basis for assessment, adopting a team compensation model, and rapidly spreading through WeChat groups and Telegram groups, attracting many individuals with no virtual currency investment experience to participate."
In the "Opinions on Several Issues Concerning the Application of Law in Handling Criminal Cases of Organizing and Leading Pyramid Scheme Activities" jointly issued by the Supreme People's Court, the Supreme People's Procuratorate, and the Ministry of Public Security, how is pyramid scheme defined?

Liu Yang pointed out that pyramid schemes are organizations that, under the guise of selling goods or providing services, require participants to obtain membership qualifications by paying fees or purchasing goods and services, and form a hierarchy in a certain order, directly or indirectly using the number of people developed as the basis for compensation or rebates, enticing or coercing participants to continue to develop others to participate, defrauding property and disrupting economic and social order. If the number of participants in the pyramid scheme exceeds thirty and the hierarchy exceeds three levels, criminal responsibility should be pursued against the organizers and leaders.
Liu Yang further analyzed that the vast majority of people, including FIL project parties, mining machine distributors, and investors, believe that FIL mining does not return the staked coins to investors as profits in phases; instead, investors' returns come from newly generated FIL tokens, and the staked FIL tokens merely serve as "collateral." This model does not fall under "borrowing new to pay old."

Essentially, the value basis of FIL tokens is all the funds invested by investors, and the issuance of new FIL tokens will inevitably lead to a decrease in the value of each token. To maintain the price of each FIL token, it is necessary to continuously attract new investors to enlarge the capital pool, while also using the so-called lock-up mechanism to delay the explosion cycle.
From this perspective, the pyramid scheme behavior of the Interstellar Alliance is quite evident.
Since the beginning of this year, China has continued to crack down on virtual currency mining and trading activities. On September 24, the People's Bank of China, the Ministry of Public Security, and ten other departments issued a notice titled "Further Preventing and Handling Risks of Virtual Currency Trading Speculation" (hereinafter referred to as the "Notice"), which classified multiple related behaviors as illegal and criminal activities.

The "Notice" stated that once clues regarding illegal financial activities related to virtual currencies are discovered, local financial regulatory authorities will promptly investigate and determine the issues in accordance with the law, properly handle them, and seriously pursue the legal responsibilities of relevant legal persons, non-legal persons, and natural persons; if criminal activities are involved, they will be transferred to judicial authorities for legal handling. All departments and regions will maintain a high-pressure stance, dynamically monitor, and timely handle related risks, resolutely curb the speculation of virtual currency trading, and severely crack down on illegal financial activities and criminal activities related to virtual currencies.

Previously, Zhejiang and Jiangsu had just investigated thousands of virtual currency mining IPs and dozens of units suspected of using public resources for mining, dealt with a number of disciplinary violations, and recovered illegal gains.
Currently, whether it is traditional mining through mining machines or distributed storage mining, or virtual currency trading, all have become targets of severe crackdowns in China, and investors must be rational in their investments.
After the Interstellar Alliance's operational activities were classified as pyramid scheme crimes, investor losses will be difficult to recover. Liu Yang analyzed for the reporter: "In cases of organizing and leading pyramid scheme activities, investors are not victims in the legal sense but are participants in fundraising. At the same time, according to the latest promulgated Article 25 of the "Regulations on Preventing and Handling Illegal Fundraising," losses incurred due to participation in illegal fundraising shall be borne by the fundraising participants themselves. Therefore, in related cases, the illegal gains are usually recovered and turned over to the national treasury according to the law."
In addition, the "Notice" emphasizes that any person investing in virtual currencies and related derivatives shall bear the losses arising therefrom; those suspected of disrupting financial order and endangering financial security will be dealt with by relevant departments in accordance with the law.