Decentralized Autonomous Organizations (DAOs) sound like something of the future. And in a way, they are. It is a new organizational structure that, in theory, enables decentralized decision-making using blockchains and token voting mechanisms.
If these terms are unfamiliar to you, you are not alone. Suffice it to say, there is no CEO, board of directors, or many other hierarchical structures found in traditional business entities.
The New York Times recently described a DAO as a “group chat with a bank account.”
But far from being on the fringes of the growing crypto economy, DAOs, after a rocky start, are increasingly seen as playing a central role in it – and potentially in the broader non-crypto economy as well. A DAO made news last year by raising $40 million to bid on a rare copy of the US Constitution. Another made headlines more recently for helping raise money for war-torn Ukraine. Some DAOs are considering buying (or attempting to buy) a professional sports franchise. And one of the most prominent crypto exchanges has even turned into a DAO.
>>> Biden Sics Bureaucrats on Cryptocurrencies
But as DAOs become more and more important in financing projects, investing in companies and employing people or organizations, some mundane but vitally important questions need to be answered.
If someone wants to sue a DAO, who does the process mean to? Where is a DAO domiciled, which is decentralized and exists solely on a blockchain with potentially thousands of members spread across the globe? Are members of a DAO personally liable for the responsibilities of a DAO? How does a DAO enter into a legally binding contract?
There are many more questions, and the answers are often unclear at best.
Some lawyers believe that “there is a risk [a] The DAO could be considered a general partnership or an unincorporated association”, which “could expose its members to personal liability for any of the actions and obligations of the DAO, and discourage companies, institutional investors or other vulnerable or regulated entities from participating in DAOs”.
It is unlikely that any of the thousands of potential investors in a DAO would intend to be jointly and severally liable for what could amount to millions and millions of dollars in debt.
To work around this problem, some DAOs have adopted an “LLC Wrapper”. A limited liability company is a well-known business structure that protects its owners from personal liability and combines some features of corporations and partnerships. He tries to be the best of both worlds.
One observer said that with “many DAOs, a Delaware-based LLC owns all ownership rights and serves as the beneficiary of the funds – or a portion of them – raised. . . by a DAO.
However, not all DAOs adopt this structure. Some fear that forming an LLC removes the decentralization that is a key part of a DAO. And uncertainty can linger, which can hamper innovation. So lawmakers in several states have stepped in to fill that void.
Last year, Wyoming enacted legislation authorizing the creation of a new legal entity, a DAO LLC. A Wyoming state senator said, “The law doesn’t do what a contract lawyer couldn’t already do. . . but it does make the process of turning a DAO into an LLC easier and cheaper. The state even recently updated its law in hopes of attracting more such entities to Wyoming.
>>> A Revolution, If We Can Sustain It: How Anti-NFT Regulations Threaten Financial Rights
Tennessee recently passed a similar law in an effort to make “Tennessee the Delaware of the DAOs.”
And Vermont had previously enacted a law that, while not specific to DAOs, allows for the formation and registration of a blockchain-based limited liability company, a “BBLCC”.
Other countries too, such as Australia and the Marshall Islands, are considering creating, or have created, new legal entities to accommodate the new business structure put in place by a DAO.
Needless to say, it is still relatively early in the legal life cycle of DAOs. The structures, uses, and functions of DAOs may change in ways no one has thought of before.
But as more people and more money flow into DAOs, it will be important to resolve lingering questions about the legal rights and responsibilities of these entities and their members. So far, states are leading the way, and federal regulators should let this innovation continue.