November 29, 2021

Volume XI, Number 333


Potential Legal Frameworks for DAOs

An interesting and thoughtful whitepaper called “A Legal Framework for Decentralized Autonomous Organizations” was co-authored by a general counsel of one of the major venture investors in the blockchain space suggesting a framework for DAOs under the legal system in the United States.  A decentralized autonomous organization, or a “DAO,” is an “organization” encoded as a transparent computer program, controlled by the organization members, and not by a central corporate entity. Currently, many DAOs are not established as legal entities, potentially exposing their members to a number of risks and liabilities.

The whitepaper highlights some of the major legal issues facing DAOs, including difficulty with tax reporting, difficulty in entering contracts, and potential general partner liability for DAO participants. The whitepaper suggests that an ideal solution will involve new laws that recognize a type of non-entity that could at least have sufficient legal personality to provide some protections for these above-mentioned concerns.

However, there are several hurdles facing a new type of regulation both from the regulators themselves, as well as from many people involved with DAOs who believe that constituting these organizations as a legal entity is antithetical to the philosophy behind a DAO. 

In the meantime, prior to the introduction of a new corporate structure, the whitepaper proposes the use of an unincorporated nonprofit association (UNA) as a ‘wrapper’ for a DAO to give which would give such organizations sufficient legal coherence including the ability to pay taxes, make filings, and the like.  Unincorporated nonprofit associations are broadly defined and, in many jurisdictions, can consist of just a few people agreeing to work, either orally or with an agreement, on a charitable endeavor together. Many states provide for a simple mechanism for these groups to obtain a tax ID number, and, while it may not be feasible for many DAOs due to their activities or structure, they also are permitted to apply for tax-exempt status under Section 501(c)(3) of the tax code.  Much of the question as to the applicably of UNA for a DAO will rest on whether the activity of that DAO is considered “not-for-profit” under something called the Uniform Unincorporated Nonprofit Association Act (UUNAA) that has been adopted by many states. While many DAO generate profits, in general, that is allowed under the UUNAA if the profits are not being distributed to members.

Another existing legal structure suggested by one of the members of Polsinelli’s nonprofit organizations group for use by DAOs is a public benefit limited liability company, which he believes may be a more effective structure for these organizations. While it would mean that the DAO would need to more formally adopt a corporate structure than a UNA requires, it would also create limited liability for its members as a matter of law.

© Polsinelli PC, Polsinelli LLP in CaliforniaNational Law Review, Volume XI, Number 320

About this Author

Daniel L. McAvoy Shareholder Investment Funds Securities & Corporate Finance Mergers, Acquisitions and Divestitures Corporate and Transactional Joint Ventures and Strategic Alliances

Dan McAvoy focuses his practice on private closed-end investment funds, corporate finance and M&A with a focus on private investment fund transactions, including complex GP-led restructurings and secondary transactions. Dan is a trusted adviser to numerous investment advisers, fund sponsors and investors, and has represented a range of companies, from startups to Fortune 500 companies. Dan has also represented portfolio companies and sponsors through all parts of the corporate life cycle, including formation, venture financings, add-ons, stock sales, asset sales, private and...

Stephen A. Rutenberg Shareholder Polsinelli New York Bankruptcy and Financial Restructuring Bankruptcy Litigation Capital Markets ,Commercial Lending ,Debt and Claims Trading, Financial Services, Insolvency, Financial Technology FinTech and Regulation

Stephen Rutenberg’s practice focuses on the intersection of special situations investing and FinTech including cryptocurrency and blockchain technology. 

A significant component of Stephen’s practice relates to his work in the distressed debt market, representing clients in the purchase and sale of loans and securities of distressed and bankrupt companies. Recent representations include advising on the purchase, sale and financing of bankruptcy trade claims in several major chapter 11 cases, including Lehman Brothers, and the MF Global and Icelandic bank liquidations. He works with...

Peter Waltz, Polsinelli Law Firm, Denver, Corporate and Finance Law Attorney

Peter Waltz is dedicated to helping clients achieve their objectives by employing a comprehensive, interdisciplinary approach to their legal and business challenges. He advises companies in all phases of the business cycle and provides ongoing advice and counsel on day-to-day operational, business, and legal issues. This focus includes the preparation and negotiation of documents related to entity selection and formation, corporate structure, corporate governance, and commercial contract matters. Peter advises a variety of clients with their business transactions,...