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Legal Issues with Blockchain

Legal Issues with Blockchain

Legal Issues with Blockchain

Emergence of blockchain, cryptocurrency and related decentralized technologies will challenge current legal and regulatory systems. The success of Bitcoin has prompted widespread interest in FinTech developments including blockchain platforms, decentralized open ledgers, self-executing smart contract, decentralized autonomous organizations, and other related technologies and concepts that promise to be one step ahead of existing legal structures.

Blockchain 101

For a good introduction on blockchain I recommend the following:

What seems clear is that as more use-cases for blockchain enabled technologies are developed and rolled out, this still emerging technology will test the limits of current legal systems which have been developed and evolved to compensate for lack of trust or verifiability in economic systems – think mortgage banking regulation, robo-signing and foreclosure fiasco.

What are the evolving legal issues with Blockchain?

Central to blockchain technology is the concept of the shifting of trust from an authoritative intermediary (like a bank, corporation, or government) to a decentralized peer-to-peer mechanism that is immutable and permanently verifiable.

Formerly trust was systemically designed in our business and legal systems by long held business convention and through the use of increased regulation and oversight. For example, double entry accounting (in use since at least as early as the 15th century) adopted a balancing mechanism which engendered reliability in recorded accounts and mercantile transactions. Also legal developments like securities regulations established the institutional controls and regulatory oversight necessary for investors to trust the public capital market system.

In contrast, blockchain is a bit like triple entry accounting with the third entry being a cryptographically-sealed entry posted to a distributed public ledger. In the public securities context, buyers and sellers of a specific security could be matched, and exchange value, on the blockchain eliminating need for market intermediaries and banks to perform clearing and settlement functions. Currently private capital markets are largely paper-based. Where private companies currently issue paper certificates and maintain private ledgers, blockchain could be used to automate, reduce errors and promote efficiency. See this Forbes article: Why Nasdaq Is Even More Optimistic About Blockchain Than It Was 3 Years Ago.

However, since existing legal and regulatory systems always lag advances in technology, any new technology will create legal questions. Some of the emerging legal issues with blockchain are:

  • Where is the tax location of a blockchain transaction?

    Since blockchain can facilitate global transactions issues involving taxation will need to be addressed. Where is the physical world tax-location of a transaction on a distributed ledger? Is there a taxable value of a transaction that involves the exchange of digital certificates representing intangible assets?

  • Is a bitcoin token property or currency?

    Currently the IRS says its property (see IRS Virtual Currency Guidance) and therefore subject to property rules like gain and loss recognition on exchange, and, also constitutes wages for employment tax purposes, the value of which, is subject to federal income tax withholding rules at the time of payment.

  • Can Smart Contracts Anticipate all Criteria?

    Self-executing smart contracts could reduce contractual disputes by automating a guarantee of performance, but it will give rise to a new level of dispute over whether the criteria needed for fulfillment of the smart contract was appropriately measured and communicated.

  • How are Decentralized Autonomous Organisations regulated?

    Blockchain can be used to create new entities called ‘decentralized organisations’ that are like corporations without legal personality, made of autonomous individuals given discrete tasks and rewards. Existing corporations law does not facilitate and regulate these new entities.

  • Can a DAO be sued?

    Decentralized Autonomous Organizations created by relationships of smart contracts are not (yet) recognized organizations. Should they be considered general partnerships by and among all of the participants? Can a Decentralized Autonomous Organization be sued or bring a lawsuit on its own behalf?

  • Is the blockchain private or anonymous?

    Blockchain is a distributed public ledger that anyone can view, although the identities of the transactors are anonymous. However, if people can use transactions to guess a party’s identity, there may be privacy concerns for contracts and property ownership.

Further reading

BEYOND BITCOIN: ISSUES IN REGULATING BLOCKCHAIN TRANSACTIONS
Blockchain in Capital Markets
Blockchain and the law An uncharted landscape

Bottom Line for Legal Issues With Blockchain

Like all emerging technologies proponents of blockchain will need to navigate existing regulatory and legal frameworks until new rules are created.

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