Given DAOs are a relatively new form of corporate governance, it is not clear how state courts will view such organizations and what protections under the law would be afforded to DAO members on a state-by-state level where most law governing business filings takes place. There are a few ways to go:
Unformed DAOs
First, an unformed DAO is the “if you do nothing” model. If the DAO does not incorporate in some way, it is treated in most states as a simple partnership between members, who would incur all the liability from any of the DAO’s actions in the case of a lawsuit.
Wrapped DAOs
To avoid liability, and also to just to open a bank account, any DAO raising funds, especially trading them publicly, will need to incorporate as a Limited Liability Company, called “wrapping a DAO in an LLC” or a “legal wrapper,” to provide some liability protection for members.
At a minimum, any DAO creator who wants to form an LLC or Corporation needs to do what any business does:
- Register and file with a Secretary of State’s office, in the Corporations Department etc.
- Pay the filing fee
- File the articles of association, by-laws, shareholders agreement, or other similar governance documents as required by the chosen jurisdiction.
There are of course subsequent ongoing responsibilities, such as filing requirements, annual reporting requirements, annual fees, etc.
Even better Wrapped DAOs
Many companies now provide pre-packaged blockchain-ready legal agreements and/or allowing you to build a DAO using other templates.
One of the highest-profile founders of one of these companies, Aaron Wright participate in Ethereum early on, and then co-founded OpenLaw, an open-source blockchain-based protocol for the creation and execution of legal agreements that can be embedded in the Ethereum blockchain. Thousands of DAO-related legal agreements usable for smart contracts on the Blockchain are now available there.
A professor of law at Cordova, Wright then also built theLAO, an Ethereum-based DAO that creates super-protected DAO’s using OpenLaw contributions. More recently he set up Tribute Labs in Delaware, which he says is just as good a state to incorporate a DAO, since Delaware hosts most S&P 500 corporations and as a regulatory environment is considered “safe, predictable and understandable.” Tributes creates a full legal wrapper that defines obligations in the real world.
In a 2021 podcast, Wright claimed his goal is to fully automate the creation and management of legal agreements on the Blockchain, thus “eating the legal industry.”
Tribute Labs limits sales to accredited investors, who need to meet requirements of $200,000 income or an investable net worth of $1 million-plus to meet SEC requirements. The DAOs are organized as Delaware limited liability companies, but investors hold their equity interest in units, rather than tokens. Finally, no investor in Tribute can own more than 9%, so the DAO meets a high threshold for decentralization. Wright limits his holdings to 1 percent of each DAO. Tribute Labs charges 2% a year of the DAO’s original investment to do all the paperwork and incorporate things like coordinating group calls and helping with fundraising strategy.
True DAOs
Taking things one step further from wrapped DAOs, True DAOs are legal entities formally recognized by the two states with existing laws, Wyoming and Vermont.
These enjoy the same limitations on individual liability afforded to members of traditional limited liability companies but also add the protection of state law.
Wyoming, one of the few crypto-friendly states in the United State, and home to the majority of DAOs, is one of only two states, along with Vermont, to explicitly provide DAOs legal recognition, giving them an opportunity to incorporate and register, thus providing government recognition of this protected legal status.
The July 2021, Wyoming Limited Liability Company Act allows individual developers and organizations to create fully legal DAO LLC’s in the state. As DAOs are viewed as member-managed or algorithmically managed organizations that can receive all the benefits of LLC entities.
Vermont’s Act Related to Blockchain Business Development, practitioners to create a similar blockchain-based limited liability company or a “BBLLC.”
Under these new laws, a DAO is a limited liability company whose articles of organization contain a statement that the company is in fact, a Decentralized Autonomous Organization and meets certain requirements.
The Acts lay down the requirements of the organization for registration and incorporation, plus a few rules and regulations that a DAO must comply with. This creates uniformity and an equal playing field on which different entities can operate.
The Wyoming law specifically mandates that a DAO meets the following criteria:
- It maintains a presence in the state through a registered agent and would need to include in its name a proper designation such as “DAO”, “DAO LLC” or “LAO”, Legal Autonomous Organization.
- It can be “member-managed” or “algorithmically managed”, as set forth in its articles of organization, or if the latter, deploy an underlying smart contract that can be updated, modified, or otherwise upgraded.
- According to laws articles of organization and/or the smart contracts, it governs relations among the members, rights, and duties of each member, voting rights, transferability, distributions and amendments, and other matters and other issues.
- Unless provided for in the articles of organization or operating agreement, no member can have any fiduciary duty to the DAO or any member other than the implied contractual covenant of good faith and fair dealing.
CryptoFed, a US-based DAO, was the first DAO to be recognized as a legal entity in Wyoming, and registering at the state level as a DAO provides “exceptional coverage” according to the BrauMiller Law Group.
Companies that want to offer tokenization to fractionalize ownership of companies and/or assets and provide liquidity but do not want to create a decentralized voting mechanism, can still do so by issuing security tokens that are registered as securities with the SEC, however, DAOs actually may have enough protection due to these states recognition of their legitimacy.
Again, the law is fuzzy and the SEC has ruled that technically DAOs are not a legal way to share ownership, and thus may consider sales of DAO tokens as unregistered securities. Other ways to avoid these legal complications include:
a. Selling only to accredited investors with an income of more than $200,000 or $1million plus in assets not including their primary residency.
b. Selling to fewer than 100 members.
c. Registering as a non-profit may offer further protection.
d. Separating the DAO from ownership and revenue share in the actual company, by limiting its participation to non-financial decision-making and participation.
These legal issues are not settled and this article is not to be construed as legal advice, when. in doubt hire a specialized DAO attorney, there are many working today in this field.
Next:
- Join the DAO Discord group to ask instructors and other DAO members
- Take the certification course in DAO fundamental coming up in Summer 2022.
- Book a private sessions with one of our DAO experts