According to _garbrielShapir0, the "hard legal problems" with DAOs are not entity formation, but:

  1. persuade states to grant limited liability to anonymous members of stateless unincorporated DAOs.
  2. establishing norms of contractual code defense.
  3. taxation
  4. carve out DAO shares from securities law.

Perhaps DAOs should therefore be tied to a jurisdiction (like an LLC) to limit liability, because if a legal entity is not clearly specified and only does business with others (as would be the case with an unpegged DAO), then the default treatment legally is that the members act in an association. In the U.S., the members of an association must legally share the risk equally and those members are liable for everything.

In general, the use of LLCs (or similar) as transaction objects is for risk management. The use of LLCs as transaction objects (entities) for risk management is obviously nothing new. The financial engineering community has been using LLCs and SPVs for all kinds of transactional objectives for decades - even though the average person may not think of entity formation in terms of financial engineering with its jargon and implementations. The fact is, it used to take an army of lawyers and millions of dollars to set up transactional business entities; these days it can be done with just a few dollars.

Delaware LLC

Current standard Delaware corporate law rules define an LLC manager - or if all LLC members are managing members, which is not ideal for forming an LAO. (see DAOs & LAOs by Axel Quack).

Delaware, LLC and Ethereum, DAO Comparison

As a simple comparison between the two different approaches.

  Delaware, LLC Ethereum, DAO
Structure Legal shares Token shares
Medium Analog Digital
Database Registred to a Nation State Registered to the Internet
Access Control Nation State Identity (SSN) Private Key
Requirements Citizenship or U.S. Status Internet connection
Financial System Traditional Finance Decentralized Finance
Bank Account "Traditional Bank" Ethereum Address
Registration Costs $90 one-time + $300 annual one-time gas fee
Credit Robut credit system Not currently available
Protocol taxes State & Federal Taxes (20 to 40% of profits) None
Jurisdiction United States Global
System Cost Entire U.S. Government (Double digit trillions annually) Ethereum Protocol (Single digital billions annually)

Source: Bankless Newsletter

Wyoming LLC

Wyoming was the first state to allow LLCs in 1977; today, over two-thirds of all newly formed businesses are LLCs.

In doing so, Wyoming granted individuals and businesses greater opportunities to express their personal autonomy by engaging in economic and social interactions based primarily on notions of "freedom to contract." The state also allows for financial and business privacy, leaving individuals and businesses to manage their own affairs.

Wyoming has also become the "Delaware of digital asset law" by adopting meaningful regulations on inter alia:

  • Wyoming became the second state to create a financial technology (FinTech) sandbox by enacting the "Financial Technology Sandbox Act" (Sandbox Act). (Arizona was the first state to create a FinTech Sandbox.)
  • Recognition of direct ownership rights for individual holders of digital assets of all types (virtual currencies, digital securities and utility tokens), applying the rules of commercial law to virtual currencies.
  • Authorization of the first true "qualified custodian (PDF)" for digital assets, including virtual currency and digital (tokenized) securities.

In addition to the regulations already mentioned, the state has passed three important laws in recent years as a foundation for the future of digital businesses.

  1. 2018 HB-0101 – Authorized digital company records, shareholders represented by keys.
  2. 2019 HB-0105 – Authorized company stock recorded and settled on a blockchain.
  3. 2019 HB-070 – Authorized and funded the Wyoming Secretary of State to develop and implement a blockchain-based filing system to support a "Corporate Birth Certificate" and "Corporate Proof of Good Standing."

On March 9, 2021, there was tremendous progress - as DAOs are already structured to be supported by LLCs, with the prior hope that they would comply with U.S. state and federal law - Wyoming bill SF0038 - Decentralized autonomous organizations. recognized DAOs as corporations approved by the Senate committee.

The bill now proceeds to the Wyoming House of Representatives for a vote, where it will become law if passed unaltered. This would make the state the first U.S. state to enact such legislation. This legislation would allow DAOs to set up shop in Wyoming, giving cryptocurrency projects more legitimacy and further strengthening the state's reputation as a blockchain-friendly jurisdiction for new businesses.

Series LLC

A Series LLC is a unique form of limited liability company ("LLC") in which the certificate of formation expressly permits unlimited segregation of membership interests, assets and operations into independent series. Each series operates as a separate entity with a unique name, bank account and separate books and records. A series LLC may have different members and managers in each series. The rights and responsibilities of these members and managers differ from series to series. Each series may enter into contracts, sue or be sued, and hold title to real and personal property.

The most important feature of a Series LLC is the liability protection available to each Series. The assets owned by a Series are protected from the liability exposure of other Series within the same Series LLC. A Series LLC is similar in concept to a corporation with multiple subsidiaries. However, the Series LLC concept is designed to allocate risk within separate entities without the cost of creating new entities.

Source: Otonomos

Otoco

Otoco is a subsidiary of the founding company Otonomos. The company recently launched a product that can instantly generate an ERC-20 token tied to an on-chain Delaware or Wyoming "Series LLC".

As described, a "Series LLC" can have thousands of "children" or "series." Each "parent" enters into a legal agreement with the owner of the "child" so that the "child" is completely controlled by the owner of the ERC-20 token.

Their offering is quick (within seconds) as it does not require the creation of a new entity with the state. The process steps require in further detail:

  1. verification of the LLC name (availability in Wyoming or Delaware).
  2. wallet connection (Metamask or WalletConnect)
  3. activation (sign smart contract)

To date (April 1, 2021), the Company has signed 194 LLCs by sending 39 DAIs to the OtoCo Company Assembly Smart Contract.

Ricardian

Ricardian is an NFT-Minter smart contract with embedded Delaware Series LLC Agreement functions and IPFS-hosted documents, managed by LexDAO (a "Decentralized Legal Engineering Guild") as a public good on Ethereum. The name and concept of Ricardian LLC is inspired by "ricardian contracts", i.e. agreements that are recorded with legal and code-based effectiveness.

A similar concept of open, Series LLC smart contract formation is being explored by the Otoco suite. With respect to differences: Ricardian LLC is agnostic to how users might deploy related smart contracts, aiming to be cheaper to form a Series LLC through NFT minting. For example, an Aragon or Moloch DAO membership might place this NFT into their vault or voting smart contract to signify operating as a Ricardian LLC Series.

also…

To provide a gas-efficient, obvious and agnostic way to mark LLC accounts, the Master LLC Agreement is maintained in a "non-fungible" token (NFT) minter. For compliance and practical purposes (such as lost private keys), a DAO can incubate and govern this NFT ledger and related legal framework.

Source: Ricardian Gitbook

Some of the registered NFT can already be found on OpenSea or Rarible

Final thoughts

The above changes would align with existing common law or other Wyoming initiatives and limit the time and cost of forming a DAO using an underlying LLC structure.

This could also significantly reduce costs or even eliminate the need for a customized operating agreement, depending on the scope of the legislation.

On the other hand, although the recently enacted legislation is a major step forward, there is an ongoing debate as to whether the overall approach is positive or negative.

However, i.a. Gabriel Schapiro called Wyoming’s LAO law “badly drafted prescriptivist technophilic legislation” whilst Preston Byrne suspects the bill was “tailor-made to fit one business' legally weird offering: the "LAO" product built by ConsenSys' OpenLaw "spoke."

Source: The Otonomist - March 2021 Wyoming Special; please also subscribe to their fantastic newsletter.

Recommmended readings


The website and the information contained therein are not intended to be a source of advice or credit analysis with respect to the material presented, and the information and/or documents contained on this website do not constitute investment advice.