If you know anything about DAOs and the paradox of corporate form, then you also know about defi and crypto. To buy-in into cryptocurrency or blockchain is to own a piece of the financial revolution. You may think you are conceding a portion of your investment portfolio and accepting the possibility that alternative currencies are just a good and wise bet. Perhaps you have been told (and now believe … or believe up to a manageable portion of risk) that this is the new dot.com and you simply don’t want to be left out. FOMO is alive and well. What is happening, however, are the noisy and bold ideological decentralized finance (or “defi”) revolutionaries are winning the day; and investing and investment will never be the same.

One of the more interesting investment options for those willing to jump into the movement is in Decentralized Autonomous Organizations (or “DAOs” for short).  The purpose of this post is to consider DAOs in the context of cryptocurrency investment and the paradox around corporate form created by their very existence. I will also propose some formation options for those wanting to invest or create a DAO as an investment vehicle. Before moving headlong into DAOs, a word about the concept of “defi” is helpful.

1. Decentralized Finance (or “Defi”)

Of all the rallying cries of the movement, the loudest and most persistent is that of “defi.” Among the true believers it is the first article of faith of cryptocurrency. The idea, however, isn’t new. Defi leans heavily, if not accidentally, into the Austrian School of Economics which places a subjective value on currency and holds any government involvement, management, or manipulation only leads to, among other things, inflation and wealth inequity. You can see why their message of decentralized finance is persuasive.

So, a currency for the people and by the people, sort of. No government manipulation or even involvement. Create a defined limit of the currency for scarcity purposes. Allow “equal” participation in the acquisition of the value (the coins, tokens, etc.). Create little “constitutions” (called “smart contracts”) where everyone is treated the same. Eliminate central control and shift the power base to the “group.” Take all that together and you have a crypto version of a free market currency — and you have decentralized finance.

Can what is good for currency economics also be good for investment structure and strategy? Perhaps the better question is whether the ideology of decentralization can be applied to investments and investors. The concept of Decentralized Autonomous Organizations was created to answer this question in the affirmative. But their very existence creates a legal structural paradox that stretches across all borders.

2. DAOs

A DAO is an online community that uses a blockchain to function and transact toward a specific purpose or mission (it can be an investment or something else). These are social and technical communities that virtually gather and pool resources to achieve an aim. In the DAO there is no hierarchy and no central control. Also, there is no corporate form and therefore no bylaws, operating agreements, subscription agreements, or the like. The “rules” of investing and participating, just like for cryptocurrencies, are set out on the blockchain in “smart contracts.” In all, the DAOs achieve an “organization” of purpose that is “autonomous” to the group and “decentralized” in function and operation. Except here is the problem: in most justifications, with respect to corporate form and formation, even a nothing is a something, and that something could end up being the wrong thing.

Under most jurisdictions, an “organization” organized by two or more people for a purpose, without corporate formalities, is a general partnership.  Because corporate formalities were not followed in this general partnership, then there is no liability protection, and usually organization liabilities will flow joint and severally to each of the participants (or “partners”). That is, the general partners are each, as individuals, on the hook for all the partnerships debts, obligations, and liabilities. This is an ominous legal reality for DAOs of any size and their members/partners.

If you are an aspiring participant in a DAO, or if you are considering forming a DAO for a specific aim (all that smart global “autonomous” energy is just too much to resist), here are some considerations in dealing with the decentralized paradox of corporate form:

    • Do Nothing

Stay true to your revolutionary principles and let decentralization ride independent of corporate form. Embrace the full impact of “cyber anarchism” and proletariat power inside the zone of DAO investment. Risk joint and several liability on your commitment to the cause. I mean, that is totally ill-advised and stupid from a legal perspective, but much respect for your commitment to the pure ideology.

    • Go to Wyoming

Everyone should go to Wyoming at least once in their lives, if not many times, to watch the wolves (no wolf-politics please — they are magnificent creatures no matter your politics), the Elk, the bears and bear cubs, the eagles fishing, etc. But none of that is relevant here. You should consider Wyoming because in July of 2021 Wyoming codified DAOs by applying the limited liability code to a DAO organization. In other words, that “nothing” decentralized crypto organization you so dreamed of building or investing in under Wyoming law can be a “DAO LLC” and receive member/participant limited liability (as well as flow through tax treatment). The paradox hasn’t fully gone away, however, and there will be real time tension play out as the code is applied to new DAO entities.

One additional point of caution in considering Wyoming. Though Wyoming should be commended for its visionary efforts to codify DAOs, it is only a state jurisdiction with an overlaying federal government, which is slow and uncertain in cryptocurrency regulation. As such, in Wyoming you may achieve “DAO LLC” status, but you may also be subjecting your venture to the risk of fluid and arbitrary federal rules.

    • Go Offshore

By “offshore” we mean, generically speaking, those countries looking to attract DAOs, crypto investment companies, and investors. It is interesting to watch the regulatory bodies of such offshore jurisdictions as they attempt to form favorable legislation and regulatory rules and guidelines to the industry. Malta, for example, was ahead of Wyoming in legally recognizing DAOs and has done a valiant job, even if it has come up short by being wrapped around the axil of the decentralization paradox.

Other jurisdictions such as the Cayman Islands, British Virgin Islands, El Salvador, Singapore, and Gibraltar, to name a few, are creating attractive and favorable legislative and regulatory schemes to the industry generally. They have not yet, however, solved the structure and limited liability issue specific to DAOs, but they will, in time.

One of the novel strategies we use to benefit our DAO entity clients is to use a limited liability offshore entity in a jurisdiction we are confident will continue to be favorable to the industry. Once this step is achieved, we then overlay principles of decentralization (i.e., use “smart contracts” as a basis for governance) to the limited entity. This allows for the algorithms to play their role, for the “autonomous” group to have some level of liability protection, and to attach to a region where investors are growing confident in a regulatory environment. We are, in essence, using an offshore strategy to do what the Wyoming code is attempting to do – finding a way to have the best of both worlds, limited liability with decentralized (“smart contract”) management.

There are many details to be worked out, and the advice of an expert offshore attorney should always be considered before implementing this.

3. Conclusion

Decentralized autonomous investment is here to stay, and the rise of the DAOs is just the beginning and part of a cool new revolution in global finance. The conflict of corporate form is real, however, but it can (and should) be overcome with (i) jurisdictions that have visionary regulatory schemes and (ii) creative international practitioners who can fit old corporate notions into the new movement of decentralized investment.

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