Smart Blockchain Contract Law

Many propose to use block-chain technology to make “smart contracts.” Examples include:

  • Blockstream, which proposes to run contracts off of “sidechains” to the Bitcoin blockchain;
  • Ethereum, which is a decentralized publishing platform for powering contracts; 
  • OpenBazaar, which proposes to be a decentralized market for using Bitcoin to make purchases

Some say that smart contracts are "trustless" transactions because they execute transparently without the need to trust any particular person or institution.

Some say this trustless transparency results from "decentralized consensus," where a community of "miners" makes each decision (to execute a transaction or not to execute a transaction) by way of consensus that is controlled by no one.

Bitcoin Succeeds.

These proposals are early in their development. They build on the pioneering success of Bitcoin.

Bitcoin is truly remarkable. It is the first distributed ledger to operate usefully and perpetually, independent of any central institution or sponsor. See my discussion of a distributed public ledger.

Proposals for smart contracts seek to launch distributed ledgers to execute transactions that are more complex than Bitcoin; Bitcoin  just keeps debits and credits of “coins.”

“I Hereby Bequeath My Bitcoin to My Kids.”

Here is an example of a complex smart transaction, as explained by Stephan Tual, CCO of Ethereum:  Stephan says he holds digital assets like bitcoin. He imagines setting up a commitment under an Ethereum-based blockchain for distributing his assets upon his death. To govern that commitment, he imagines these rules as his digital last will and testament:

  1. If Stephan does not appear on the Internet for three consecutive months, then
  2. His assets will be transferred to accounts belonging to his two designated heirs.
  3. The issue whether Stephen has failed to appear on the Internet for three months would be resolved by a vote among “miners” that maintain the Ethereum blockchain.
(A premise behind Stephan's will is that if he does not appear on the net for three months, then he "must be dead.")

Transaction Executes Automatically.

In theory a smart transaction -- in this case Stephan's last will and testament -- will execute automatically, without involvement of a court or government or central authority, just as a transfer of bitcoin executes today. I analyze Stephan's smart will below. But first, let me provide some background . . .

Smart transactions – smart contracts – might govern myriad different deals, such as escrows, stock sales, credit default swaps, last wills and testaments, and corporate governance through shareholders.

Some envision smart contracts without the need for lawyers.

The concept is admirable. As an e-commerce lawyer, I am eager to see it in action.

But I am skeptical that smart contracts and smart transactions can exist in a pristine universe, separate from traditional law, traditional legal analysis and traditional legal draftsmanship.

Law Does Apply to Blockchains.

An old saw holds that “law abhors a vacuum.” What that means is that law applies wherever it needs to apply. People cannot get away from law. They cannot declare themselves, their computers, their data, their assets, their transactions, their communications, or their blockchains as free from law (though they may influence which law applies and how it applies).

Accordingly, you can control some bitcoin, subject to the Bitcoin blockchain. And the Bitcoin blockchain operates without direction from government authority. But that does not mean law has no impact on your control of your bitcoin. So – for instance – if you got your bitcoin by running the illegal Silk Road market, then law can take your bitcoin from you and cause it to be sold, with the proceeds going to the government. Reference the experience of criminal suspect Ross Ulbricht.

open ledger

Legal Talent Needed.

Let’s go back to Stephan Tual’s last-will-and-testament example above. Experience has proven that writing, interpreting and executing a will can be tricky, just as writing, interpreting and executing a contract can be tricky.

Any person can write a legally-binding will or contract. You don’t have to be a lawyer to write these documents, whether you write them on paper, in software code or on stone tablets.

However, my experience is that some people are more skilled at writing such documents than others. Some lawyers are more skilled at it than other lawyers.

Legal training, legal analysis, and experience in the practice of law can all be helpful in composing wills, contracts and similar documents so that they achieve the desired outcomes. When you want to write a contract for the sale of widgets, you are not required to retain a lawyer to do the writing. You can do it yourself. However, you may get a better outcome if you do hire a lawyer who is qualified and talented at writing sales-of-widgets contracts.

How to Avoid Misunderstanding

Poorly conceived terms in a will or contract can be misinterpreted. They can be ambiguous. Or they can fail to anticipate contingencies that thwart the real intent of the document.

Here are examples of misinterpretations, contingencies or issues that might apply to Stephan Tual’s last-will-and-testament:

  • What happens if Stephan has not “appeared on the Internet for three months” because he is sick? He is still alive, and he may still need his digital assets. Why must they now go to his heirs?
  • What if Stephan has died, but someone has stolen his credentials and falsely appears on the Internet as him? (In this scenario, one can imagine a court stepping in and forcing the transfer of Stephen’s assets to his heirs, even though -- according to the evidence conveniently available to the Ethereum miners -- he still “appears” on the Internet.)
  • What if 17.5 years from now the “Internet” is replaced by something so strange and so unanticipated that the “miners” cannot interpret what it means to “not appear on the Internet for three months”? (To be fair, similar problems can bedevil traditional paper wills. A will that is well-written in 1998 may make no sense in 2015 owing to changed circumstances.)
  • What if someone tricked Stephan into approving an Ethereum last-will-and-testament that he did not understand or intend?
  • Might there be ways to structure Stephan’s last-will-and-testament so as to reduce the tax liability incurred by his heirs?
  • Think of the overhead cost of “miners” constantly monitoring the Internet, indefinitely, to evaluate and vote on whether Stephan has appeared somewhere over the past three months. Is it practical to expect that this overhead can be sustained for the next 40 years of Stephan’s life?
  • What if the Ethereum blockchain has long stopped functioning? Might a court still interpret and enforce Stephen's code as his last will and testament? (The answer might be yes, unless Stephan has explicitly stated otherwise. The court might consider his old code to be his "written and signed" will -- equal to a will he wrote and signed on paper -- even though it cannot be executed through the original blockchain.) 

Intended Terms Can Be Coded Into the Will or Contract.

A skilled lawyer – or other professional such as an accountant – could help Stephan understand these problems and address them. They might be addressed variously by way of
  • the coding behind his “smart will,”
  • the publication of special words/terms connected with his will (e.g., "This will is effective only if executed through XYZ blockchain. If XYZ blockchain ceases to function, then this code does not constitute my legally-binding last will and testament.")
  • the adoption of measures that address risk (e.g., the division of Stephan’s assets into multiple accounts, corporations or trusts), 
  • helping Stephan include a contingency for third-party arbitration, or
  • recommending that Stephan manage his assets a completely way.

All those things are the stock in trade of the traditional practice of law or accounting.

To Be Effective, Contract Practice Must Keep Up with Technology.

In a “smart transaction” environment, traditional legal analysis and legal draftsmanship will encounter new twists. The same happened when we moved from old-fashioned paper contracts to modern electronic contracts. For instance, the “battle of the forms” – under which contract terms and conditions are negotiated – can unfold differently over the Internet compared to how they unfold when people exchange paper documents via snail mail.

Transparent Ledger

Therefore lawyers will need to acquire new skills to help clients compose and evaluate contracts for the smart, blockchain universe.

By: , Author, The Law of Electronic Commerce

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