A Decentralized Autonomous Organization (DAO) is a structure now typical of Web3 – built on smart contracts, automated rules and community governance. DAOs have no management board, no registered office address and no traditional articles of association. Instead, they have code, tokens and, sometimes, voting on Discord. It sounds innovative, but from the perspective of European law it is a structure that is difficult to classify.
Here, Wojciech Ługowski, attorney-at-law and Managing Partner of Lawarton, poses the following critical questions:
Can a DAO be recognised as a legal entity?
Can it be sued, enter into contracts, be assigned liability or proprietary rights?
Does it remain outside the legal system as a technological, but not legal, phenomenon?
Lack of legal personality as the fundamental problem
Under not only European, but also US and UK law, for something to be recognised as a body corporate it generally has to meet certain criteria: have a registered seat or office, an organisational structure, a purpose, articles or other constitutive documents and the capacity to be the holder of rights and obligations.
Meanwhile, a DAO:
- is often not registered in any jurisdiction,
- has no representative bodies (or they operate anonymously),
- has no formal representation or “address for service”,
- is governed by an indeterminate number of token holders.
From the perspective of European civil law, it is therefore difficult to attribute to a DAO the features of a corporate entity. This means that one cannot effectively enter into a contract with a DAO, nor can it be sued as a separate entity. Furthermore, it cannot be assigned proprietary liability and cannot be granted rights (for example, register a trademark or become a shareholder/partner).
As a result, even though a DAO may operate, manage funds and even recruit teams – formally it “does not exist” as a distinct legal person.
How does this work in practice?
In practice, DAO projects often use so-called legal wrapping. That is, they create separate legal entities (e.g. foundations, companies) to handle particular functions.
In this way, foundations manage assets and represent the DAO in dealings with business partners, companies (e.g. limited liability companies) hire developers and deliver further products, and DAO members vote only on proposals and directions for the project’s development without binding effect on the entities, or on the basis of agreements concluded between those entities and individual DAO members.
This creates a kind of illusion of the DAO operating as an organisation, but in reality most operations are carried out by traditional entities. A DAO without a legal form is then more of a “communication and coordination structure” than an actual legal entity.
What do European regulations say?
There is still no clear, dedicated regulation on DAOs in the European Union. At this point, the currently in force Markets in Crypto-assets Regulation (MiCA) concerns token issuers and providers of services related to crypto-assets (Crypto-asset Service Providers – CASPs), but does not recognise DAOs as a distinct category of entity.
On the other hand, MiCA imposes new obligations relating to token issuance or the provision of services linked to crypto-assets on existing entities. For this reason, if a DAO wants to operate in the European Union in a compliant way, it typically must adopt at least a partially formalised structure that makes it possible to meet these regulatory requirements.
In legislative discussions, there are voices suggesting that DAOs may serve a function similar to partnerships or associations. This may lead to a situation where DAO members are treated as co-owners of the assets and are jointly and severally liable for the DAO’s obligations (everyone is liable for everything). Decisions taken by DAO members may produce legal effects; however, this does not waive the obligation to register with the competent authorities, nor does it relieve them of tax obligations or AML/CFT duties. What is more, in most jurisdictions conducting business activity without the appropriate registration may give rise to administrative and, in some cases, criminal consequences.
In such cases, even without legal personality, legal effects may arise and fall directly on identifiable persons involved in the project.
Models for possible formalisation of DAO
If DAOs want to operate in compliance with the law, they can use the following registration options. A DAO may choose one option or combine several legal forms, depending on the function, in order to achieve the best results.
- Foundation (e.g. Liechtenstein, Switzerland, Panama)
A foundation can act as the trustee of the DAO’s funds, manage its assets and be the contracting party in partnership agreements. It has no owner; it only has founders and acts for a defined purpose. This form is popular among large open source projects.
- Company (e.g. private limited liability company – OÜ in Estonia)
A popular solution for many start-ups, where the company takes on operational activity in Europe and support functions such as hiring employees and developing projects.
- Partnership (e.g. partnership in the UK)
Suitable for smaller structures, but it involves the partners’ personal liability. In such a case the DAO essentially operates as a “cooperation agreement”.
- LLC with the DAO as a membership agreement (e.g. Wyoming DAO LLC)
This is an experimental model. In some US states, a DAO can be structured as a limited liability company. This makes it possible to reconcile the flexibility of smart contracts with registration requirements.
- Association or cooperative
In some jurisdictions it is possible to register a DAO as a form of association (e.g. a simple association). However, this limits the scale of operations to a single jurisdiction and makes it harder to go global.
Each of these solutions has its own advantages and drawbacks — ranging from cost and transparency to the scope of liability. For some DAOs, the absence of legal personality is considered a value in itself, but maintaining such a structure is becoming increasingly difficult in the face of growing regulation of new technologies.
Key legal risks for DAOs operating without a legal form
Ługowski points out that a DAO without a legal form operates in a “grey area”. This entails a number of risks:
- rights cannot be enforced in the name of the DAO (e.g. claims, licences),
- individuals servicing the DAO may bear personal liability for the DAO’s obligations,
- the DAO as such cannot become a party to any contract,
- taxes and other public law obligations may “fall” directly on the persons involved in the project,
- failure to register business activity may result in criminal sanctions,
- operating in regulated markets without the appropriate licences may trigger significant financial penalties.
The lack of a clear form also means that AML rules, sanctions regimes or consumer protection regulations may be practically unworkable to comply with. This, in turn, puts the entire DAO project at risk and blocks its ability to grow.
Will the EU create a separate legal category for DAOs?
For now, there are no official plans to create a “DAO-type legal person” in EU law. However, there are voices arguing that what is needed is a flexible, digital and transparent form that does not replicate traditional models but allows DAOs to operate legally.
An alternative could be the harmonisation of national laws so that, for example, a foundation or association could represent a DAO, provided that the governance rules are disclosed (e.g. in the form of a DAO Constitution).
In the near future, the challenge for the EU will be to ensure a legal form for DAOs that is appropriately tailored, without “killing” their advantages and potential. In turn, the challenge for DAOs will be to reconcile decentralised governance of structures and funds with AML/CFT requirements and to introduce minimum standards of transparency. Finally, DAOs and the EU will need to determine when a DAO “enters into economic activity” and what consequences this may have.
Summary
Today, DAOs in Europe operate more “alongside the law” than “within the law”. It is possible to create smart contracts, vote collectively and manage funds, but without a clear legal form it is hard to speak of a full-fledged legal entity. This means not only practical difficulties, but also regulatory risk.
The coming years will show whether a unified European model for DAOs will emerge, or whether each project will have to look for its own optimal solution. For now, one thing is certain – without at least partial formalisation, DAO remains more of a social than a legal phenomenon.