The world of finance has been turned on its head. Digital assets and distributed ledger technology, once the realm of tech enthusiasts, are capturing the attention of institutional investors. We are witnessing a profound shift in how value is created, stored and exchanged; it’s a reimagination of the very fabric of finance. The decentralised financial revolution is here.

Many jurisdictions have introduced or are in the process of introducing formal structures for the regulation and governance of decentralised autonomous organisations. However, such organisations have proved to be a challenge for legislators and regulators because of the way in which they are created and are intended to operate.

Bermuda is known for being a forward-thinking jurisdiction when it comes to financial innovation. The Bermuda Government introduced a sector-specific legal and regulatory framework in 2018 that provides a fully comprehensive licensing regime for all types of digital asset business, including many activities conducted by DAOs.

Since the launch of the original DAO, the Eris platform in 2016, they have gained popularity as alternative structures for collaborative and sometimes financially focused digital communities. While DAOs have been launched for many different purposes, there is a noticeable focus on access to digital financial opportunities. For example, many of the DAO structures already established manage digital wallets that contain digital assets for project funding.

What is a DAO?

A DAO is a type of organisation that operates on distributed ledger technology, allowing it to function without the need for a centralised authority. DAOs are governed by smart contracts, self-executing contracts with the terms of the agreement directly written into code. They can be used for a variety of purposes, including managing funds, making decisions in a decentralised manner and facilitating collaborations between individuals across the globe. Because they operate on distributed ledger technology, DAOs are typically global in nature and can interact with members and stakeholders from different jurisdictions.

While there does not appear to be an agreed or accepted definition of what constitutes a DAO, the Law Commission of England and Wales in its 2022 Consultation Paper has defined the DAO as “a novel type of technology-mediated social structure or organisation of participants involving the use of open-source, software-based systems”.

This definition was significantly influenced by the decision in the high-profile case of Ooki DAO. In this case, the Commodity Futures Trading Commission successfully obtained a default judgment against Ooki DAO for breaching the Commodity Exchange Act 1936 by operating a DAO that functioned in a manner similar to a trading platform without being registered as a futures commissions merchant.

It was decided that the Ooki DAO in question was an unincorporated association under California law and was a legal person, thus permitting them to be sued. Worse still, as the DAO was not organised using an existing type of limited-liability corporate vehicle, liability of those identified was unlimited.

Regulation of DAOs in Bermuda

The Digital Asset Business Act 2018 provides the legal framework for regulating digital asset businesses in Bermuda with oversight and guidance provided by the Bermuda Monetary Authority. While the Act itself does not specifically mention DAOs, it covers a broad range of activities related to digital assets such as token issuance, payment services and custodial wallet services, which are activities conducted by many DAOs.

It is important to note in respect of the Act that it identifies specific activities which, if conducted in or from within Bermuda, require the person conducting such activities to obtain a licence from the BMA. Therefore, developers looking to launch or operate a DAO in or from within Bermuda should consider whether the proposed activities of the DAO fall under the Act — and, if so, consider how best to establish the organisation in Bermuda to ensure both compliance with the Act and limited liability of participants.

Some of the issues to date have been that DAOs have been created to provide an alternative to traditional corporate structures, doing away with fiduciary obligations and centralised oversight, but with that has come potential unlimited liability for those involved. Also, where jurisdictions have introduced legal structures to allow for legal recognition of a DAO, many have contradicted or been unable to sufficiently provide for the way in which DAOs are designed to be governed and used.

Either way, whether a DAO uses a traditional, novel or no formal legal structure in which to exist, it will not prevent the law from determining how the “persons” involved — whether founder, governance token holder or other participant — are to be treated from a legal perspective, which then identifies who is responsible, liable and subject to applicable regulatory oversight.

Fostering Bermuda’s reputation as a hub for appropriately regulated innovative technology, this month the BMA issued a consultation paper: Call for Proposal – Embedded Supervision in the contact of Decentralised Finance. The paper encourages stakeholders to contribute to shaping the future of regulatory supervision of digital finance by joining an initiative to pilot test regulatory approaches for decentralised finance models, including DAOs.

The latest initiative by the BMA further demonstrates its commitment to developing the regulatory framework for digital finance.

In summary, while DAOs themselves are not directly regulated as a distinct entity under Bermuda law, the activities they engage in, especially those involving digital assets, may fall under the jurisdiction of existing regulations such as the Digital Asset Business Act.

Accordingly, anyone seeking to launch a DAO in or from within Bermuda should take appropriate legal advice on how to do so without breaching the Act or creating unintended and unlimited liability for those involved.

• Yan-Xia Rogers is a corporate lawyer at Carey Olsen