SMART CONTRACTS AND THE LAW

Existing Precedence

Despite several legal professionals stating that smart contracts do not necessitate the creation of new laws to govern them, several countries have ratified laws specific to smart contracts. Within the United States, states were among the first jurisdictions to enact legislation specific to smart contracts.

Different states have defined smart contracts differently (which in and of itself can be seen as problematic as it has created a patchwork system with inconsistent definitions). The State of Arizona defined a smart contract as, “an event-driven program, with state, that runs on a distributed, decentralized, shared and replicated ledger and that can take custody over and instruct transfer of assets on that ledger”. The State of Tennessee defined it as, “an event-driven computer program, that executes on an electronic, distributed, decentralized, shared, and replicated ledger that is used to automate transactions, including, but not limited to, transactions that: (A) Take custody over and instruct transfer of assets on that ledger; (B) Create and distribute electronic assets; (C) Synchronize information; or (D) Manage identity and user access to software applications.” Other regions such as Belarus and Gibraltar have also enacted legislation specific to smart contracts [15]. Below is a map of regions that have explicitly stated where smart contracts fit in their laws [16].

Smart Contracts and the Law: Body

Legal Professionals and Smart Contracts

As smart contracts continue to evolve and gain uptake, lawyers will begin to see them more often. There are three possible versions of integrating smart contract technology into legal transactions:

Version One: The simplest possible version for implementing smart contracts with today’s technology and systems, is to assume that a traditional legal document is created first, which is then translated into coded smart contract terms. With such an implementation, a smart contract acts to automate existing legal terms. Integrating smart contracts after a legal document has been drafted allows lawyers to retain their current duties and responsibilities. After the contract is finished, it would be the responsibility of a coder to translate it into a smart contract. This integration opens opportunities for skill sets that can ensure that both the software code and legal implications are correct for the contract execution.
Version Two: The next evolution of integrating smart contracts and legal contracts, is to draft both the smart contract and the legal contract simultaneously. With such an integration, lawyers who have coding experience would be favoured over lawyers without. A lawyer with a robust coding background may be able to complete this integration on their own, otherwise a lawyer and a coder would work closely together to ensure that the traditional contract and the smart contract will execute with the same results.
Version Three: The most integrated version of smart contracts and legal transactions, is to entirely replace a written legal contract with a smart contract. In such a scenario, a smart contract would be coded as a stand-alone legal document. This type of integration presents many more opportunities for training of coders who are legally knowledgeable and lawyers who are technologically adept.

The process of translating a written legal contract into a smart contract could be problematic as software developers may not understand the intentions and promises of the contracts from a legal standpoint to the same depth as lawyers. In this case, lawyers familiar with coding could be asked to convert a traditional term sheet into a smart term sheet by identifying which contract terms, as well as practical and legal details, would be implemented as a smart contract and which, if any, will not. By creating a smart term sheet, the parties can also integrate the advice of counsel into the instructions given to the software developer.

For example, the term sheet could decide to take priority over the code if there were to be conflict between the two. Since smart contracts cannot execute based on events in the real world without input of external information, the lawyer’s added-value would also be to identify which criteria/indicators would trigger the execution of the contract. The lawyer would become a so-called “oracle”, a trusted third party making the link between the real world and the blockchain, by entering external verifiable data, or identifying who will provide the relevant information into the blockchain, in order to ensure that the contract will be correctly self-executed [17].

Each of these implementations come with their own strengths and weaknesses according to the resources and advancement of a given case. It is important to note that fully or partially integrating smart contracts into legal transactions may not provide increased efficiency or benefits. For example, with the simplest integration of smart contracts and legal contracts lawyers may need to undertake more work to automate their contract than they would have by only writing a traditional contract. In a smart contract scenario all action to be carried out by the smart contract must be coded before a contract can be signed. If one party backs out of the agreement, the software code will be discarded prior to execution. This results in lawyers and coders expending significant energy prior to the signing of a contract, risking the possibility of receiving little reward.

Smart contracts have the potential to create a whole new field of law. The integration of smart contracts and legal contracts allows not only for automation of the contract execution, but also the potential for law firms and lawyers to expand their business. More roles will open up with people who have both legal and technological expertise. These people will be instrumental in ensuring that legal contracts and smart contracts execute in the same manner, creating the same results. The need for interpretations of legal software code could be huge and verification of these interpretations will be necessary.