This is a simple, mobile-friendly resource for comparing various legal structures used by DAOs in the US as well as a few international jurisdictions. It is intended to be a starting point for founders and their legal counsel to better inform them about the issues as they consider potential legal structuring solutions for DAOs.
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DAO operates with no formal legal entity.
If operating for profit or if token holders can vote to distribute the DAO treasury to themselves, there is a risk that a DAO can potentially be deemed a de facto general partnership.
However, no US court has found a DAO to be a general partnership to date, and questions remain as to whether all token holders would be deemed to be general partners
Highly decentralized DAOs particularly those with narrow scope of activities / limited off-chain operations that have less practical tax or regulatory enforcement risk given the decentralized nature and short term operations thus limiting the risk of not having a legal entity; or DAOs made up of hobbyists, not contractors or employees that receive regular income from DAO
Examples include any DAO acting without a formal legal entity
Token Holders are potentially general partners in a de facto general partnership; however, questions remain as to whether token holders will need to do more than just hold tokens to be deemed general partners (e.g., participate in governance)
• DAOs that operate without any formal legal structure could be subject to claims that they are a general partnership (if for profit) or an unincorporated nonprofit association (if not for profit)
• DAOs may form a legal entity to perform certain of their operations or hold certain of their assets, but careful analysis should be done to delineate what is encompassed by the legal entity (i.e., what is the legal entity “wrapping”), because the DAOs activities and assets may not always be coextensive with the legal entity
• The appropriate entity structure for a DAO is highly dependent on the circumstances of that specific DAO. There is no one-size-fits all solution (yet). Such factors should be considered when contemplating the appropriate entity structure: (i) the activities of the DAO (ii) the activities of the proposed entities (iii) the degree of decentralization of the DAO (iv) the number of DAO members (v) the activities of the protocol underlying the DAO.
No legal formalities required
A general partnership is formed when two or more people engage in a business as co-owners for profit (notwithstanding a lack of intent to form a general partnership)
A general partnership could be the entity type that is deemed to exist prior to the formation of other entities
If DAO is deemed to be a general partnership, the general partnership must file State and Federal tax returns, as well as tax returns in any other jurisdiction in which the DAO has active members that receive DAO treasury payments.
Each partner should file a Form K-1 to report their share of income
• Legal entities can be formed to potentially insulate various participants in the DAO ecosystem from liability
• Veil Piercing. US Courts may disregard the limited liability protections offered by entities in the event they find the entities to be undercapitalized, or a lack of “corporate formalities”, potentially resulting in direct liability for the principals involved
Independence
. Regulators and US Courts may impose “control person liability” or disregard the legal personhood of entities that are directly controlled by principals (i.e.. a situation where an entity is the alter ego of its owner), potentially resulting in direct liability for the principals involved
If the DAO is deemed to be a general partnership, the DAO itself would have legal personhood (as a general partnership)
If DAO is deemed to be a general partnership, the Founders are potentially deemed partners and each liable for 100% of the liabilities of the partnership, after creditors first try to satisfy a liability from the assets of the partnership itself
To address this risk, a DAO member could individually form an entity to act as owner of the DAO tokens and function as a tax and liability blocker
If DAO is deemed to be a general partnership, token holders may be treated as general partners, the same as Founders and managers.
A DAO member could individually form an entity to act as owner of the DAO tokens and function as a tax and liability blocker
If DAO is deemed to be a general partnership, all partners would be treated the same by law and each be fully liable for 100% of partnership obligations, although as a practical matter, persons known to exercise functional control of the DAO, such as through a multi-sig or as key developers, would face heightened risk as they are more likely to be the subject of third party claims
• US regulators and courts are likely to seek an expansive application of US securities regulations to DAOs and DAO Tokens. Notwithstanding the legal structure,US regulators and courts are likely to focus on the fundamental economic relationship between actors, favoring function over form.
◦ DAO Tokens as securities. DAOs that structure legal entities such that each token represents ownership of that legal entity could be potentially conceding the characterization of their token as a security. In any event, consideration should be given to whether transactions in the DAO Tokens could be deemed to be “investment contracts” under Howey, or “notes” under Reves (See Latham Memo). In addition to US federal securities laws, US state “blue sky” securities laws may be implicated as well.
◦ DAOs as Investment Companies. Consideration should be given to whether the DAO constitutes an investment company under the Investment Company Act of 1940
• Partnership Interests as Securities.
◦ US Courts have deemed General Partnership interests to not be securities when the General Partners retain enough control and have enough expertise that they are not dependent on the efforts of a particular party
◦ The SEC has argued that DAO Tokens are in fact securities when token holders do not have effective voting rights or are dependent on a particular sponsor or “active participant”
• Consideration should be given to whether efforts to form legal entity could lead to persons responsible being deemed to be “active participants” under SEC guidance
• Using an Offshore Foundation or Special Purpose Trust structure may result in less US-nexus, although US regulators will assert jurisdictions where possible if activities are on-shore or affect US persons; geoblocking US web addresses or otherwise taking measures to limit “flowback” of tokens to the US could reduce the risk of falling under US jurisdiction
If the DAO is deemed to be a general partnership, it will be governed by holders of a majority of partnership interests (but as a practical matter, this governance power will be coextensive with the matters that DAO members are able to vote on, which may or may not be limited, such that significant governance power may functionally rest outside the general partnership (e.g. with a dev team; persons with authority over private keys or multisig authority, etc.)
Note that this Matrix only attempts to address more common structural scenarios at a high level. You should confer with a qualified tax professional before making any determinations about any particular tax treatment or situation.
Background
DAOs as “entities” for US tax purposes:
• Whether an organization is an entity separate from its owners for federal tax purposes is a matter of federal tax law and does not depend on whether the organization is recognized as an entity under local law. (Treas. Regs. § 301.7701-1(a)(1).)
• A joint venture or other contractual arrangement may create a separate entity for federal tax purposes if the participants carry on a trade, business, financial operation, or venture and divide the profits (Treas. Regs. § 301.7701-1(a)(2); Luna v. Commissioner, 42 T.C. 1067 (1964) (factors for determining whether a tax entity exists).)
• An entity not organized explicitly as a corporation could normally choose to be treated either as a partnership or as a corporation for federal income tax purposes. However, partnership classification is not available for an entity that is classified as a “publicly traded partnership,” which generally includes entities whose equity is “readily tradable” if more than 10% of their income is “active.” (I.R.C. § 7704.)
• Widely held DAO governance tokens typically are “readily tradable,” and protocol fees typically are “active.” Accordingly, the remainder of this discussion assumes that any DAO would, by default, be treated as a corporation for US tax purposes under the publicly traded partnership rules, even in the absence of a legal wrapper. However, keep in mind that some DAOs might not be treated as entities, or might be treated as partnerships.
Deemed corporations as domestic or foreign:
• A corporation “created or organized” in the United States is domestic, even if it is also “created or organized” outside of the United States. (I.R.C. § 7701(a)(4); Treas. Reg. § 301.7701-5.)
• While there is little guidance on what it means for a deemed corporation to be “created” in the United States, private letter rulings (PLRs) suggest an important element is whether the parties opted to have US law apply to govern the corporation’s operations. See PLRs 9221010 and 8601040 (organizations created contractually among the United States and other sovereigns were foreign because they were governed by contract, not by US law); see also PLR 201305006 (a contractual venture between a US parent and its wholly owned foreign subsidiary was a foreign entity where, among other things, parties explicitly specified the application of foreign law). Moreover, Congress has previously considered and rejected a “mind and management” test for determining an entity’s residence; thus, the location of an entity’s shareholders does not appear, in and of itself, to be dispositive. However, neither PLRs nor prior congressional discussions are binding on the IRS or the courts.
DAOs as foreign corporations:
• DAOs that are foreign corporations for US tax purposes would be subject to 21% US corporate income tax, and to 30% US branch profits tax, for a combined federal tax rate of 44.7%, on income “effectively connected” with the conduct of a trade or business within the United States.
• US equity holders of DAOs that are foreign corporations and treated as “passive foreign investment companies” (PFICs) could be subject to adverse US tax consequences if they dispose of their equity at a gain, unless they have elected to include in income, each year, their share of the DAO’s net income and net capital gain, whether or not distributed. Very generally, a PFIC is a foreign corporation more than 75% of whose gross income consists of interest, dividends, capital gains, and other passive income, or more than 50% of whose assets are held for the production of passive income.
• 10% US equity holders of DAOs that are treated as “controlled foreign corporations” could also be taxed on a pass-through basis on their share of the DAO’s income and could be subject to additional information reporting requirements.
If DAO is deemed to be a general partnership, which is a pass through entity for tax purposes, DAO token holders could have taxable income from a range of DAO activities
Depending on the jurisdiction, if the DAO is deemed to be a general partnership, it may have filing and payment obligations, not only for income tax, but also indirect taxes, withholding taxes, stamp taxes, etc.
• DAOs with formal legal entities will have a better ability to engage professional service providers (e.g., lawyers), hire (and provide benefits to) employees, get bank accounts, and otherwise engaging in business activities
• When engaging service providers, consideration should be given to local employment law implications, particularly if they are full time and salaried
• Consideration should also be paid to whether any AML / KYC obligations are required for transfers of digital assets to service providers
• If using an off-shore structure, DAOs should consider whether having local service providers can help mitigate ECI and other audit risk (See e.g., the EU Non-Cooperative Jurisdiction List)
Not every legal entity is a viable capital-raising vehicle, so DAOs should carefully consider what type of entity to use to raise capital, potentially forming more than one entity
A DAO could opt to raise funds by selling tokens, but careful consideration should be given to potential securities laws and tax implications
DAO operates with no formal legal entity.
If operating for profit or if token holders can vote to distribute the DAO treasury to themselves, there is a risk that a DAO can potentially be deemed a de facto general partnership.
However, no US court has found a DAO to be a general partnership to date, and questions remain as to whether all token holders would be deemed to be general partners
A DAO could form a Limited Cooperative Association, which is an entity that combines traditional co-op principles with a more flexible capital structure and governance framework
A DAO (or its founders or token holders) can form a legal entity that undertakes certain activities of the DAO (e.g., act as token seller) or protocol, or holds certain assets
A DAO (or its founders or token holders) can form a limited liability company which DAO members will be the owners of.
States like VT and WYO have enacted statutory regimes that are specific to DAOs, all of which are untested by courts. DE does not have a DAO-specific statute but is the most common US jurisdiction for forming a for-profit LLC.
A DAO (or its founders or token holders) can form an ownerless foundation (most commonly in Cayman, Panama, or Switzerland) that can be the recipient of a treasury for grant making and engage in other activities subject to a flexible governance structure
A DAO (or its founders or token holders) can form a special purpose trust (Guernsey or Cayman) by transferring certain assets (e.g., IP rights, potentially tokens) to Trustees to be used to further a specific purpose related to the DAO
A DAO working toward a “nonprofit” goal (statutorily defined by each state) can form an Unincorporated Nonprofit Association (UNA) or a WY Decentralized Unincorporated Nonprofit Association (WY DUNA)
Highly decentralized DAOs particularly those with narrow scope of activities / limited off-chain operations that have less practical tax or regulatory enforcement risk given the decentralized nature and short term operations thus limiting the risk of not having a legal entity; or DAOs made up of hobbyists, not contractors or employees that receive regular income from DAO
Examples include any DAO acting without a formal legal entity
DAOs with US-centric members that intend members to be active contributors to the DAO (with limited exceptions) and wish to abide by modern co-op principles. Not ideal for DAOs with a very fluid membership base who wish to remain pseudonymous.
A specific subgroup of the DAO or individual Token Holder that wants to form an entity to act as liability and tax blocker
DAOs that have a relatively definable group of members with activities that are relatively low regulatory risk and require a legal entity to interact with traditional service provider
Examples include
1. Friends With Benefits
DAOs with relatively few, clearly definable, and highly stable group of members (ie. investment DAOs)
Examples include:
3. Syndicate
A specific subgroup of the DAO or individual Token Holder that wants to form an entity to act as liability and tax blocker
DAOs that would want to delegate limited authority over assets transferred from DAO community treasuries (including potentially tokens and IP) to a board/council that is subject to fiduciary obligations solely to the community and DAO, typically to promote the protocol’s growth and development
Examples include
1. ENS, Nouns, API3, NCCO - Cayman
2. EF - Switzerland
Canada
DAOs that would want to delegate limited authority over assets transferred from DAO community treasuries (including potentially tokens and IP) to Trustees that are subject to fiduciary obligations solely to act in the interest of the special purpose, typically to promote the protocol’s growth and development
Examples include
1. Terra
2. dYdX
DAOs
• with US-centric members or activities;
• that have a bonafide non-profit purpose; and
• that want greater regulatory and tax certainty by paying US corporate tax and complying with certain KYC obligations and tax reporting requirements
Examples include
1. Idle DAO (UNA)
2. LexDAO (UNA)
*no current examples of WY DUNAs
Token Holders are potentially general partners in a de facto general partnership; however, questions remain as to whether token holders will need to do more than just hold tokens to be deemed general partners (e.g., participate in governance)
Token Holder could be patron-members of the DAO or investor-members of the DAO
If formation documents are silent, model law
prohibits transfer of membership interest
Token Holders can become members or shareholders of the Siloed Entity, but they would need to individually enter into a contract for their interest / shares
In addition, if the DAO has more than $10M in assets, it will be limited to 2,000 members (up to 500 of which can be unaccredited) before becoming a reporting company under the Securities Exchange Act of 1934
Typically (e.g., investment clubs in Syndicate, KaliDAO, Meta Cartel Ventures) Token Holders become members of the LLC, by individually entering into the partnership agreement
In addition, if the DAO has more than $10M in assets, it will be limited to 2,000 members (up to 500 of which can be unaccredited) before becoming a reporting company. And a DAO formed to make minority investments would generally be limited to 100 members (See Investment Company Act of 1940, 15 U.S.C. § 80a-3(c)(1).)
Token Holders would have no direct ownership relationship to the Foundation (which is “ownerless”), but are able to direct its Board or Council to act based on their vote
Token Holders would have no direct ownership relationship to the Trust, but are able to direct its Trustees
UNA
• Token Holders can become members of the UNA by “agreement”, potentially only requiring a governance proposal adopted by a majority of Token Holders and continued participation in DAO
• If formation documents are silent, model law has default prohibition on transfers of membership interests
WY DUNA
• Token Holders can become members of the WY DUNA by “mutual consent… that can be in writing or inferred from conduct.” Unless the WY DUNA’s governing principles state otherwise, “a person shall be considered a member upon purchase or assumption of ownership of a membership interest.” Therefore, token ownership could be enough to imply membership in the WY DUNA.
• Membership interests are freely transferable
• DAOs that operate without any formal legal structure could be subject to claims that they are a general partnership (if for profit) or an unincorporated nonprofit association (if not for profit)
• DAOs may form a legal entity to perform certain of their operations or hold certain of their assets, but careful analysis should be done to delineate what is encompassed by the legal entity (i.e., what is the legal entity “wrapping”), because the DAOs activities and assets may not always be coextensive with the legal entity
• The appropriate entity structure for a DAO is highly dependent on the circumstances of that specific DAO. There is no one-size-fits all solution (yet). Such factors should be considered when contemplating the appropriate entity structure: (i) the activities of the DAO (ii) the activities of the proposed entities (iii) the degree of decentralization of the DAO (iv) the number of DAO members (v) the activities of the protocol underlying the DAO.
No legal formalities required
A general partnership is formed when two or more people engage in a business as co-owners for profit (notwithstanding a lack of intent to form a general partnership)
A general partnership could be the entity type that is deemed to exist prior to the formation of other entities
File articles of association with the secretary of state; pay applicable filing fees; engage agent for service of process in filing jurisdiction; adopt bylaws.
File a certificate of incorporation/formation with the secretary of state; pay applicable filing fees; engage agent for service of process in filing jurisdiction; adopt bylaws (corporation) or operating agreement (LLC).
Siloed entities will need to set up a governance structure (e.g., Board and officers if C. Corp., or manager- or member- managed if LLC).
Consideration should be given to the authority pursuant to which the representatives of the DAO or the affiliated entity forms the Siloed Entity, and by whom the shares / units will be legally owned, and whether these arrangements imply the DAO itself being a general partnership or the party forming the entity being an “active participant” (Defined by the SEC
as “a promoter, sponsor, or other third party (or affiliated group of third parties)”)
File certificate of formation with the secretary of state; pay applicable filing fees; engage agent for service of process in filing jurisdiction.
LLC will need to choose its governance structure - either member- or manager- managed.
Operating agreement must be executed by all members (see, e.g., Syndicate.io’s form operating agreement
; Kali.DAO’s form operating agreement;
and Metacartel Ventures’ operating agreement)
File formation documents with relevant jurisdiction to incorporate Foundation; operational details can be included in bylaws which are not publicly filed
Potentially form additional entities to act as founder of foundation and as token issuer
Cayman Islands VASP law requires VASPS (including “issuance of virtual assets”) to register with CIMA (Walkers memo)
No registration or government filing at time of formation or any recurring local filings
A “constructive trust” is created upon the transfer of the assets to the Trustee; the Special Purpose Trust will be effective when the Trustees (and potentially Settlor and Enforcer) execute trust instrument
Given potential liability to Trustees from source of funds, it is not advisable for the DAO token holders to be the Settlors of the Trust, but rather a Foundation
UNA
• Varies state by state, but no filing required in most states.
• The model law defines an UNA as “consisting of [two] or more members joined under an agreement that is oral, in a record, or implied from conduct, for one or more common, nonprofit purposes.”
• Consideration should be given to whether the activities of the DAO qualify as non-profit (distributions to token holders would typically be disqualifying). UNA may engage in activities that produce profit so long as they are in furtherance of the nonprofit purpose
WY DUNA
• Organization must elect to be formed under the WY DUNAA, but no state filing required;
• Must have at least 100 members
If DAO is deemed to be a general partnership, the general partnership must file State and Federal tax returns, as well as tax returns in any other jurisdiction in which the DAO has active members that receive DAO treasury payments.
Each partner should file a Form K-1 to report their share of income
Yearly state franchise tax. Required to engage agent for service in-state. Must file State and Federal tax returns (LLCs with multiple members are classified as a partnership for federal income tax purposes. Single member LLCs are disregarded entities for tax purposes, unless they elect to be taxed as a corporation.)
Yearly state franchise tax. Required to engage agent for service in-state. Must file State and Federal tax returns (LLCs with multiple members are classified as a partnership for federal income tax purposes. Single member LLCs are disregarded entities for tax purposes, unless they elect to be taxed as a corporation.)
Foundations and companies have local annual reporting and filing requirements
Cayman Foundation Companies are required to have a secretary that is licensed in Cayman Islands and pay an annual Companies registry fee of CI$700
Swiss Foundations must have at least one board member with individual signature rights who is a Swiss or European citizen with Swiss residence, appoint an independent external auditor, and must be registered in the commercial register
Guernsey – Trustee does not
need to be licensed or local; no recurring filings, taxes or fees
Cayman – Requires local licensed trustee; no recurring filings, taxes or fees
• Non-profit status. UNAs and WY DUNAs may engage in profit-making activities, but must use the proceeds from those activities for the nonprofit purpose.
• Payments to members prohibited
◦ UNAs and WY DUNAs are prohibited from paying dividends or distributing its income or profits to members
◦ WY DUNAs may pay “reasonable” compensation to members and administrations for services, including voting or participation in the nonprofit association’s operations.
▪ Notwithstanding that payments for activities such as voting can be characterized as payment for “services” under the WY DUNAA, those payments could be deemed to be dividends under US tax law, triggering an obligation for the DUNA to withhold on non-US members. In addition, payments by a DUNA (whether characterized as compensation, dividends, or redemption proceeds) may require information reporting by the DUNA. Withholding and information reporting requirements could necessitate KYC of members.
• Legal entities can be formed to potentially insulate various participants in the DAO ecosystem from liability
• Veil Piercing. US Courts may disregard the limited liability protections offered by entities in the event they find the entities to be undercapitalized, or a lack of “corporate formalities”, potentially resulting in direct liability for the principals involved
Independence
. Regulators and US Courts may impose “control person liability” or disregard the legal personhood of entities that are directly controlled by principals (i.e.. a situation where an entity is the alter ego of its owner), potentially resulting in direct liability for the principals involved
If the DAO is deemed to be a general partnership, the DAO itself would have legal personhood (as a general partnership)
Yes
Yes
Yes
Yes
No separate legal personhood. However, Trustees can act on behalf of Trust
Yes, so long as legal form is recognized in relevant state / jurisdiction
If DAO is deemed to be a general partnership, the Founders are potentially deemed partners and each liable for 100% of the liabilities of the partnership, after creditors first try to satisfy a liability from the assets of the partnership itself
To address this risk, a DAO member could individually form an entity to act as owner of the DAO tokens and function as a tax and liability blocker
Founders, as members, could be potentially shielded from liability arising from activity conducted by the LCA after its formation
Founders, as shareholders or members, could be shielded from liability arising from activity conducted by the Siloed Entity after its formation
However, Founders may be responsible for liabilities that do not arise from activities of the Siloed Entity
Founders, as members, could be potentially shielded from liability arising from activity conducted by the LLC after its formation
Founders could be shielded from liability arising from activity conducted by the Offshore Foundation after its formation
However, Founders may be responsible for liabilities that do not arise from activities of the Offshore Foundation, or which the Founders directly cause the Foundation to undertake
Consideration should be given to ensuring independence of the Offshore Foundation from the Founders and any US-based developer company
Founders could be shielded from liability arising from activity conducted by the Trustees
However, Founders may be responsible for liabilities that do not arise from the activities of the Special Purpose Trust or are undertaken by the Trustees under control of the Founders
Consideration should be given to ensuring independence of the Special Purpose Trust from the Founders and any US-based Developer Company
If UNA or WY DUNA is recognized as separate legal entity, Founders could be shielded from liability arising from activities by the DAO after formation of UNA or WY DUNA, although this remains untested by courts
If DAO is deemed to be a general partnership, token holders may be treated as general partners, the same as Founders and managers.
A DAO member could individually form an entity to act as owner of the DAO tokens and function as a tax and liability blocker
Token Holders, as members, could be shielded from liability arising from activity conducted by the LCA after its formation
Token Holders, if shareholders or members of a Siloed Entity, could be shielded from liability arising from activity conducted by the Siloed Entity after its formation
However, Token Holders may still be liable for liabilities that do not arise from activities of the Siloed Entity or if the entity is disregarded by a court or regulator
Token Holders, as members, could be shielded from liability arising from activity conducted by the LLC after its formation
Token Holders could be shielded from liability arising from activities conducted by the Offshore Foundation after its formation
However, Token Holders may still be liable for liabilities that do not arise from activities of the Offshore Foundation or if the entity is disregarded by a court or regulator
Token Holders could be shielded from liability arising from activity conducted by the Trustees; however, liability could attach if the Token Holders effectively control the Trust or are the direct Settlors of the Trust and Token Holders may still be liable for liabilities that do not arise from activities of the Trust
If UNA or WY DUNA is recognized as separate legal entity, token holders potentially have limited liability as “members”, although this remains untested by courts
If DAO is deemed to be a general partnership, all partners would be treated the same by law and each be fully liable for 100% of partnership obligations, although as a practical matter, persons known to exercise functional control of the DAO, such as through a multi-sig or as key developers, would face heightened risk as they are more likely to be the subject of third party claims
Directors of LCA have limited liability and can be indemnified
The managers (Board and Officers) of a Siloed Entity would have limited liability by (i) being exculpated by the Entity from damages (with exceptions, including duty of loyalty claims), (ii) indemnified (with exceptions) and have expenses advanced by the Entity for legal proceedings, and (iii) get D&O insurance (not widely available today)
Same as Siloed Entity
Directors / Council Members have limited liability.
Only the “Supervisor” would have standing to sue the Directors / Council Members for breach of fiduciary duties
However, the Directors / Council Members and Supervisor could be subject to regulation in their local jurisdiction
As a matter of offshore law (Guernsey / Cayman) the liability of the Trustees and the Enforcer is limited to the assets of the Special Purpose Trust so long as they act within the terms of the trust agreement and in accordance with their fiduciary duties
Only the “Enforcer” would have standing to sue the Trustees for breach of fiduciary duties
However, the Trustees & Enforcer could be subject to regulation in their local jurisdiction
Managers of UNAs have limited liability and can be indemnified
Administrators of WY DUNAs have limited liability and can be indemnified (with certain exemptions)
• US regulators and courts are likely to seek an expansive application of US securities regulations to DAOs and DAO Tokens. Notwithstanding the legal structure,US regulators and courts are likely to focus on the fundamental economic relationship between actors, favoring function over form.
◦ DAO Tokens as securities. DAOs that structure legal entities such that each token represents ownership of that legal entity could be potentially conceding the characterization of their token as a security. In any event, consideration should be given to whether transactions in the DAO Tokens could be deemed to be “investment contracts” under Howey, or “notes” under Reves (See Latham Memo). In addition to US federal securities laws, US state “blue sky” securities laws may be implicated as well.
◦ DAOs as Investment Companies. Consideration should be given to whether the DAO constitutes an investment company under the Investment Company Act of 1940
• Partnership Interests as Securities.
◦ US Courts have deemed General Partnership interests to not be securities when the General Partners retain enough control and have enough expertise that they are not dependent on the efforts of a particular party
◦ The SEC has argued that DAO Tokens are in fact securities when token holders do not have effective voting rights or are dependent on a particular sponsor or “active participant”
• Consideration should be given to whether efforts to form legal entity could lead to persons responsible being deemed to be “active participants” under SEC guidance
• Using an Offshore Foundation or Special Purpose Trust structure may result in less US-nexus, although US regulators will assert jurisdictions where possible if activities are on-shore or affect US persons; geoblocking US web addresses or otherwise taking measures to limit “flowback” of tokens to the US could reduce the risk of falling under US jurisdiction
If the DAO is deemed to be a general partnership, it will be governed by holders of a majority of partnership interests (but as a practical matter, this governance power will be coextensive with the matters that DAO members are able to vote on, which may or may not be limited, such that significant governance power may functionally rest outside the general partnership (e.g. with a dev team; persons with authority over private keys or multisig authority, etc.)
LCA members elect Directors. LCA members’ vote can be counted as “one member, one vote” (as is typical for co-ops) but also based on use or patronage or even on equity.
Directors need not be members of the LCA. Directors have fiduciary duties to the LCA.
If Siloed Entity is a corporation, it will be managed by Board, which is elected by the shareholders, and can appoint officers. Board members will be subject to fiduciary duties
If Siloed Entity is an LLC, it can be managed directly by members or by managers. Fiduciary duties can be waived (with limited exceptions)
Shareholders / members do not typically owe fiduciary duties to other members (absent being a director / manager)
LLC can either be managed directly by members or by managers. Fiduciary duties can be waived (with limited exceptions)
WY DAO LLCs can only be member-managed
The Foundation will be managed by a council or board, which in turn can be directed by the vote of the Token Holders or through a supervisory or advisory committee.
If foundation is using independent nominee directors, they can (a) act as instructed by founder; (b) act as instructed by the vote of the token holders; (c) act as directed by a supervisory or advisory committee, or (d) exercise discretion pursuant to the purpose of the foundation.
Foundation may also enter into a intercompany or services agreement with a US-based developer company.
Trustees hold assets in accordance with purpose set out in the trust agreement (See e.g., Purpose Trust Instrument of dYdX Grants Trust)
Trustees have general fiduciary duties to act in the best interest of the trust and are subject to removal by other Trustees, as directed by vote of DAO token holders
A Special Purpose Trust must have an Enforcer with broad rights to monitor Trustees, as directed by vote of DAO token holders
DAO token holders could exercise range of control over actions of Trustees, including to require them to terminate the trust and transfer the assets to a different entity
UNA
• Members can elect managers who have fiduciary duties to the UNA
• Members do not typically owe fiduciary duties to other members (absent being a manager)
WY DUNA
• Members can elect administrators who have fiduciary duties to the UNA
• Members do not typically owe fiduciary duties to other members (absent being an administrator).
• Members have no agency powers to bind the WY DUNA.
Note that this Matrix only attempts to address more common structural scenarios at a high level. You should confer with a qualified tax professional before making any determinations about any particular tax treatment or situation.
Background
DAOs as “entities” for US tax purposes:
• Whether an organization is an entity separate from its owners for federal tax purposes is a matter of federal tax law and does not depend on whether the organization is recognized as an entity under local law. (Treas. Regs. § 301.7701-1(a)(1).)
• A joint venture or other contractual arrangement may create a separate entity for federal tax purposes if the participants carry on a trade, business, financial operation, or venture and divide the profits (Treas. Regs. § 301.7701-1(a)(2); Luna v. Commissioner, 42 T.C. 1067 (1964) (factors for determining whether a tax entity exists).)
• An entity not organized explicitly as a corporation could normally choose to be treated either as a partnership or as a corporation for federal income tax purposes. However, partnership classification is not available for an entity that is classified as a “publicly traded partnership,” which generally includes entities whose equity is “readily tradable” if more than 10% of their income is “active.” (I.R.C. § 7704.)
• Widely held DAO governance tokens typically are “readily tradable,” and protocol fees typically are “active.” Accordingly, the remainder of this discussion assumes that any DAO would, by default, be treated as a corporation for US tax purposes under the publicly traded partnership rules, even in the absence of a legal wrapper. However, keep in mind that some DAOs might not be treated as entities, or might be treated as partnerships.
Deemed corporations as domestic or foreign:
• A corporation “created or organized” in the United States is domestic, even if it is also “created or organized” outside of the United States. (I.R.C. § 7701(a)(4); Treas. Reg. § 301.7701-5.)
• While there is little guidance on what it means for a deemed corporation to be “created” in the United States, private letter rulings (PLRs) suggest an important element is whether the parties opted to have US law apply to govern the corporation’s operations. See PLRs 9221010 and 8601040 (organizations created contractually among the United States and other sovereigns were foreign because they were governed by contract, not by US law); see also PLR 201305006 (a contractual venture between a US parent and its wholly owned foreign subsidiary was a foreign entity where, among other things, parties explicitly specified the application of foreign law). Moreover, Congress has previously considered and rejected a “mind and management” test for determining an entity’s residence; thus, the location of an entity’s shareholders does not appear, in and of itself, to be dispositive. However, neither PLRs nor prior congressional discussions are binding on the IRS or the courts.
DAOs as foreign corporations:
• DAOs that are foreign corporations for US tax purposes would be subject to 21% US corporate income tax, and to 30% US branch profits tax, for a combined federal tax rate of 44.7%, on income “effectively connected” with the conduct of a trade or business within the United States.
• US equity holders of DAOs that are foreign corporations and treated as “passive foreign investment companies” (PFICs) could be subject to adverse US tax consequences if they dispose of their equity at a gain, unless they have elected to include in income, each year, their share of the DAO’s net income and net capital gain, whether or not distributed. Very generally, a PFIC is a foreign corporation more than 75% of whose gross income consists of interest, dividends, capital gains, and other passive income, or more than 50% of whose assets are held for the production of passive income.
• 10% US equity holders of DAOs that are treated as “controlled foreign corporations” could also be taxed on a pass-through basis on their share of the DAO’s income and could be subject to additional information reporting requirements.
If DAO is deemed to be a general partnership, which is a pass through entity for tax purposes, DAO token holders could have taxable income from a range of DAO activities
Depending on the jurisdiction, if the DAO is deemed to be a general partnership, it may have filing and payment obligations, not only for income tax, but also indirect taxes, withholding taxes, stamp taxes, etc.
The LCA is taxed at the entity level but can take advantage of certain deductions from income
C. corp. taxed as a corp. Single member LLC is disregarded and multi-member LLC is taxed as a partnership (on a pass through basis), unless other election is made.
Must file estimated taxes each quarter and file an annual tax return.
No tax at entity level; income is passed through to members (potential for phantom income issues).
Has the ability to be taxed as a corporation if it elects so.
Cayman Considerations:
• A foundation company is not subject to any income, withholding or capital gains taxes in the Cayman Islands. Beneficiaries will not be subject to any tax
Panama Considerations:
• Panamanian law does not recognize digital assets.
• As long as any income is generated outside of Panama, there is no applicable tax.
Swiss Considerations: Only Swiss foundations that pursue a “charitable purpose”, and whose activities have an altruistic character, can apply for a complete tax exemption, and only on profits that are exclusively dedicated to this purpose. To merely develop a specific open source protocol or project is generally NOT considered a charitable purpose due to a closed group of beneficiaries. However, such protocol foundations are usually subject to a limited taxation based on a cost plus 5% minimum profit calculation. Legal entities that combine commercial purposes with purposes of public interest can benefit from a partial tax exemption.
Cayman Considerations:
• No entity-level tax
Guernsey Considerations:
• No tax at the Guernsey level so long as there are no Guernsey resident beneficiaries and no Guernsey source income
The settlors of the Special Purpose Trust could have tax liability depending on their local jurisdiction. For US tax purposes, if Trust is deemed a grantor trust, any income will be taxed to the trust’s grantor (DAO Token holders) (“I.R.C. §§ 673-679 of the Internal Revenue Code contain various requirements for identifying when a grantor trust exists. The core issue is that if the grantor retains sufficient dominion and control over the assets of the trust, then it is appropriate to treat the grantor as the owner of the trust for U.S. federal income tax purposes.” dYdX Legal Framework for Non-US Trusts in Decentralized Autonomous Organizations)
D/UNAs: US corporate treatment
D/UNAs taxed as domestic corporations for US tax purposes would be subject to the following rules:
• Corporate Tax. As US corporations, D/UNAs would be subject to 21% federal tax on their net income. (D/UNAs that are organized an operated for charitable or social welfare purposes within the meaning of US tax law might be eligible to apply for tax-exempt status, but that would be a rare exception, notwithstanding the D/UNA’s classification as a nonprofit organization under state law.)
• Withholding. D/UNAs are required to withhold 30% on dividends to non-US holders (with potential reduction to 15% for EU residents willing to provide tax forms). Dividends do not reduce net income so, after accounting for the corporate income tax, the US federal tax on income dividended to non-US holders is 44.70%. Foreign corporations generally do not have similar withholding obligations.
• Information returns. D/UNAs could face penalties if they fail to comply with tax information reporting, including:
◦ Form 5472 and Form 1120 Schedule G: Reporting of certain large direct or indirect equity holders.
◦ Form 1099: Reporting of dividends and compensation to, and certain redemptions of, US persons.
◦ Form 1042: Reporting of certain payments to non-US persons.
◦ Foreign corporations generally do not have similar reporting obligations.
• DAOs with formal legal entities will have a better ability to engage professional service providers (e.g., lawyers), hire (and provide benefits to) employees, get bank accounts, and otherwise engaging in business activities
• When engaging service providers, consideration should be given to local employment law implications, particularly if they are full time and salaried
• Consideration should also be paid to whether any AML / KYC obligations are required for transfers of digital assets to service providers
• If using an off-shore structure, DAOs should consider whether having local service providers can help mitigate ECI and other audit risk (See e.g., the EU Non-Cooperative Jurisdiction List)
Not every legal entity is a viable capital-raising vehicle, so DAOs should carefully consider what type of entity to use to raise capital, potentially forming more than one entity
A DAO could opt to raise funds by selling tokens, but careful consideration should be given to potential securities laws and tax implications
LCAs allow for investor-members who have voting rights and rights to economic distribution, making them potential capital-raising vehicles. However, most LCA statutes do not exempt the issuance of interests to investor-members from the application of state securities laws.
A DE Corp will be most familiar to investors and able to sell convertible securities (seed stage), equity and token rights.
An LLC is also able to issue convertible securities, equity and token rights, but is less common than a DE Corp given that LLCs can have negative upstream tax implications for investors
Generally not typically a capital raising vehicle
Assets can be transferred to Offshore Foundation, but grantors are not “owners” or “beneficiaries”
Project can fundraise using a separate and independent US OpCo or foreign entity
Generally not typically a capital raising vehicle
Assets can be transferred to Trust, but Settlors are not “owners” or “beneficiaries”
Project can fundraise using a separate and independent US OpCo or foreign entity
• UNAs or WY DUNAs are not a viable capital raising vehicle
• Assets can be transferred to UNA or WY DUNA, but members cannot take distributions
Project can fundraise using a separate and independent US OpCo or foreign entity
Wyoming Secretary of State - DAO FAQs
Gabe Shapiro, Sydney Abualy - Wyoming’s Legal DAO-saster
Metacartel Ventures - Grimoire
Cayman Islands - Foundation Companies Law (2017)
Ogier Alert re: Foundation Companies as DAOs
Carey Olsen - Cayman Islands Foundation Companies for DAOs, Defi and NFTs
Carey Olsen - An overview of Cayman Islands foundation companies
A Look at the 1996 and 2008 Uniform Unincorporated Nonprofit Association Acts
• David Kerr, Miles Jennings - A Legal Framework for Decentralized Autonomous Organizations
• Wyoming Decentralized Unincorporated Nonprofit Association Act, adopted March 8, 2024
• David Kerr, Miles Jennings - The DUNA: An Oasis for DAOs
• Uniform Law Commission - Uniform Unincorporated Nonprofit Association ActUniform Law Commission - Revised Unincorporated Nonprofit Association Act