New Action Against Crypto Collective Ooki Draws Rebuke From Commodities Trade Commissioner

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Signage is seen outside the U.S. Commodity Futures Trading Commission (CFTC) in Washington, DC, U.S., August 30, 2020. REUTERS/Andrew Kelly

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(Reuters) – The U.S. Commodities Futures Trading Commission has devised a theory to prevent decentralized, amorphous crypto collectives known as DAOs from capitalizing on their diffuse structure to escape liability.

Not everyone on the commission is a fan, to put it mildly.

The CFTC posited Thursday, in a $250,000 settlement with the architects of a DAO that would have operated as an unregistered derivatives exchange, that DAOs are unincorporated for-profit associations whose members, in under long-standing contracts, are personally liable for the debts of the DAO.

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Commissioner Summer Mersinger disagrees. In a scathing dissent, Mersinger accused the CFTC of improperly relying on unenforceable private case precedents to exercise the government’s sanctioning power. Mersinger, a Republican who was appointed to the CFTC by President Joe Biden, said the agency should have engaged in developing formal rules on DAO liability rather than engaging in “regulation.” flagrant by enforcement” which could perversely discourage DAO regulatory compliance.

“The commission’s approach to these actions will have public policy implications that extend far beyond this particular settlement and lawsuit,” Mersinger said. “Yet the commission made this consecutive decision without public notice or input of any kind. It is regulation by application, pure and simple.

The CFTC did not respond to my question regarding Mersinger’s criticism, which was picked up by the Blockchain Association, a crypto industry trade group.

The DAO at the center of the controversy is Ooki, which controls a blockchain protocol that allows users to take long or short positions on cryptocurrency valuations. The CFTC argued in its suit in federal court in San Francisco that the Ooki DAO violated commodity exchange law by operating as an unregistered forward agent and failing to implement anti-commodity systems. against money laundering and know your customer. The government maintains that every Ooki token holder who participated in DAO governance votes is responsible for the conduct of the DAO.

The CFTC’s concurrently filed settlement agreement with protocol developers Tom Bean and Kyle Kistner explains the commission’s theory in more detail. According to the government, Bean and Kistner first designed the protocol for bZeroX LLC, their limited liability company. In 2021, bZeroX transferred control of the protocol to a DAO, initially called bZx, then renamed Ooki.

The transfer, according to the CFTC, was specifically aimed at isolating the protocol from regulation. Documents filed Thursday cite comments from one of the founders during a call with bZeroX users: “This is really exciting,” the unnamed founder reportedly said. “We will really prepare for the new regulatory environment by ensuring that bZx is future-proof.” The idea, according to the CFTC documents, was that bZx could fend off regulators by claiming control of the protocol belonged to the amorphous community of token holders.

The CFTC’s theory is that all members of the Ooki DAO community who exercised control can be held liable because the DAO meets the legal definition of an unincorporated association, and members of such associations are personally responsible for group obligations.

In the settlement with Bean and Kistner, the commission cited three cases to support this claim. In Karl Rove & Company v. Thornburgh of 1994, the 5th U.S. Circuit Court of Appeals ruled that U.S. Senate candidate Dick Thornburgh was liable, as a member of an unincorporated association, for his campaign obligations to the marketing company of Rove. The New Hampshire Supreme Court ruled in a 1984 case that an individual member of a ratepayers association could be held liable for the fees of an attorney who represented the group. And the Maine Supreme Court ruled in 1973 that members of a New Year’s Eve dance committee were liable to a plaintiff who slipped and fell.

Under this precedent, the CFTC said, Bean and Kistner are personally liable for Ooki DAO’s debts.

I emailed Bean, Kistner, and a bZx rep, but got no response. Under the settlement, they neither admitted nor denied the CFTC’s allegations. Defense attorneys in the CFTC case, Jason Gottlieb and Daniel Isaacs of Morrison Cohen, declined to comment.

CFTC Commissioner Mersinger said in her dissent that the CFTC should not have relied on three private cases to justify government action. “I am skeptical of any federal or state government agency exercising its sanctioning power in this manner, based on legal theory drawn from state common law contracts and tort cases between private parties,” a- she writes.

Moreover, Mersinger asserted, by defining membership in the DAO as token holders’ use of their voting power, the CFTC will discourage DAO members from using that power lest they commit their responsibility. It’s a policy error, Mersinger said, that will hamper good governance and regulatory compliance within DAOs.

Mersinger acknowledged that the Commodity Exchange Act does not give the CFTC specific authority over the Ooki DAO. But rather than advancing a new theory of liability in an enforcement action, she said, the commission could have relied on a complaint of complicity against Bean and Kistner while engaging in the development of formal rules – including public comment – ​​to develop a fair DAO accountability policy.

Ooki’s lawyer hasn’t appeared yet, and the DAO hasn’t responded to my request via their chatbot. But I’m sure we’ll see Mersinger’s arguments resurface if Ooki files a motion to dismiss the CFTC lawsuit.

You can see why regulators are concerned about crypto developers trying to use DAOs to evade liability. As I reported in July, in a story about a class action lawsuit by Ooki DAO insiders who lost millions when the bZx protocol was hacked, thousands of DAOs are in business, holding billions of dollars in ‘assets. (The class action plaintiffs argue that the Ooki DAO is a general partnership and therefore liable for the partners’ losses.)

The CFTC appears to have determined in policy that litigation is the best way to define DAO exposure, just as the United States Securities and Exchange Commission has relied on litigation to challenge crypto tokens as unsecured securities. recorded. I expect the Ooki case to show if it was a good decision.

Read more:

how can insiders sue an amorphous crypto collective? they can’t, say the defendants bzx

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Alison Frankel

Thomson Reuters

Alison Frankel has covered high-stakes commercial litigation as a columnist for Reuters since 2011. A graduate of Dartmouth University, she worked as a journalist in New York covering the legal industry and law for more than three decades. Before joining Reuters, she was an editor and editor at The American Lawyer. Frankel is the author of Double Eagle: The Epic Story of the World’s Most Valuable Coin.

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