CFTC wins case against Ooki DAO, setting precedent for DAO legal liability

Summary

In the CFTC v.Ooki DAO case, since Ooki DAO had no response, the CFTC won an overwhelming victory. The court ruled that Ooki DAO ceased operations in the United States + shut down the website to delete content + fined $643,542

The judge agrees with CFTC to define DAO as an unincorporated organization, so DAO can bear legal responsibility as the subject of the lawsuit

After DAO can be sued, the chain is no longer a place outside the law. Regulatory law enforcement agencies can use this as a breakthrough to supervise DAO, DeFi, and DEX projects on the chain

DAO on the chain = Unincorporated Association = All participating governance members may bear the joint and several liability of DAO

1. The CFTC won the lawsuit

On June 9, 2023, the U.S. Commodity Futures Trading Commission (CFTC) announced that it had won a "Sweeping Victory" against Ooki DAO at the judicial level. set an unprecedented precedent**.

In the case of CFTC v.Ooki DAO, the judge of California, USA made a "non-suit judgment" in favor of the CFTC on June 8, 2023. The judge ruled that Ooki DAO was charged with operating an illegal trading platform (Illegal Trading Platform) and illegally acting as a futures commission. Merchant (Unlawfully Acting as a Futures Commission Merchant (FCM)) and was fined $643,542 and ordered to permanently shut down Ooki DAO's website and remove its content from the Internet.

** Crucially, in this precedent-setting judgment, the court held that Ooki DAO is a "person" under the definition of the Commodity Exchange Act of the United States, and can be regarded as the subject of the lawsuit to bear corresponding legal liabilities. ** CFTC officials said: "This ruling should serve as a wake-up call for those who believe that by adopting a DAO structure they can circumvent the law, intend to avoid regulatory enforcement, and ultimately put the public at risk."

This judgment is very important for DAO and DeFi project parties: (1) The court defines DAO as an actionable subject (Person), and the chain is no longer a place outside the law. Regulatory law enforcement agencies can use this as a breakthrough to The DAO**, DeFi, DEX projects on the chain are supervised; (2) The DAO on the chain is defined by the CFTC as an "Unincorporated Organization (Unincorporated Organization)" Association)” and accepted by the court, it means that the members participating in the governance of DAO will likely bear the joint and several legal liabilities of DAO. **

Second, Ooki case details

The bZx protocol is a blockchain-based The decentralized DeFi protocol allows users to provide virtual assets as collateral to establish leveraged positions for transactions. The value of the transaction is determined by the price difference between the two virtual assets, and does not involve the sale of actual virtual assets.

The bZx protocol was originally developed and maintained by bZeroX LLC and its founders, and on or about August 23, 2021, bZeroX LLC transferred control of the bZx protocol to the bZx DAO (eventually renamed Ooki DAO on November 18, 2021) ), from then on, Ooki DAO can only be governed by the votes of OOKI Token token holders. The CFTC quoted one of the founders of the bZx protocol as saying at the time: “The transition to DAO will exempt the bZx protocol from legal supervision and accountability.” Apparently the CFTC disagrees.

On September 22, 2022, the CFTC took two enforcement actions against Ooki DAO: (1) penalized bZeroX LLC and the founders of the bZx protocol, which resulted in a settlement; (2) filed a lawsuit against Ooki DAO on the grounds that Ooki DAO ( i) illegally offering off-exchange leveraged and margined retail merchandise transactions; (ii) engaging in futures trading (FCM) without registration; and (iii) failing to perform KYC verification and client identification procedures as required by FCMs under the Bank Secrecy Act (CIP). The court then approved the notification and service of subpoenas to Ooki DAO and DAO members through the forum chat robot bot and forum post announcements.

Subsequently, the four Web3 institutions, Paradigm, a16z, DeFi Education Fund (supported by UniSwap), and LeXpunK_Army (supported by Yearn, Curve & Lido), all submitted Amicus Briefs to the court in solidarity with Ooki DAO, expressing CFTC It is unreasonable to hold DAO members/token holders accountable to the DAO simply through a governance vote. Miles Jennings, general counsel of a16z, further stated that the focus should be on those members who voted on the governance of the DAO's illegal behavior rather than the members of the entire DAO.

After Ooki DAO missed the deadline for responding in January 2023, the CFTC began to apply to the court for a "non-suit judgment" in the case, which means that Ooki DAO failed to defend itself in court, and it may also be A "strategic" abandonment, obviously no DAO member is willing to bear the responsibility of CFTC.

On June 8, 2023, a judge in California, the United States, finally made a "non-suit judgment" in favor of the CFTC, which means that the CFTC does not need to demonstrate the reasons for its allegations against Ooki DAO. **Although Ooki DAO has a lot of solidarity, but in the face of no one to respond to the lawsuit, it has opened a bad start for the supervision of DAO by the regulatory agency.

Rostin Behnam, chairman of the CFTC, believes that Ooki DAO is an obvious case of fraud. The organizers are suspected of trying to evade the supervision of the CFTC and illegally provide digital asset derivatives transactions with leverage and margin to retail customers in the United States. He described DAOs as a unique technology, but that doesn't exempt DAOs from regulatory frameworks at the state or federal level.

3. The impact and consequences of CFTC’s victory

**Because Ooki DAO did not respond to the lawsuit, the California judge basically agreed to all the demands of the CFTC, and the CFTC did not need to give any explanation for its claims. **Because the United States is a case law country, this judgment is bound to have a huge impact on the encryption world: DAO is defined as an actionable subject, and the chain is no longer a place outside the law. Regulatory law enforcement agencies can use this case as a breakthrough to DAO, DeFi, and DEX projects are supervised; at the same time, members participating in DAO governance may bear joint and several legal liabilities of DAO.

3.1 On-chain DA****O No longer a lawless place

In the column of Digital Assets on the CFTC official website, all virtual assets, including all virtual currencies, are classified as "commodities", which will give CFTC ** the right to **** derivatives transactions in the virtual asset futures market, However, the CFTC has no authority to regulate virtual asset transactions in the spot market that do not involve margin, leverage, or financing. **

Before bZeroX LLC is transformed into a DAO, bZeroX and its founders shall bear the corresponding legal responsibility for violations, without a doubt. It is worth noting that the California judge agreed with the CFTC to define Ooki DAO as an "unincorporated association (Unincorporated Association)", which is an actionable subject (Person) under the Commodity Exchange Act and can be held as the subject of the lawsuit legal liability.

This means that after this case, CFTC will have the right to supervise DAO, DeFi and other projects engaged in the virtual asset futures derivatives market, and file a lawsuit. It is estimated that decentralized derivatives exchanges such as dYdX and Synthetix are trembling? The more worrying thing is, can the SEC use this judgment to directly carry out administrative enforcement against project parties and decentralized exchanges (DEX) that the SEC believes are "issuing and selling unregistered securities"?

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3.2 DAO members may need to bear the joint legal liability of DAO

Although the punishment judged by the judge is only for Ooki DAO, according to the federal law and a series of state-related partnership law cases, the CFTC has determined that members of non-profit (For Profit) unincorporated organizations need to bear personal joint and several liability for the organization's actions **, which means that members participating in the governance of Ooki DAO may be exposed to the risk of joint and several personal liability. It is not yet known how the CFTC will carry out the enforcement of the fine.

This is fatal for a DAO, unlike a legal entity such as an LLC or Corp to be able to separate the liability of the legal entity from that of the individual. CFTC compared bZeroX LLC to Ooki DAO, that is, LLC and Ooki DAO also control the bZx protocol, and LLC and Ooki DAO also govern the bZx protocol through member voting. Therefore, CFTC stated: Once OOKI Token token holders influence the outcome of the Ooki DAO governance proposal through governance token voting, then the OOKI Token token holders can be identified as voluntarily participating in Ooki DAO governance and need to Take personal responsibility for the actions of the DAO.

3.3 The supervision of DeFi has opened up new ideas

Following the US regulatory agency's sanction on the currency mixer DeFi protocol Tonardo Cash in August 2022, the US regulatory agency has further expanded the regulatory dimension of DeFi projects on the chain. For Tonardo Cash, US regulators put it on the SDN list on the grounds of terrorist money laundering, which means that all US individuals or entities are prohibited from trading with Tonardo Cash or wallet addresses bound to the protocol. And Ooki DAO went a step further. US regulators directly required relevant servers to shut down the Ooki DAO website and delete online content on the grounds that the DAO business violated laws and regulations, and prohibited Ooki DAO from conducting any business in the United States.

On April 6, 2023, the U.S. Department of the Treasury released the 2023 DeFi Illegal Financial Activities Assessment Report, which is the world's first DeFi-based illegal financial activity assessment report. The report recommends strengthening US AML/CFT regulation and, where possible, enforcement of virtual asset activities (including DeFi services) to improve compliance of virtual asset service providers with BSA obligations. It can be seen that US regulation also follows this idea, supervising the deposit and withdrawal business of virtual assets from the perspective of AML/CTF to achieve source control, and then supervising the compliance of the business of specific projects from the perspective of investor protection.

4. Solution - Legal Wrapper of DAO

**Obviously, the CFTC can use this case to tear away the barrier of the extrajudicial place on the chain, so the chain is no longer an extrajudicial place. Legal wrapping (Legal Wrapper) for decentralized DAO and DeFi projects to ensure limited liability of members is already a must, not an option. **

DAO's legal wrapper (Legal Wrapper) is a collection of DAO-specific legal frameworks or legal entities, providing DAO with a recognized legal status in relevant jurisdictions. Its essence is to "package" DAO in a legal framework, so that DAO can be linked with the traditional legal system, while ensuring compliance with relevant laws and regulations and protecting the limited liability of DAO members, it also opens up a bridge for DAO to interact with the real world .

The founder and Members will face legal risks, in particular:

A. Risk of Legal Liability. Just like Ooki DAO, an unregistered DAO can be regarded as a general partnership (General Partnership). Once a DAO is recognized as a general partnership, each member of the DAO may be jointly and severally liable for all assets and liabilities of the DAO responsibility. A registered DAO can act as a separate legal entity. On the one hand, it can meet the compliance requirements of the place of registration and other jurisdictions. More importantly, it can provide DAO members with limited liability similar to the form of corporate organization.

B. Tax risk. DAO members may face fines or other penalties if they fail to pay their income taxes. A registered DAO can conduct a series of mature tax declarations according to its organizational form, as well as meet the tax compliance requirements of relevant jurisdictions.

C. Financial Compliance Risk. In the absence of relevant KYC/AML/CTF verification procedures to check the source of funds, absorbing funds or engaging in economic activities in the anonymized blockchain world may face securities compliance, AML/CTF compliance, financial crimes administrative and criminal investigations.

DAO legal entities can be registered as different organizations Form: Foundations, Associations, Non-Profit LLC or For-Profit LLC. The actual choice of organizational form and jurisdiction depends on the DAO type (community/protocol, service, investment), business model, token functionality, and other factors. When deciding in which jurisdiction to set up a DAO, it all depends on the DAO's business model, legal needs and preferences. There are usually three main criteria for judging: (1) Does the DAO want to generate income and distribute income to members? (2) The degree of decentralization of DAO; (3) Will DAO issue tokens in the future?

5. Write at the end

After the U.S. regulators recovered from the FTX incident, they conducted regulatory enforcement against many major players in the encryption world, such as Coinbase, Kraken, Paxos, Silvergate Bank, Signature Bank, Justin Sun, and Binance, in the first quarter of 2023 Activity. Especially recently, the SEC has chosen to challenge the two major crypto giants, Coinbase and Binance, at the same time, and listed some of the tokens listed on them as "securities", while the CFTC has torn apart the barriers of the crypto world behind the scenes, making the world on the crypto chain Nearly 12,745 DAO organizations and their $20 billion in virtual assets were exposed under the guns of the CFTC.

DAO, DeFi, and DEX project parties especially need to be vigilant!

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This article is for learning and reference only, and I hope it will be helpful to you. It does not constitute any legal or investment advice, not your lawyer, DYOR.

R****EFERENCE

** [1] ** Why DAO needs Legal Wrapper

** [2] ** From the first case of DAO supervision, look at the regulatory logic of the US CFTC

[3] Statement of CFTC Division of Enforcement Director Ian McGinley on the Ooki DAO Litigation Victory

[4] CFTC v. United States. DAO Lawsuit, 3:22-cv-05416, (ND Cal. Sep. 22, 2022) ECF no. 1, 09/22/22

[5] CFTC v. Ooki DAO, Case 3:22-cv-05416-WHO, ORDER GRANTING MOTION FOR DEFAULT JUDGMENT, 06/08/23

**[6]**Twitter @jabranthelawyer

** [7] ** Notions of DAO Immunity Sink as CFTC Lawsuit Declares Ooki DAO a 'Person' Under the Law