The Law Commission of England and Wales has been considering how best to ensure the legal framework facilitates the use of smart contracts, an effort very much welcome in the fintech sector. It recently closed a call for evidence, to which Linklaters submitted its views. In our latest publication, we discuss five key conclusions from our response.

Subscribers to our Knowledge Portal can access the full publication here. A summary of the conclusions is set out below.

For the purpose of this piece, we use the term “smart contracts” to refer to computer programming arrangements involving code which, once initiated, will automatically execute a pre-determined action upon the satisfaction of pre-determined conditions. Such code may (or may not) form part of and/or automate the performance of a legal contract.

1. DLT should not be treated as a defining feature of smart contracts

The Law Commission’s call for evidence proposed limiting the scope of its study to smart contracts which use distributed ledger technology (DLT). We have questioned this proposal. We have advised on matters involving smart contracts deployed on both DLT-based infrastructure and centralised infrastructure. In addition, some smart contract programming languages are designed to be capable of deployment on both. Fundamentally, in our view the use or absence of DLT is not a determinative influence in the legal analysis as to whether a legal contract exists or how it should be interpreted. Rather, one should consider the facts and circumstances of each case.

2. Self-executing contracts are not a new development

Recent developments in technology are accelerating the use of technological automation in the financial markets. However, smart contracts (albeit simpler models than newer generation smart contracts) have been used for many years in some markets, as we discuss in our publication. Therefore, new advances in smart contract technology should not necessarily require revisions to current legal principles.

3. Code alone cannot amount to a legal contract

The call for evidence considers the possibility of a smart legal contract that is comprised solely of code. In our view, the mere deployment of executable computer code will never satisfy the requirements for the formation of a legally binding contract in the absence of extraneous factors, such as communications or conduct between the participants. Equally, extraneous evidence will be needed to interpret the terms of a legal contract. We see this view as consistent with the findings of the UKJT Legal Statement.

4. Decentralised multilateral arrangements will often fail to amount to legal contracts in the absence of detailed rulebooks

In practice, many smart contract arrangements (including in the context of DeFi applications) involve complex multilateral structures. Whilst it is well accepted under English law that legal contracts may arise between participants in multilateral structures which do not fit neatly into the traditional offer-acceptance framework, that is generally only possible where the participants have in some way agreed to be bound by a set of common rules which govern the arrangement.

In the majority of commercial arrangements, we would expect such common rules or terms to exist. However, in the absence of any agreement among the participants in relation to their roles and responsibilities, it will often be difficult to conclude that the requirements for a legal contract have been met.

5. No case for any fundamental change to contract law

Whilst there may be a number of novel arrangements involving smart contracts and DLT which place a strain on current principles of English contract law and might justify refinements, in our view:

• No significant revisions to existing contract law are required to accommodate the use of smart contracts that are designed to operate as legal contracts. In many cases the common law will be able to adapt as and when needed, as it has done in the past.

• There is no clear justification for extending English contract law principles to scenarios where it is not clear either that the parties intended to enter into a contract or that there is agreement as to its terms.

To the extent that material issues or concerns are identified that are not addressed under existing principles of English contract law, we suggest that these policy concerns may be better addressed through other legal channels such as regulation (which may need to evolve), tort law, the laws of equity (for example, in relation to unjust enrichment) and/or criminal law, as appropriate in the circumstances. In addition, although it may not be possible to conclude with confidence that a set of multilateral arrangements constitutes a contract, there may be sufficient evidence to conclude that some form of collateral contract may have been concluded between two or more parties.

More information

Knowledge Portal subscribers can access our full publication and response here.

The Law Commission has now also opened a consultation on electronic trade documents and a call for evidence on digital assets, both closing 30 July 2021. These matters are equally important for the fintech industry, and we will be considering our responses in due course.

Please do not hesitate to get in touch should you wish to discuss.