Blockchain and the legal industry: regulations, questions and blockchain in legaltech

Aaron G.   25/11/2021

A blockchain license? What does that even mean?

When people are speaking about blockchain and crypto – often, the word blockchain is used as a placeholder for anything in the world of crypto. Obviously, this is incredibly misleading. Let’s roll this up differently.

Who wouldn’t want to start a ‘blockchain company’ to become part of the crypto bull wave that forms one unicorn after the other. Assuming the team behind the start-up has a great idea, maybe even the tech is already finished. But what about regulations in blockchain?

Let’s be clear – yes, there are some jurisdictions worldwide which have a framework for crypto related services, such as Lithuania (most recent addition to the list) and many others, but calling it a blockchain license is simply wrong.

We will not get into detail what blockchains are, nor that there are permissionless and permissioned once, as there are many other resources way better suited for that, but the latter is an important differentiator for the technical possibility to be regulated. Blockchain as standalone can’t be regulated and even if some jurisdictions would try, it will eventually turn out to become pretty much impossible to enforce.

What you should keep in mind is the following. The moment a crypto company can become regulated is when it crosses the line of existing regulations in the fintech world, or creating the hot keys/wallets of its clients, holding funds on behalf of these (even if for a second) – and hence, enabling them to participate in the crypto ecosystem.

Blockchains are the basis for cryptocurrencies, which are duly regulated. As a rule of thumb, if your project assumes a token – there might be some regulation. Then, it could be either a utility token within your ecosystem or a so-called stable-coin that often is pledged to an underlying asset – making it often subject to the securities act. The FATF created a so-called Howey Test which would be a good indicator which of these two your token falls under.

Many uses of a digital ledger in a context that allows a transfer of value are regulated in some jurisdiction: wallet creation, cryptocurrency trading, some DeFi models, DApps and NFTs are under the scope of regulators for this very reason.

And most importantly said: it is developing. But a virtual ledger can also serve many other purposes, including legal-related applications. In a previous blog post, we explained how the country of Estonia developed a cryptographic ledger to use as a register for health data of its citizens.

Regulation of blockchain technology

So, is blockchain legal? Yes, fullstop.

The confusion lies in the details and aforementioned cryptocurrencies. But a non-financial ledger, which is composed of data of any other nature, is therefore as legal as a Microsoft Access database.

The decentralized aspect of a blockchain doesn’t change this reality. Everyone is free to run a node and become a validator on any permissionless blockchain, as much as everyone is free to write a code and publish it on the web.

Why are we asking, then, is blockchain legal? First of all – many clients of ours are confused. This should serve as a reference point. Also, because projects, as of today, often intend to introduce a token. We are talking about money, financial assets, credits and loans (through DeFi) and similar business models.

If you are plagued by uncertainties on how to set up a blockchain company, because you are not sure if your underlying business plan is subject to regulation – you are at the right spot. A big chunk of our clients are actively looking for assistance in creating a crypto company offshore or onshore – depending on their business model.

Get in touch, you will receive a free first assessment from our professionals.

So the main take-away is not to understand whether blockchain is legal or not, but rather what the use case is and see if aspects of it are regulated in today’s world. A centralized exchange like Binance or Coinbase are, where the end-user actually does not have control over funds – is regulated in some jurisdictions.

From a business perspective, one of the few important reasons of becoming a regulated entity is to be able to accept fiat from your clients. The granted crypto license is mainly an ‘OK’ by the issuing authority regarding your KYC and AML processes.

Where is blockchain else used?

A disruptive tool for the legal sphere

Blockchains for legal contracts are a hot topic. A key aspect of blockchains are its possibility to proof a certain action digital by many parties (the more validators, the more decentralized a chain is) without the need of a centralized authority.

Through cryptography, the digital signatures on a decentralized ledger are an unquestionable proof of authenticity, even more so than ink signatures. It implies that the credentials of the issuer of the signature have not been compromised.

Subsequently, blockchain legal documents are more secure than paper ones, and they are communicated online in a glimpse, instead of trailing for weeks in the mail.

Other possible use cases of blockchains in legaltech

Contracts and registries are the first things to come to mind when discussing the opportunities offered by the blockchain to the legal area. But the blockchain legal industry is flourishing with promising ideas to reduce friction at various levels.

We spoke already about the usage of digital ledgers to identify a signatory or to maintain various kinds of registries. The recent trend of Non Fungible Tokens, or NFTs, is paving the way for an immutable register of properties. Well… technically speaking, there are already projects such as SAND and Decentraland, where the arms race to develop a virtual real estate empire (you will hear the team metaverse more and more often) has already begun.

These projects have valuations of several billion dollars and an underlying token, that can be used to buy and sell property, advertisement space and much more – all with no intermediaries. Doesn’t this sound fantastic?

Right – what about regulations and loophole abuses? Lawmakers are often not the youngest members. The possibility to imagine such an abstract concept of a metaverse, or even consider paying money to buy a digital land – which ultimately is ‘just’ a part of a code seems far away from coming into the view of regulators. But some apsects of this business venture are still regulated – for this, you should choose a crypto friendly jurisdiction that will help you to jump on the train of successful crypto enterpreneurs.

Blockchain and legal services are also compatible. A registry of companies, including real time information about ownership, licensing, etc. total transparency? Already exists and is in the making: in Estonia.

The road we are riding on

Since its first use case with Bitcoin in 2008, blockchain technology and DLTs have gone a long way already. Through its flagship use, the cryptocurrencies, and with more confidential but highly valued projects such as the Estonian Keyless Signature Infrastructure (KSI) system, the world population is gaining awareness about the blockchain technology.

But as noted, there are still challenges to face. Laws are being introduced, disruptive technologies inventeda and new ideas are born daily. Until we are at a point where policymakers are matured enough to conceptualize a framework that will include many use cases, crypto projects often have a free hand and can obtain a comparably simple and cheap crypto license in the EU or Asia.

Mass adoption and awareness is on its way, as recent events in El Salvador and Cuba have shown. More and more people are talking about blockchains and cryptocurrencies. While it is true that cryptos are being used malevolently, it is obviously not their main use. Meanwhile, if you are interested in starting a crypto company – get in touch with us to see how we can help to get up to speed and start your crypto endeavor.