Law Commission Breaks New Ground on Crypto
The consultation on digital assets by the Law Commission is a seminal work and examines fundamental questions. The consultation, together with the Law Commission’s response, will likely serve as a legal textbook for the foreseeable future. In the last few years, we have only had semi-official guidance and a handful of superficial court decisions to rely on. Don’t tell anyone, but we’ve been making the rest up as we go!
For ten years after the Bitcoin release, we had no authoritative legal guidance or precedent. In 2019, the UKJT’s Legal Statement concluded that crypto-tokens (as the Law Commission now calls them) are capable of being considered property. It also began to explore several issues around how that property can be transacted. Since then, the High Court has recognised crypto-tokens as property, but these decisions do not have much precedent value and did not explore any of the other issues. I believe that if the legal profession plays its part, the consultation, and the work that follows, will make the UK a more attractive place for digital businesses to innovate. This will be the case even if the proposals for reform are not adopted by Government.
The headline proposal for reform is to recognise a third category of property for what the consultation calls “digital objects”, including crypto-tokens. This is a significant development. Historically, there have been only two categories of property (essentially physical things and legal rights). The need for a third category points to the paradigm shift in economic activity brought about by digital assets. It is also significant that the consultation identifies many new aspects of commercial activity relating to digital objects that can be accommodated by the law as it is without reform. Because the digital asset sector is still relatively small and young, many of these common activities – such as custody and collateral – are not being brought in front of the courts. But the consultation will now provide a common ground for lawyers and businesses to agree many of these issues.
While the consultation is careful not to venture into the field of regulation, it does show how superficial the recent crypto-focussed regulations have been. Regulations have implicitly assumed that crypto-tokens are property, why else would people trade in them, which is helpful. But the regulations skated over the fundamental gaps now addressed in the consultation. Crypto exchanges and custodians must be registered with the FCA, but how do we know when a crypto-token has been exchanged and who has the right to exchange it? And what does custody even mean for an entity that disappears and is recreated when it is transferred?
The consultation shows how these gaps can be filled, which in turn will hopefully facilitate better regulation in future. While there are many regulatory problems that need to be solved, development of the law is also necessary to give consumers and businesses confidence to take part in digital innovation. Innovation and confidence are the ultimate benefits towards which the consultation is aimed.
The flip side of all this is that the consultation does identify areas of profound legal uncertainty and complexity which anyone involved in the digital asset industry needs to face. The consultation may also disappoint some idealists who were hoping that crypto and web3 would create a parallel universe where “code is law”. To paraphrase the Law Commission, this consultation explains categorically that code is fact. In other words, legally there is only one universe, and the law decides who owns which bitcoin after the code has been run.