Should you now be using smart contracts to help achieve that (never-ending) drive for efficiency? That is the burning question after the Law Commission completed its project on smart contracts and confirmed that the existing law of England and Wales is in fact able to accommodate and apply to smart legal contracts. There is, we are told, no need for statutory law reform.
The findings build on the conclusions reached by the UK Jurisdiction Taskforce’s legal statement on crypto assets and smart contracts. The UKJT established that the current legal framework is sufficiently robust and adaptable to facilitate and support the use of smart legal contracts.
If you are wondering exactly what a “smart contract” is, the Commission says that it is a legally binding contract in which some or all of the contractual obligations are defined in and/or performed automatically by a computer program. Smart legal contracts are frequently (although they need not be) deployed on a distributed ledger. Smart contracts, including smart legal contracts, tend to follow a conditional logic with specific and objective inputs: if “X” occurs, then execute step “Y”.
The Law Commission’s main findings in relation to smart legal contracts are:
Smart legal contracts are being considered by contracting parties as a means of automating specific processes within conventional contracts, from the payment of insurance claims in the context of parametric insurance, to managing supply chains across various industries. Smart legal contracts can operate in the business to business, peer to peer, and business to consumer sectors.
Smart legal contracts are capable of meeting the requirements for the formation of a legally binding contract under the law of England and Wales. However, additional complexities arise in relation to deeds, which are subject to additional formality requirements.
The existing principles of contractual interpretation can apply to smart legal contracts; albeit with an incremental development to the existing test. In particular, interpretation of a term defined by code should be determined by asking what the term would mean to a reasonable person with knowledge and understanding of code – that is, a “reasonable coder”. This is the most appropriate way to ascertain the meaning of the coded terms of a smart legal contract, and more closely resembles the existing test for contractual interpretation in the context of non-coded terms.
The existing legal principles relating to contractual remedies can apply to smart legal contracts. However, a court may face practical difficulties in awarding remedies such as rescission and rectification. So as to achieve the practical effects of these remedies, a court may need to be flexible and creative when fashioning its order.
Parties can structure their smart legal contract to include “kill switches” and related mechanisms to halt performance of the code in certain circumstances, for example, where one of the parties terminates the contract following a breach.
Businesses who wish to enter into smart legal contracts with consumers will need to take steps to ensure that they comply with our (pretty onerous) consumer protection rules. For example, traders who wish to offer smart legal contracts to consumers that contain coded terms would be well advised to provide clear and informative pre-contractual information to consumers, explaining those terms and how they operate, in order to comply with the transparency requirement.
This development means that in-house legal teams and the wider legal market should anticipate and cater for potential uncertainties in the legal treatment of smart legal contracts by encouraging parties to include express terms aimed at addressing them. These provisions might include clauses allocating risk in relation to the performance of the code, and setting out clearly the relationship between any natural language and coded components. In addition, as smart legal contracts become increasingly prevalent, it seems pretty likely that the market will develop practices and model clauses to help simplify the process of negotiating and drafting smart legal contracts. Smart contracts require careful planning to understand business objectives, but, with the right mindset, have real potential to create some efficiencies.
Quote: Professor Sarah Green: “Smart legal contracts could revolutionise the way we do business, particularly by increasing efficiency and transparency in transactions.