Limited liability is a tool for DAO entrepreneurs to restrict the risks of having their personal assets at stake just for joining and participating in a DAO. Legal entities also allow DAOs to own off-chain assets and enter into agreements to make real asset purchases, open bank accounts, and hire contractors.
KALI has simplified the steps to form a DAO LLC (or KALI Co) and we have been encouraged to see our users take advantage of this option as they venture out into the brave new world of smart-contract-based investment and service companies.
To clarify for the web3 space how the KALI app helps automate and register LLCs and to share some of our knowledge for crowdsourcing purposes, we have summarized findings and templates in this post. It’s never been easier to create a club with tokenized shares, or build software and host a dApp with more legal protections.
Let’s dig in, shall we?
LLCs involve a registration with the state and an internal operating agreement.
KALI provides three such templates for DAO LLCs.
An instant registration option as a Delaware Series LLC (good for temporary or ‘burner’ accounts, like wrapping a hackathon team), standard LLC (more suited for products or services) with language for both Delaware and Wyoming, and a Delaware investment club LLC template based on MetaCartel Ventures.
First, let’s review why or why not a DAO might pursue a corporate form as an LLC.
An LLC is a hybrid of a partnership and corporation. It will be taxed as a partnership by default (with each member accounting for profits on their personal returns), but can elect to be taxed as a corporation, and in either case, will enjoy the limited liability of a corporate body.
LLCs are created by filing a certificate of formation or articles of organization with a state secretary.
Let’s review the respective tradeoffs.
The Good with LLCs
LLCs are flexible by nature and can operate for any legitimate business purpose. They are very much a creature of contract law, and their internal operating agreement for most cases will define how members organize themselves. To this end, most default assumptions in corporate statutes, such as fiduciary duties (that is, duties of loyalty…) can be overridden by agreement.
LLCs also protect the privacy of their members in supportive states like Delaware and Wyoming. Therefore, the public and state don’t need to know who the members of an LLC are. Only an authorized representative will need to be named on a filing, and this is usually a paralegal, or in the case of a KALI formation, a member of the KaliCo team or LexDAO.
LLCs are also fairly cheap to maintain, just requiring an annual franchise tax and registered agent for receiving state notices (together these are only a couple hundred dollars a year).
The Bad with LLCs
LLCs have default obligations with respect to distributions of profits and assets, and could require registration of their shares if promoted or sold to the public. While these assumptions can be managed by the terms of the operating agreement, this imposes some attention to detail.
LLCs taxed as partnerships will need to make an informational return (Form 1065) with the IRS detailing their tax burden, as well as prepare forms of K-1s for LLC members to attach to their personal statements. While not at all strenuous requirements, these tax terms are scary enough to be repeat questions in the KALI community.
While LLCs are private with regard to the general public, states grant members the right to reasonably inspect and get information about how an LLC operates and the identity of their fellows.
In the former case, most financial accounting is already fairly obvious by reviewing on-chain transactions, but in the latter, many DAOs that are not pursuing a business purpose might be reluctant to record their membership, even internally.
Therefore, for DAOs that want to pursue a larger membership base than a traditional club or company, such as a protocol or non-profit association with social tokens, UNAs might be better for limited-liability purposes (also supported on KALI), as this would simplify such requirements where identity is hard to obtain or not desirable to confirm at scale.
Series LLC (Instant)
Delaware law supports the creation of a “master” Series LLC that can issue “child” entities with their own rights and obligations, and most importantly, their own identity as a limited liability company. Crypto lawyers have noted how Series LLC are neatly situated to respect the statutory requirement for separate accounting of ownership (as blockchain-based orgs have automated accounting and obvious separation by hex addresses), while being friendly to internet natives, as they can be created just through private agreement without external entanglements.
The KALI team has therefore registered this option for the benefit of KALI DAO users as KaliCo Ricardian LLC, based on previous research on “Ricardian LLCs” and implementations by LexDAO.
Using this tool, a user can select and form a limited liability entity with just their blockchain signature and avoid filing requirements, allowing for an instant wrapper for their assets and making related DAO transactions. For now, KALI provides this service for free, handling off-chain requirements for our early adopters.
DAOs that deploy with this Series LLC option will also have a legal reference stamped into their DAO directly (each DAO has a string variable for
docs) as well as receive an NFT with its Series ID (KaliCo Ricardian LLC, Series ). The Master Operating Agreement and form of Series Agreement are also included for review in each DAO dashboard on IPFS so members can keep track of their obligations, and new members joining by paying tribute or buying shares can review such LLC terms.
KALI users can also draft a standard LLC operating agreement for either Delaware or Wyoming through the process of deploying a DAO if they select this option before checkout. The operating agreement will be auto-populated with the governance settings chosen for their DAO and pinned to IPFS during deployment. KALI provides a formation service, as well, for users that haven’t already filed with the state.
The benefit of a standalone entity will be greater customization over business terms, as the Series LLC format uses language that gives KALI maintainers curation rights on the terms of the Master Agreement.
Investment Club LLC
Similarly, KALI users that want to pursue a formal investment club that might collect NFTs or engage in off-chain equity investments, can use our form of LLC investment club agreement tailored for Delaware law (which has a strong judicial bench for considering investment cases). This form of LLC agreement also includes an accredited investor questionnaire and disclaimers suited for fundraising.
DAO LLCs are becoming the favored entity type for running traditional businesses and membership clubs through blockchain smart contracts. KALI sees these as public resources that should be streamlined, and produced in the open by crypto lawyers for the benefit of web3 founders and teams that want to make the digital world all that more awesome.
If you have questions about our research, the KALI software, or want to join a community at the intersection of blockchain and legal systems, check out our discord server, and lurk our twitter. We promise, it will be worth your attention and time. (And be on the lookout for upcoming articles on UNA and Swiss Associations hosted by KALI.)