The Legal Enforceability of a Smart Contract

Contracts are one of humanity’s first globally accepted common fictions. Humankind has bartered long before the dawn of civilisation and still holds to the compact between two individuals as we race into the digital age. As we reach the new digital advent – blockchain, one basic question is still left unanswered - is the smart contract a contract, legally enforceable under the Indian Contract Act?

Section 10 of the Indian Contract Act, 1872 reads as follows:

“All agreements are contracts if they are made by the free consent of parties competent to contract, for a lawful consideration and with a lawful object, and are not hereby expressly declared to be void. Nothing herein contained shall affect any law in force in, and not hereby expressly repealed, by which any contract is required to be made in writing or in the presence of witnesses, or any law relating to the registration of documents.”

The above section in its commencement reads that all agreements are contracts. The phrase is caveated by the proviso that this declaration does not apply to agreements mandated by law to be made in writing, before witnesses, or registered. Additionally, the object of such a contract should be legal and the person contracting must be legally competent.

Consent is the next essential part of offer and acceptance. Section 13 defines consent as follows:

“two or more persons are said to consent when they agree upon the same thing in the same sense”.

Ergo, if the contracting party can be proved to have consented to the agreement, the contract is deemed valid.

This consent is either constructive (through actions) or explicit (in writing or speech). Oral acceptance may result in a quagmire relating to the proof of such consent. Written consent is affixing your signature (or thumb print) on a written agreement, which when registered forms a presumption in law regarding the validity of such agreement. In the case of unregistered agreements, witnesses to contracts are the apposite third parties to verify the validity of the contract.

A smart contract is any contract programmed to automatically execute predetermined terms of an agreement. Nick Szabo, a computer scientist, cryptographer and legal scholar, created the term ‘smart contract’ nearly 20 years ago. The classic example of this is the vending machine. Items on display constitute an offer to contract, the payment and selection of the item constitutes the offer, and the release of the item from the vending machine constitutes the acceptance (and automated execution) of the contract. This purely digital contract, when running on distributed ledger technology (DLT), cannot be changed. This immutability ensures that there can be no dispute as to the existence of the contract, its terms, or its fulfilment.

In India, the Telecom Commercial Communications Customer Preference Regulations, 2018, issued by the Telecom Regulatory Authority of India (TRAI) defines a “smart contract” in Reg.2(bk) as

‘a functionality of intelligent and programmable code which can execute pre-determined commands or business rules set to pre-check regulatory compliance without further human intervention and suitable for DLT system to create a digital agreement, with cryptographic certainty that the agreement has been honored in the ledgers, databases or accounts of all parties to the agreement’.

While one could argue that the adoption and acceptance of the validity of the smart contract constitutes a presumption in favour of the validity of the smart contract as a contract under the Indian Contract Act, the argument appears weighted against it. Unfortunately, the above-listed directive mandates access providers to use DLT in their internal systems i.e. commercial communications, complaints, etc. The language of the definition makes it clear that envisaged smart contracts are compliance tools and not representations of legally binding agreements. Electronic contracts simplicity, on the other hand, have been legally valid in India since the promulgation of the Information Technology Act, 2000.

S.10A reads:

“Where in a contract formation, the communication of proposals, the acceptance of proposals, the revocation of proposals and acceptances, as the case may be, are expressed in electronic form or by means of an electronic record, such contract shall not be deemed to be unenforceable solely on the ground that such electronic form or means was used for that purpose.”

Further, digital signatures affixed on contracts (electronic or otherwise) are valid by virtue of s.5 r/w s.2(p).

“Where any law requires that information or any other matter be authenticated by affixing a signature or any document signed by or bear the signature of any person, then such requirement shall be deemed to have been satisfied”

By virtue of the said IT Act provisions, every End User License Agreement (EULA), Privacy Statement, Terms of Services, Disclosure Policy or any other boiler-plate contract that users agree to while accessing internet-based platforms constitutes a legally binding agreement between the users and service providers.

The Indian Evidence Act was amended when the IT Act was brought into force. The amendments ensured the validity of e-contracts and digital signature certificates (DSC) as evidence before courts of law. Sections 47A, 65A, 65B, 85A, 85B, 85C, and 90A govern the field. The sections stipulate that there is a presumption in favour of the validity of e-contracts and the affixed DSCs. They also describe the procedure for testing such evidence.

The implication of the aforementioned statutes is clear - e-contracts are equivalent to hard copy / physical contracts. Smart contracts are coded to if-else situations and execute on the fulfilment of the programmed conditions. In this regard, there is no perceivable difference between smart contracts and an e-contracts i.e. there are terms of the agreement which must be performed by both parties.

The divergence between smart contracts and e-contracts occurs in its visual representation.Crucially, a smart contract can only be viewed in code, in contrast to an e-contract which is viewed in a recognised language. The transaction ledger can be parsed as text using a block-explorer, a software for visualizing blocks, transactions, and blockchain network metrics (e.g., average transaction fees, hashrates, block size, block difficulty), to view the transactions completed. In the case of smart contracts, the terms must be inferred from the record of transactions (distributed ledger) or by parsing the code of the smart contract itself. One can argue that a smart contract being translated by a coder into a recognisable language for the greater population is akin to translating a document from a language you don’t understand to one you do. The translation requires specialised skill, and the only difference is the language isn’t Tamil or Greek, its just code. Court documentation is replete with ‘official translations" of documents, a grundnorm of appellate litigation in India.

Another perennial issue with e-contracts and, by extension, smart contracts is that there is no way to verify the identity of the person contracting i.e., anonymity. Anonymity has long been a problem associated with the internet. On the web, identification is limited to the electronic signature / IP address of the party to the contract. While digital signatures have aimed to rectify this issue by affording a presumption to the identity as well, this system is still prone to malfeasance. Any person in possession of another’s DSC can affix the same onto a contract, thereby binding the person to a contract without their knowledge or consent.

It is important to note, however, that these issues are not principled problems with e-contracts or smart contracts, merely teething problems in its execution. A parallel can be drawn to how prior to mandating registration of a contract, sale deeds and agreements could be altered after its execution by unscrupulous elements to wreak havoc on the rights of a bona fide purchaser.

Ultimately, the only impediment to smart contracts being legally valid is adoption by the masses. The law has always followed trends, and smart contracts should be no different.

HOW IS ROOBA SOLVING THESE ISSUES?

We at Rooba.Finance aim to solve the issues prevalent in e-contracts and smart contracts. All Rooba Users must complete a KYC / KYB with a liveliness check to prove their identity before they can interact with the platform. Through this, we wish to solve the problem of anonymity on the internet. Now, not only user but regulators as well, can view the platform in real-time on an immutable append-only distributed ledger. This removes information asymmetry in trading amongst user and permits the regulators real-time monitoring, prevention and enforcement.

When a Rooba user trades asset-backed tokens on our platform, the user not only transacts the token but also authorises and executes a contract for the trade of the underlying asset. When you trade a gold backed token on our platform, you not only receive the token, but a digitally executed and stamped agreement for sale and transfer of the gold bar itself, which is retained on our servers. In the unforeseeable circumstance of platform failure or being hacked by malicious parties, the assets held off-chain are also legally in favour of the user who last held the token corresponding to the asset. Additionally, Rooba offers the ability to retrieve your tokens from your bespoke multi-signature Rooba Vault, in the instance of system failure.

So, not only do we ensure off-chain security, but completely safeguards your on-chain assets as well. Rooba offers its users an unbroken chain of custody from off-chain to on-chain and unassailable security. Join the Rooba Revolution today!

- Abhishek Sankritik, General Counsel, Rooba.Finance