By David Fox, Professor of Common Law, University of Edinburgh
It is a commonplace to say that technological development runs ahead of the law. Financiers and IT developers have created new kinds of tradeable value and entirely virtual systems for trading them. Any thought about their status in law comes only later, often prompted by an insolvency or by the failure of one of the parties to perform as expected.
The question that then arises is what, if any, law applied to those assets and systems. Very likely, the parties gave no deliberate thought to the question.
Tokenisation
This question is acutely relevant to the recently-developed process of tokenisation of assets. “Tokenisation occurs when an existing asset is recorded on a DLT [‘distributed ledger technology’] platform and represented as a token in order to improve processes around trading and transfer of the asset”: HM Treasury et al, Cryptoassets Taskforce: final report (October 2018), p 13.
The token might represent the ownership of a corporeal moveable, such as an identified gold coin in a vault, or an incorporeal security, such as a bond issued by a government or a company to raise debt finance. When the parties transfer the token on the DLT, they expect to transfer the coin or the security. The token and the off-ledger asset function as linked representations of each other, rather as the paper evidencing a bearer share represented the current holder’s entitlement to enforce shareholder rights against the issuing company.
Scots private law should have no great difficulty in explaining the tokenisation of many kinds of assets and the processes of transferring them. The tokens are essentially items of digital evidence. Token transactions evidence the parties’ intention to transfer the asset that exists – physically or legally – off the ledger. (This evidentiary analysis avoids the legally tricky question of whether the tokens, as unique items of digital data, are things in the law of property: see D Carr, ch 7 in D Fox and S Green, Cryptoassets in Public and Private Law (Oxford 2019)).
Transfer of assets
Most of the methods of transfer in Scots law that would be relevant to the sale of tokenised assets are legally “form-less”. Unless some special formality rule requires the transfer to be recorded in written document, then it is enough for the parties to form and act upon an intention that the right or the ownership of the thing should pass between them: Requirements of Writing (Scotland) Act 1995, s 1(2).
For example, the sale of a token representing ownership of a specific gold coin would fall within section 17 of the Sale of Goods Act 1979. Property would pass when the parties intended it to pass. The parties’ conclusion of a sale contract on the ledger (or, at latest, the final record of the transfer on it) would evidence the parties’ intention to pass the property in the coin.
Transfers of incorporeal moveables, such as bonds for payment of money, need a little more explanation.
Assignation is the method of transferring incorporeal rights. The transfer of a token representing a bond would be clear evidence of the current holder’s and the transferee’s intention to transfer and receive the right in the bond. However, assignation also requires intimation to the debtor.
The methods of intimation described in the case law assume that the parties would use written documents, such as deeds, written contracts or letters, to evidence each stage of the transaction. It doubtful, however, whether these methods are substantive formal requirements. The courts may have been explaining the usual kinds of transactional record used at the time.
In Christie, Owen and Davies plc v Campbell [2009] CSIH 26, 2009 SC 436 at para 14, the court endorsed WA Wilson’s view (in The Scottish Law of Debt (2nd edn, 1991) para 27.3) that the requirement was satisfied provided that the debtor was informed of the transfer, the amount due and that the assignee was asserting her right to the claim. Therefore, a generous view of the authorities might suggest registration token transactions on a DLT platform would suffice, provided that there was some basis for concluding that the debtor should be aware of registration on the DLT.
Alternatively, the novation of contracts might explain how the transferee of a token would get the right to enforce the issuer’s duty under the bond. Novation is the extinction of one contractual obligation and its replacement by another. When the transferor transfers the token to the transferee, the transferor releases the issuer’s obligation to pay the debt and the issuer assumes a new obligation to the transferee. The data changes on the ledger record the acting out of the parties’ intentions to adjust the rights and liabilities between them. The debtor’s consent is of course necessary for the constitution of the new obligation. Where it is envisaged that claims will be traded on a DLT, it would be possible to obtain such consent when the debt was created.
To call this a “transfer” is strictly a misnomer since the transferee claims against the issuer by a newly-created right rather than by one that once belonged to the transferee. The result is the same as a transfer by assignation despite this analytical difference.
Tokenisation and other transactions and assets
Not all kinds of asset could be tokenised in Scots law. The donation of a corporeal moveable, such as a gold coin, requires delivery. As the law now stands, the adjustment of data records on a DLT could not be treated as the physical delivery of a corporeal thing.
Formal legal requirements to use signed written documents (whether traditional or electronic) and the legal registration of transactions would prevent the tokenisation of real rights in heritable property. Not every DLT transaction would satisfy the Requirements of Writing (Scotland) Act 1995. Even if it did, separate registration in the land register would be needed to constitute or transfer the real right.
So whatever financiers and tech developers may wish for, the tokenisation of land is still a long way off. But for the kind of tokenisation commonly in use, Scots law can probably provide a legal foundation.
David Fox, Professor of Common Law, University of Edinburgh
