US District Judge Rules in Favor of Custodial Arrangement for bZx DAO Members

In a recent update to the ongoing class-action lawsuit against bZx DAO members, a United States district judge ruled that the ability for developers to upgrade a smart contract where the key is in the hands of a single developer makes the arrangement custodial. The ruling, passed by United States District Judge Larry Alan Burns on March 27, marks a significant development for decentralized autonomous organizations (DAOs).

While the ruling may seem unremarkable on the surface, Web3 lawyers have noted its potential impact on the DeFi space. The defendants in the case claimed that transactions in the bZx protocol are noncustodial because users can maintain custody of their assets. However, a successful phishing attack on a bZx developer compromised the funds supposedly under users' custody, rendering the distinction between custodial and non-custodial meaningless.

Gabriel Shapiro, the general counsel for crypto firm Delphi Labs, tweeted that the court's ruling implies that a single developer holding the upgrade key makes the arrangement custodial. This could also apply to developers with multisigs, potentially leading to DeFi platforms that employ multisigs being seen as custodial platforms. As a result, these projects may need to obtain the necessary licenses for custody to comply with the law.

Gregory Schneider, the deputy general counsel for Hedera, commented on the lawsuit, highlighting that the ruling is significant for the DAO space. According to Schneider, the case must be "closely examined by anyone thinking about legal liability in the DAO space."

DAOs are autonomous organizations that operate using smart contracts on a blockchain. They are designed to be decentralized and operate without intermediaries, such as banks or other financial institutions. However, the bZx case highlights the potential legal implications for DAOs, particularly those that employ multisigs.

Multisigs are a type of digital signature that requires multiple parties to sign off on a transaction. They are often used in the DeFi space to secure smart contracts and provide an additional layer of protection against hacks and other security breaches. However, the bZx case raises questions about the legal status of multisigs and their impact on the custodial vs. non-custodial debate.

The ruling in the bZx case may lead to further regulatory scrutiny of DAOs and DeFi platforms. It underscores the need for the DeFi industry to develop robust security measures and to comply with applicable laws and regulations. As the DeFi space continues to grow and evolve, it is likely that we will see more legal challenges and regulatory developments in the months and years ahead.