Author: AADITHIYAN.S , 3rd year BCom LLB , St Joseph’s College of Law.
ABSTRACT
Smart Contracts are computer programed or a transaction protocol which were intended to execute automatically, control, or document events and actions according to the contractual terms agreed upon. These smart contracts operate in a blockchain systems . These smart contracts are changing the sides of real estate by automatically transferring the property and the ownership once the payment for the same is completed, by reducing the need to satisfy the basic requirements of “conveyance” from the property transfer act and cutting out the basic required valid essentials like offer, acceptance , consideration ,and mutual intent since it is said to be embedded in the code and it is also mentioned that the contractual terms are pre-set and executed automatically which makes it difficult for the parties to verify if the parties have understood the terms and have given mutual intent . One of the major drawbacks of the blockchain systems of smart contracts is its immutability which booms into a big problem when there are errors in the code or any fraud. If a smart contract carries out a land transfer due to an error or a dishonest act , the legal system gets stuck . In regular law , a court can give a injunction order to alter the contract or reverse the transaction and can stop the transfer or freeze assets . Whereas in a decentralized system, there’s no way to fix or correct a recorded block . This gap between the code being law and the power of the state creates a serious legal issue. This paper looks at the conflict between the finality of blockchain and the ability of courts to provide fair remedies and the amendments to be made at places where there is a lack of a legal framework which relates to smart contracts.
KEY WORDS: Smart contracts, real estate , blockchain, immutability , automatic execution, injunction.
- INTRODUCTION :
A contract is an agreement which is enforceable by law and which also certainly specifies the legal rights and obligations pertaining to two or more parties , it mainly involves consent to transfer of goods , services , money , or promise to transfer any of those at a future date . One of the significant challenge surrounding smart contract is defining them within the existing legal frameworks . The traditional contract law is well-established, where a contract is being defined very clearly as a legally enforceable agreement between two or more parties which involves exchange of promises . A valid contract has several key essential elements such as offer, acceptance, consideration and mutual intent. Smart contract are computer programed or a transaction protocol which were intended to execute automatically , control or document events and actions according to a agreement or the contractual terms agreed upon. One of the major objective of smart contract is to reduce the need of trusted intermediators, arbitration costs , and fraud loses , as well as the reduction of malicious and accidental exceptions .
The smart contracts was invented by NICK SZABO in 1990s ,who was a cryptographer , world-renowned for his work on the concept of the blockchain , smart contracts benefits the and acts as bridge by covering the gaps between IT, law and human relations . 2009 was marked as a turning point in the development of smart contracts with the rise of cryptocurrencies , particularly Bitcoin. It quickly became clear that the addition of well-defined exchange conditions which was necessary for the proper functioning of virtual transactions . During the introduction of Bitcoin , it had faced certain limitations where it was said it lacked a decentralized ledger and could not allow for transactions to be concluded in a new block . Years later , the Ethereum blockchain was launched , which gained smart contracts the popularity it needed since it was possible to use smart contracts in practice using the ideal technology platform , which was presented by Ethereum for smart contracts to run in a effective way. In smart contract , concepts like offer , acceptance, consideration, and mutual , intent are embedded in the code , where the contractual terms are pre-set and executed automatically , which makes it much more harder and difficult for the parties of the contract to verify if they have understood the terms of the contract or to establish whether both the parties showed mutual intent to contract.
- Blockchain ,Immutability and Irreversibility in Smart Contracts:
- Blockchain systems in Smart Contracts :
Smart contracts in blockchain systems can now execute complex logic and is able achieve a wide range of functionalities , which is far beyond the scope defined by SZABO . Usually in blockchain systems , smart contracts can be written in various programming languages which is deployed as scripts or codes. The present generation of smart contracts can be viewed as distributed ledger programs which is accompanied by predefined rules, states and conditional responses enabling exchange , value transfer, and asset management. Smart contracts can also extend to serve as an alternative to legal contracts or as an supplement to law by utilizing an intelligent software with self-verification and automatic execution capability.
- Immutability of Smart Contracts :
Immutability is one of the most critical characteristic of smart contracts , when once deployed on a blockchain the code cannot be altered by any party . The immutability comes out from blockchain’s inherent structure ; where the code is replicated across numerous nodes in a distributed network which makes modifications impossible without consensus . This immutability which was once viewed as the greatest strength , paradoxically creates some the most dangerous vulnerabilities . When the developers deploy code to a blockchain , that code becomes unchangeable and permanent , which creates a significant risk that many users fail to anticipate. Unlike traditional software where bugs can be patched though updates, flaws of smart contracts is said to be remained exploitable forever . Despite having security vulnerabilities , smart contracts creates numerous practical challenges. One of them is lack of flexibility for modifications. Since it is very clearly understood that modification is not possible after deployment , the only way possible to modify a smart contract is to cancel out the old one and create an entirely new contract with the required updated terms.
Immutability complicates legal remedies , since traditional contract law offered various remedies like rescission , injunctions and damages when dispute arise but whereas smart contracts provide virtually no comparable recourse after the smart contract is executed .
Likewise , automated execution means that once predefined conditions trigger a smart contract, the contract proceeds without any oversight and cannot be stopped . This automation being efficient eliminated flexibility that exists in traditional agreements where parties at times can negotiate solutions depending upon the changing circumstances. This combination of irreversible code deployment and automated execution creates a perfect storm for both technical and legal complications which must be carefully looked into and considered before implementation. In traditional contracts , if a mistake has taken place in drafting or interpreting terms , parties often have recourse to renegotiate or seek legal remedies , like contract reformation or rescission , whereas in smart contracts there is a backlash which is being faced in order when it gets to solve disputes or renegotiations , since the contractual terms are automated and immutable in nature. If there is a error in the code which causes the contract to execute incorrectly, reversing such a transaction can become extremely very difficult, or if not it might even become impossible; this situation can lead into unintended outcomes at times where there will be a need to for a new contract .
Courts are still struggling to apply the traditional legal concepts to smart contracts , without proper legislative guidance , it is very uncertain for the judiciary to act upon such a concept.
- Legal frameworks :
Indian Contract Act , 1872 –
Section 10 – Which outlines the key essentials of a valid contract, i.e., agreement enforceable by law must be made with free consent of competent parties for a lawful consideration .
Section 8 – It defines the party accepting to perform the conditions of the proposal, and acceptance for any consideration provided for a reciprocal promise which is offered with a proposal , is an acceptance for the proposal.
Information technology Act , 2000 –
Section 4 & 5 – It provides the same legal recognition for electronic records and electronic signatures by making it equal to a paper based contract.
Section 10 – Validates any contract formed which is fulfilled by all the key essentials but is expressed in means of electronic form.
Specific Relief Act, 1963 –
Section 26 – It provides a legal remedy to certainly correct the written contracts or instruments, i.e., in the case of fraud or mutual mistake , where the document fails to express what the parties originally agreed upon.
- Research Objective:
– How does the fact that blockchain based smart contracts are ‘immutable’, create a problem with the existing rules about changing documents , as outlined in Section 26 of the Specific Relief Act of 1963 and in the absence of a central authority or a way to reverse transactions , what difficulties do courts face when trying to issue a personal order against someone when the ownership of property is recorded in a decentralized system that cannot be easily changed.
- Challenges faced by the Judiciary on the irreversibility and immutability of Smart Contracts:
When the automated execution of a smart contract collides and intersect with the statutory frameworks like Specific Relief Act , 1963, the law treats documentation as a flexible instrument which is capable of correction , whereas the technology treats it as unalterable law. Section 26 of the Specific Relief Act , 1963, it provides an equitable remedy to situations , where due to mutual mistake or fraud , a smart contract fails to express the genuine intention of the parties, i.e., the civil court posses the authority to rectify the contract and give injunction to the parties of the contract. If a software bug , typographical error in the code results in a contract executing a transfer that neither party intended . Despite a civil judge issues a formal decree ordering the contract to be modified and rectified under section 26, the technology itself cannot comply with the judicial mandate. If an automated smart contract tokenizes a piece of real estate and executes a transfer based on flawed parameters, the law will declare the transaction defective or voidable. To achieve the legal effect of a court ordered reversion of title , the parties cannot modify the existing deed, instead they are forced to execute a separate subsequent transaction to transfer the property tokens back to the original owner . This creates a major drawback where it requires for a fresh registration with the stamp duty liabilities . Further if one party refuses to cooperate with the “reverse transaction” , the court cannot easily intervene , whereas in traditional laws , a court can execute a conveyance deed on behalf of a non-cooperative party ; in the blockchain system of a smart contract , a court cannot force a transaction without possession of defendant’s private keys.
- Analysis / Suggestions:
With all the above information it is analysed and understood that the judiciary does not have the authority to give injunction to reverse transaction , despite considering all these circumstances if the court gives a decree to rectify and modify the contract , the technology cannot be in compliance with the judicial mandate . It is also understood that the existing legal frameworks and judicial injunctions are not sufficient enough to rectify fraudulent or erroneous land transfers on a blockchain . There is an absolute , critical need for targeted statutory amendments . While the legal frameworks of Information Technology Act of 2000 recognizes the basic electronic contracts ,whereas it does not address the automation , self execution or architectural immutability .
- Amendments :
There is a need for amendments for new legal frameworks and for the judiciary to give injunctions when needed appropriately.
- Information Technology Act, 2000:
The act should introduce a provision requiring smart contracts of a commercial or a retail nature to be accompanied by a natural-language legal ‘wrapper’ contract , this ensures that in cases of dispute , the human-readable document overrides the complied . Since smart contracts rely on automated data feeds to execute transfers , a new category of intermediaries must be recognized, these providers should have statutory duty care and reasonable security standards under cyber law , holding them liable if erroneous data triggers a irreversible execution.
- Specific Relief Act , 1963:
Provisions must be added where an instrument is a smart contract that cannot be modified due to technological limits , a decree for rectification should be interpreted as a mandate for the parties to execute a compensatory ‘reversal transaction’. The law should codify that when code cannot be altered , the court can issue orders to the fraudulent party to payback the aggrieved party a financial value that matches the value of the misallocated asset.
- Transfer of Property Act 1982 & Registrations Act 1908:
If a court orders a smart contract drive property transfer to be reversed due to a fraud or error , that ‘return transaction’ should be legally exempted from secondary stamp duty and fresh registration fees . Both the acts should treat this reversal as corrections not a new taxable conveyances.
- Conclusion
The blockchains contracts are permanent, but Indian laws require flexibility to correct the fraud or mistakes. At present , if a court orders a property transfer to be reversed , it cannot physically alter the blockchain which creates a deadlock . To fix this India must amend new laws as mentioned in the suggestions listed above and mandate state-controlled , “permissioned” blockchains for public registries, and by embedding a digital master key into the code , the government can enforce court’s orders strictly and make the parties of the contract to adhere to it .
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