James Brockhurst May 30 2019 Is it time to consider blockchain-based trusts? Forsters LLP | Private Client & Offshore Services - International James Brockhurst Private Client & Offshore Services IntroductionCentralised and decentralised modelsDecentralised applicationSmart trustsIntroductionShould trusts be put on a blockchain? The answer is invariably no, as there is friction between the discretionary, flexible world of trusts and the fixed, certain world of blockchain-based smart contracts. Life assurance on a blockchain? Possibly, but trusts? That is a tricky question.With the slow but inexorable process of tokenisation, whereby real-world assets are moved onto blockchains and represented by tokens, it is only a matter of time before trust practitioners will need to look at blockchain-based trusts or 'smart trusts'.Centralised and decentralised modelsAs with all blockchain innovation, a distinction must be made between centralised and decentralised models:A centralised trust is managed by a body of individuals or a corporate trustee. This is the traditional model.A decentralised trust's management is entrusted to a decentralised application run on a blockchain.If trust documents, such as letters of wishes, can be uploaded onto a public blockchain (in an encrypted form), this affords a certain advantage. This is a simple and effective if unexciting prospect for trust fiduciaries.Decentralised applicationEntrusting a blockchain with trust documents is one thing, but creating a decentralised application to run a trust is quite another. Yet, if trustees find themselves managing a tokenised asset, it is not as big a leap as might be initially thought.For example, X Trust, located in Jersey, decides to invest in a fund domiciled offshore which invests in US real estate. The trustees are surprised to learn that in exchange for their investment, they receive tokens rather than a traditional fund interest such as units. The fund offers more attractive terms if dividends are received in tokens rather than cash.The trustee now finds itself holding tokenised assets (the fund interest) and periodically receiving token dividends. The traditional means of handling blockchain assets – using a private key to access the public key – is unacceptable from a risk management perspective, in terms of:securely custodising the private keys;ensuring no individuals associated with the trust steals the keys; andpractically handling the keys for day-to-day management and transactional purposes.Hence the need for a decentralised application to manage this process, tailor-made for trustees – start-ups are now targeting this business need.Smart trustsOnce trustees hold assets which are stored on blockchains, it is then a question of how far they wish to harness blockchain technology. Where trusts have fixed characteristics (eg, capital at the age of 30 or given outright to heirs on the death of X), why should clients not be given the option to write this into a smart contract, so that the title (and not just the beneficial interest) to tokenised trust assets can vest automatically at the relevant date. Reserved powers could be programmed to devolve directly to heirs on the settlor's death.Certain roles (eg, enforcers of purpose trusts or protectors of discretionary trusts) would be reinforced in a smart trust. A protector could, for example, be empowered to veto certain trustee decisions, if indeed that is written into the trust and the terms of the trust have been successfully embedded into the smart contract.The implications for this are wide-ranging:Will tax residence be affected if trusts are being run by a network of nodes dotted around the globe?How can the trustee fiduciary role, sustained as it is by personal relationships, be transmuted into the blockchain format?How can offshore substance rules be satisfied if de facto control is delegated to nodes?How will tax authorities construe these arrangements and is there a greater risk of nomineeship?Will divorce courts be more willing to bring smart trusts within the matrimonial pot than conventional trusts?There are undoubtedly technical solutions to these questions. Yet the real question concerns whether trusts should be put onto blockchains. The beauty of the modern trust is its flexibility and the beauty of blockchain is its pre-programmability and immutability. Can these two worlds really come together?For more information on this topic please contact James Brockhurst at Forsters LLP by telephone (+44 20 7863 8333) or email ([email protected]). The Forsters LLP website can be accessed at www.forsters.co.uk.