Smart Contracts: the way of the future for New Zealand business?

March, 2018

Smart contracts are a logical next step for business. Low-cost, transparent, efficient, and automatic? Why wouldn’t you sign up?

But as with any new technological development, it’s about using it wisely, so you or your business can reap the benefits—and avoid any speed bumps.

Smart contracts: the way of the future for New Zealand businesses?Think about how you carry out your business, and your personal finances. It’s probably a bit different from ten years ago, right? Even more so than 20 years ago.

Lots of things change, but the thing that’s probably had the biggest impact on the way you work is technology. The internet came along, and suddenly there was a world of information available at your fingertips, and new ways to do things faster and better. Email made written communication a lot easier and a lot faster (and began to take over our lives!). Smartphones were once a dream, then a novelty, and are now ubiquitous. Maybe you’re looking at one right now.

As with smartphones, the contracts of the future will be smart as well. Contracts that you can enter into that are transparent, conflict-free and guaranteed to be executed by all parties, with fewer middle persons.

It’s something you’re probably going to want to jump on at some point–or need to jump on. But it’s also important to understand the best way to use them, so you’re getting the best deal for you, and the deal you expect.

We’re afraid the dream of lawyer-free contracts isn’t coming true… at least not yet. But with a bit of expert guidance to get them going, and the peace-of-mind of having support there if they go wrong, you can enjoy a contract which is a lot more certain, and mostly manages to take care of itself.

What are smart contracts? How do smart contracts work?

Smart contracts are self-executing pieces of computer code that monitor and carry out the terms of a contract, agreed to by the parties to the contract.

They’re particularly useful when they involve digital assets, or real-world events that you can track automatically. Basically, it comes down to an “if-then” premise: if A happens, then do B. Or any combination thereof, to however many number of steps you like.

But unlike most traditional contracts, it’s entirely automatic. Each step is recorded on, and then the next step triggered by, a blockchain.

Because smart contracts, as they’re generally thought of today, are not-so-distant cousins of cryptocurrency. You’ve probably heard a lot about that recently–we even talked about cryptocurrency and Bitcoin.

Like Bitcoin transactions, smart contracts exist on a blockchain, such as one called Ethereum. Unlike Bitcoin, which is all about currency, Ethereum allows you to put any sort of agreement or code on the blockchain.

  1. The parties to the smart contract agree on the terms.
  2. The parties write the agreement into computer code.
  3. The parties put the code on the blockchain. Everyone can see the contract, but the parties’ identities are anonymous.
  4. When conditions prescribed by the parties are met, the smart contract carries itself out.

Those conditions in (4) could be a wide variety of things. For example, it could be as simple as a payment of money: once the money arrives in an account, the next step in the contract is automatically carried out without need for human intervention. Or maybe the contract only executes when a stock price rises above a certain amount. Or when cargo reaches a destination.

Benefits of smart contracts

Smart contracts are not suited for every transaction. But when they are right, they come with a number of benefits. The biggest benefits are their efficiency, certainty and transparency.

  • Immutability: Nobody can change a smart contract once the parties add it to the blockchain. This guarantees performance. Fraud is pretty much impossible.
  • Efficiency: Each step in the contract is triggered automatically. No human intervention required.
  • Transparency: Anybody can look at an agreement’s code. People can spot any errors, and there’s no way to hide anything not agreed to by the parties.

Potential smart contract examples

Property transactions

All information about a particular property that you wish to purchase could be stored on a blockchain as its digital identity. As this data cannot be changed, you, as well as your bank can rely on such information for your due diligence investigation and assessment of the property.

You yourself will have a digital identity on a blockchain that would be used by your bank to access your ability to borrow. Your whole financial history would be recorded there, and nobody can alter it. Your bank will know if you had defaulted on previous bank payments.

Smart Contract One: Once the bank approves your loan, you can enter into a smart contract with them for the loan.

Smart Contract Two: Once you suss out the terms of the purchase, you and the seller enter into a smart contract whereby once you pay the purchase price, the contract transfers the land title into your name.

Smart Contract Three: The seller could enter into another smart contract with his or her real estate agent, whereby as soon as you pay the seller the purchase price, the seller will pay to the broker his or her commission.

One action will set off a chain of actions which nothing can stop. Thus, the smart contract delivers the desired outcomes to all parties.

Automated orders and shipping

Smart Contract One: You enter into a contract with an Australian company to ship you goods every time your inventory (tracked electronically) falls below a certain number. The contract triggers a new order every time inventory hits that point. Your payment automatically goes into escrow. It only exits escrow and goes to the seller once the goods arrive on your property (either as reported by the shipping company, or a beacon attached to the container).

Smart Contract Two: The Australian seller enters into a contract with their shipping company. As soon as the goods arrive at your property, the shipping company receives their payment from the seller.

In both these cases, payment is guaranteed when the contract is fulfilled by each party. There’s no risk of you paying for goods that don’t arrive, or the seller not receiving payment for goods that do arrive.

Smart contracts: more efficient, but still need lawyers

Do smart contracts need lawyers?

Early on, a lot of the commentary about smart contracts was that they spelled an end to contract lawyers. That the automation meant people could just set up the contracts and then the blockchain would do the rest.

Now, this probably isn’t surprising coming from lawyers, but it is true: most smart contracts will still need a smart lawyer.

Smart contracts need to have the right terms

Just because it’s called “smart”, doesn’t make it so. The contract’s terms need to provide for what you want the contract to do. You need to account for any unforeseen implications. And you need to figure out how to handle any disputes.

Because one of the big benefits of smart contracts is also one of its weaknesses: once a smart contract starts, there’s no stopping it, and there’s no changing it. You need to make sure it’s absolutely perfect for your purposes before you commit to it.

Smart contracts need to be legal

And just because it’s called a “contract”, doesn’t make it so. Some things you might want to put into a contract simply aren’t legal, or can’t be enforced. That could get you into trouble later on (remember: the contract is public!), or you might not end up with what you want.

Smart contracts may still give rise to disputes

Smart contracts definitely cut down the risk of non-performance. But there’s still always the possibility something will go wrong along the way. Ideally, you’d have something written into the contract to account for that, and having an expert do that is the best way of ensuring things will work in your favour.

Smart contracts: the way of the future… but not for every transaction

Smart contracts still aren’t perfect for every kind of contract.

  • You can’t modify them once you commit to them. So if changing conditions require a change to your contract, you’ll have to end the existing one and create an entirely new one. If that’s likely to happen, and likely to happen often, smart contracts might not be right for you.
  • Smart contracts are based on clear transactions. That’s great for anything that can be measured or tracked precisely. But if it’s, say, a contract for services, it’s not so easy for a smart contract to monitor that. What if it’s based on work being done to a certain standard? In many cases, that’s a determination that can only be made by a human.

Smart contracts: the bottom line

We think there’s a lot of potential for smart contracts. They can make things more efficient, transparent and certain.

They’ll certainly become more and more prevalent. It’s not a matter of if, but a matter of when. Just as we saw phones become smart very quickly, we won’t have to wait long before smart contracts become a normal part of our lives.

But as with most things, they still require a measure of caution. And we’re making sure we’re up with the latest, so we can provide you the advice you need when deciding whether to enter one.

Of course, you might think, “I don’t need smart contracts”, or “they’re not for me”. With all the jargon, and the fact they’re still reasonably rare, that’s understandable.

Yet maybe one day long ago, you thought the same thing about a mobile phone.

And now you can’t live without the smart phone there in your pocket.

Get advice about how you can use smart contracts: talk with us today


Bitcoin: A good investment? Currency of the future? Or just a flash in the pan?

February, 2018

Bitcoin and other cryptocurrencies are growing as people jump on the bandwagon in New Zealand and elsewhere. But are they a good investment? What are the Bitcoin risks? Could they become part of our everyday currency? And what about Bitcoin tax in New Zealand? Canterbury Legal director Clive Cousins explores the implications.

Last Friday David Ballantyne and I attended the Reserve Bank lunch hosted by the Canterbury Employers’ Chamber of Commerce, where we received an off-the-record briefing from Acting Reserve Bank Governor Grant Spencer on the state of our economy, pinpointing developments affecting the financial system.

Much of the address focused on more of the same for the economy, with the Government‘s housing policy still taking a lot longer to implement and unlikely to impact in the current year.

But it was a question on cryptocurrencies that caught my interest, followed by a direct assurance that there were no plans in the short term to regulate them because of their limited effect on our financial stability.

It seems that from the Bank’s perspective, Bitcoin is far too small a player in the New Zealand economy to warrant consideration—let alone regulation—despite all the hype and media attention it receives.

Yet in December 2017, Bitcoin’s worldwide value was more than $5 billion greater than our GDP, after just 9 years of life.

There’s something more to Bitcoin. But does it have a future in our economy? And is it worth your attention?


Bitcoin Basics

If you’re up to speed and understand the basics of Bitcoin feel free to skip this section. For people like me who are coming late to Bitcoin, here is a rundown.

The fundamental takeaways:

  1. Bitcoin is decentralised, and sits outside the control of banks or governments.
  2. Unlike traditional bank accounts, Bitcoin are kept in anonymous “wallets”. You can acquire, spend, and exchange Bitcoin without anyone ever knowing your identity.
  3. The value of Bitcoin is dictated only by supply and demand. There’s a limited number of Bitcoin, and they have utility—they can exchanged for goods and services, just like regular money.

So governments and banks may have some reservations about Bitcoin and other cryptocurrencies. They can’t regulate it, discover who has Bitcoin, or directly influence its value.

Need a bit more background? Read on…

Bitcoin is a virtual currency

Bitcoin is a type of cryptocurrency–a virtual currency. It has no physical form—it just sits as an entry in a digital ledger. But then, that’s also the case with most currency a bank holds. Only a small amount is actually kept in paper and coins.

The bigger difference between Bitcoin and traditional currency is the nature of that digital ledger. Traditional banks and central banks keep a centralised record of who has what amount of money. They also have influence over how much that money is worth, and how much of the currency is available.

Bitcoin is decentralised

All transactions since Bitcoin began in 2009 are stored in a constantly updated distributed electronic ledger called a blockchain, which is shared across computers of Bitcoin users around the world.

Each of those computers has a copy of the blockchain (the list of transactions). And existing blocks can only be changed if a majority of computers in the blockchain agree—so in practice, it’s impossible to tamper with the records.

Bitcoin is finite

There’s also a maximum possible total number of Bitcoins: 21 million. These slowly become available to Bitcoin users by a “mining” process. Every 10 minutes, Bitcoin groups pending transactions together into a new block, which becomes a mathematical puzzle. All computers on the chain start trying to solve the puzzle. The first one to succeed receives a Bitcoin reward, after a majority of computers confirm that the answer and the transactions are valid—and after a number of other blocks have been added to the chain, further confirming the validity of the transactions.

Bitcoin trading risks – is Bitcoin a good investment, or even an investment at all?

Spencer dismissed the risk of cryptocurrencies to New Zealand’s financial stability, saying Bitcoin and other cryptocurrencies are just “a bit of a sideshow.” Something akin to a punt at the races, or a trip to the casino.

That’s a popular view. A lot of detractors regard it as a speculative mania, similar to the Dutch Tulip Bubble of the 16th and 17th centuries. The newly-introduced and fashionable tulip was in heavy demand, driving prices up, before they dropped dramatically. In the same way, Bitcoin is now in demand, but the demand may not last.

A plausible risk. However, to date Bitcoin has so far proved to be a reasonable gamble. Prices fluctuate, but have generally trended up.

But is it even an investment? You can’t derive income from Bitcoin, unlike shares, deposit interest accounts, or property. Benefits only come from the value of Bitcoin itself increasing. And detractors have applied the “greater fool theory” to that. The “fool” acquires Bitcoin at foolishly expensive prices, with the hope that a greater fool will come along to buy them for even more.

There can’t be a guarantee that will happen, of course. However, the finite supply of Bitcoin does support a belief its value will continue to increase. There can only ever be 21 million Bitcoin, but the number of people interested in it—and its utility as a currency—can go up.

Its weaknesses follow as the flipside of that. Any increase in the supply or a sudden dumping of a significant number of Bitcoin, or a decrease in its perceived utility, would set the value tumbling.

What part could Bitcoin play as a currency in our economy?

Spencer’s remarks aren’t the Reserve Bank’s only comment on the matter. In a 44-page report released late last year, the Bank said crypto-currencies are “experimental in nature”, and there are “material risks” using them—in particular, their volatility.

But the Bank may still adopt aspects of the technology in the future. The report states “work is currently under-way to assess the future demand for New Zealand fiat currency and to consider whether it would be feasible for the Reserve Bank to replace the physical currency that currently circulates with a digital alternative”.

But Bitcoin wouldn’t be that digital alternative. The authors calculate that Bitcoin can only handle transactions at a rate 1/12 of that required to handle all transactions in New Zealand alone. A digital alternative would need all the security and scalability issues worked out.

The Bank concludes that even with the increasing use of cryptocurrencies “national currencies are likely to remain an important payment mechanism”, given that most jurisdictions require you pay tax in domestic fiat currency, and it’s difficult to use cryptocurrencies for credit.

Bitcoin and tax – how does IRD tax Bitcoin?

Tax and cryptocurrency is a little unclear in New Zealand, but Inland Revenue is starting to make that clearer by developing guidelines for the taxation of profits obtained in trading cryptocurrencies.  Ahead of this, they’ve advised that people could regard Bitcoin as like gold bullion for the purposes of taxation.

Per an IRD paper, proceeds from the disposal of gold, as with other personal property, would be taxed if it had been purchased “for the dominant purpose of disposal”. So if you were acquiring Bitcoin not to spend, but to make a profit by selling, you’d need to pay tax on your profits.

But you would also be able to deduct any expenses, such as the acquisition cost and expenditure related to the purchase such as foreign exchange charges.

It’s likely that losses would also be deductible. Per that same paper, “[j]ust as an increase in value will mean that the profits are taxed, if the gold has decreased in value, and is sold for less than it cost, that would result in a deductible loss”.

So is Bitcoin and cryptocurrency worth it?

There’s no right or wrong answer here. As with any possible investment, it’s up to you to weigh the possible risks and benefits. Certainly, people have made tidy profits from Bitcoin—particularly early adopters. But it remains extremely volatile, and its utility as a currency is still fairly low, as not many places will accept it in exchange for goods and services.

But it sounds like apart from IRD’s upcoming guidelines, there’ll be little further regulation on cryptocurrencies in New Zealand in the near future. That’s good and bad for the potential investor: good because it won’t impact on any profits; bad because it won’t result in any new protections.

It’s also unlikely cryptocurrency will become a dominant form of currency any time soon. People have made plenty of bad predictions about technology like that in the past—phones, computers, television. But as the Reserve Bank report shows, there are still some very real limitations on cryptocurrency. Until those are overcome, it won’t be feasible as a primary form of currency.

So we’d close as the Bank does: caveat emptor—buyer beware.

As Bitcoin and other cryptocurrencies are growing people jump on the bandwagon in New Zealand and elsewhere. But are they a good investment? What are the Bitcoin risks? Could they become part of our everyday currency? And what about Bitcoin tax in New Zealand?

  • This post is opinion intended to help you understand more about Bitcoin and cryptocurrency. It doesn’t constitute formal legal or financial advice. If you are interested in investing in Bitcoin or other cryptocurrencies, we recommend you talk with a financial professional.

© 2019 | NZ Legal Ltd trading as Canterbury Legal