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July 29, 2024

The Appearance Of Smart Contracts In Turkish Law And Their Relationship With Blockchain Technology

INTRODUCTION

With the rapid proliferation and integration of technology into every aspect of our lives, particularly in the commercial and industrial sectors, there has emerged a need for a faster and more reliable contractual structure as an alternative to the lengthy and complex processes of contract drafting and signing, and business models for companies. Smart contracts, offering a more secure contract system compared to physical contracts due to their multidisciplinary structures, have integrated into the required database systems with the advent and development of blockchain technology and have begun to be used in commercial life.

A. SMART CONTRACTS AND BLOCKCHAIN TECHNOLOGY

a. Blockchain Technology

Smart contracts, which can be defined as “contracts consisting of computer codes that automatically execute upon the occurrence of predetermined condition(s)” emerge as codes that automate certain rules and processes on blockchain platforms. Due to the fact that smart contracts can be regulated with the blockchain infrastructure, it is of great importance to understand blockchain technology first.

In this context, although it is not possible to make a definition that encompasses all the features of blockchain technology due to its multidisciplinary structure, blockchain can be simply defined as a technology where data is stored in blocks that are interconnected like a chain. In a blockchain system, each piece of data is written according to a specific rule and processed into structures called blocks, which contain not only the data but also information about the time when the data was recorded (time-stamp). The addition of each block to one another forms the “chain” creating a structure where data is added in chronological order, allowing everyone to view and verify this information. The aforementioned block record is subsequently transmitted to other users, and users record this block. In this way, the “consensus mechanism” process begins, and when the majority of users connected to the chain reach a consensus that a transaction is valid, the transaction is deemed valid and takes its place in the block. Since each block is created with the approval of all users, it cannot be altered or deleted, thus ensuring an extremely transparent and secure ledger.

b. Smart Contracts and Their Principle of Work 

In smart contracts created with the blockchain infrastructure mentioned above, conditions are written in the format of “…if-then-else” in addition to the working system of the blockchain. Once the conditions are determined, the performance to be fulfilled upon the occurrence of the condition is encoded within the block. In other words, the coding of smart contracts is based on the condition “if x happens, then do y”. Within this framework, it can be said that the part starting with “if” represents the obligation of the other party, and the part starting with “then” represents the obligation of the party preparing the contract.

Whether the actions specified in the code and the obligations imposed on the parties actually occur is checked by a system called “boolean algebra” where the variables of this algebra are evaluated as true or false. The smart contract begins or continues to operate when the variables are evaluated as true; it does not start or stops operating when evaluated as false.

Other parties on the blockchain can view these conditions and negotiate on the contract, and these conditions serve as a proposal for the users in the chain. By accepting the proposal, users become a party to the contract and undertake the obligation to perform the conditional act. Upon the occurrence of the condition coded within the block, the obligations of the parties will be executed automatically.

Smart contracts, once established, are performed automatically and irreversibly by the code upon the fulfillment of the conditions, and they cannot be altered without the approval of the majority of users. Therefore, once a smart contract is established, the rules of adaptation of the contract, withdrawal from the contract, or cancellation of the contract, as regulated in the Turkish Code of Obligations No. 6098 (“TCO”), will not be applicable, nor will the terms of the contract be altered by courts or other third parties.

c. Types of Smart Contracts

Although smart contracts can be categorized under different groups based on various characteristics, it can fundamentally be stated that smart contracts are divided into “on-chain” and “off-chain” types.

In off-chain smart contracts; the parties first negotiate and sign a written contract using traditional methods. Subsequently, the parties regulate certain clauses related to the performance of the signed contract through a smart contract created with blockchain technology, thereby forming two interconnected contracts.

In on-chain smart contracts; there is no contract established outside the blockchain. The contract is directly and entirely established on the blockchain, in the form of a smart contract, including the stages of offer and acceptance. 

B. THE APPEARANCE OF SMART CONTRACTS IN TURKISH LAW

Due to the establishment of smart contracts in two different forms, it is necessary to examine the legal nature of on-chain and off-chain smart contract types separately. In off-chain smart contracts, the main contract is established through offer and acceptance, and the smart contract is used solely for the execution of some or all parts of the main contract. In this case, the parties actually express their intention to establish and perform the contract through the main traditional contract. Therefore, off-chain contracts constitute contracts established by the mutual and corresponding declarations of intent of the parties in accordance with the TCO, by their nature. 

In on-chain contracts; (i) the offer and acceptance stages, (ii) the establishment of the contract, and (iii) the performance stages all occur on the blockchain. At this point, in accordance with Article 1 and 2 of the TCO, which stipulate that for a contract to be established, the parties must express mutual and corresponding declarations of intent and agree on the essential points of the contract, it can be said that the offer and acceptance stages have fulfilled. This is because one party’s submission of an offer to the blockchain constitutes a proposal. Transactions in the block are approved by users if they comply with the blockchain, and the block is added to the chain. Thus, the code carrying the offer becomes visible to other users. When another party finds the offer suitable and adds their will to the blockchain, acceptance occurs. Therefore, when the block carrying the acceptance intention is added to the blockchain, it can be said that a contract has been established between the parties within the meaning of the TCO. However, there are also opinions in the doctrine arguing that smart contracts do not constitute traditional contracts due to the absence of offer and acceptance stages.

When an evaluation is made regarding the form t of contracts, it can be stated that, in accordance with Article 12 and 26 of the TCO, the general principle of freedom of form is envisaged in contracts. Therefore, as long as it does not contravene the mandatory provisions of the law, smart contracts can be established over the blockchain.

Although freedom of contract is generally recognized under Turkish Law, special form requirements are stipulated for certain contracts, it is controversial that how this special form requirements will be handled in smart contracts. For instance, a preliminary contract to sell for immovables must be executed by a notary, and it would not be possible for notaries to draft smart contracts on the blockchain by writing code. Hence, it can be said that contracts whose validity tied up to an official form cannot be established as smart contracts.

However, it can be argued that smart contracts meet the requirement of ordinary written form. This is because, for a contract to be considered in ordinary written form, it must be written and signed by the parties. Even though they are written in coding language, since the terms of the contract and the acts of the parties are written on the blockchain, not recognizing smart contracts as meeting the writing requirement would prevent the integration of technological developments into our legal system.

Regarding the signatures of the parties, in the blockchain system, each piece of data is signed with the user’s private key, and a user’s involvement in the smart contract is realized by approving the data in the contract with their personal key. In this aspect, personal keys are quite similar to electronic signatures. Considering that secure electronic signatures are legally recognized as handwritten signatures, it can be inferred that this provision can be applied by analogy to personal keys. However, since there is no regulation in this regard yet, it is still unknown how judicial authorities will assess the nature of the personal key as a signature.

CONCLUSION

Smart contracts, which can be defined as “agreements made between individuals or institutions without the need for a trusted authority, whose terms guaranteed by distributed ledger technology protocols. When the terms of the agreement are met through blockchain verification mechanisms, the obligations automatically come into effect and are recorded on the blockchain network are an innovative concept that automates and ensures the reliability of commercial and legal transactions through blockchain technology.

These contracts, capable of operating automatically upon the occurrence of certain conditions, offer advantages such as transparency and immutability. However, under Turkish Law, there is currently no legal regulation regarding the legal validity and enforceability of smart contracts, the nature of smart contracts is still a matter of discussion.

Therefore, to enable the more widespread and effective use of smart contracts in Turkey and to prevent potential disputes, it is necessary to adapt existing legal regulations to the evolving technology and to regulate the legal nature and validity of smart contracts.

Authors

Nigar Guliyeva

Nigar Guliyeva

Senior Lawyer

Yaren Türe

Yaren Türe

Lawyer

Elif Berfin Tatlı

Elif Berfin Tatlı

Legal Intern