‘Smart Contracts’ Ruling Forces a Blockchain Development Rethink

The US Court of Appeals for the Fifth Circuit’s recent decision in Van Loon v. US Treasury has brought renewed attention to a critical technical distinction in blockchain technology: the difference between mutable and immutable smart contracts.

Smart contracts are programs on a blockchain network that automatically execute when certain predetermined terms and conditions are met. In Van Loon, the Fifth Circuit clarified the difference between mutable contracts that can be updated, disconnected, or otherwise modified by their operators, and immutable contracts that can’t be altered by anyone.

The Nov. 26 ruling held that immutable smart contracts, by virtue of being uncontrollable and unownable, fall outside the legal definition of property and are beyond the Office of Foreign Assets Control’s sanctioning authority under the International Emergency Economic Powers Act.

At first glance, the very concept of a “mutable” smart contract might seem paradoxical, given that immutability stands as one of blockchain technology’s defining features. But there are technical realities underlying smart contract mutability, and it’s worth examining how what are known as proxy contracts create an illusion of changeability within a blockchain’s immutable architecture.

Illusion of Changeability

The term “mutable smart contract” is, in many ways, a misnomer that obscures the underlying technical reality of blockchain systems. What developers often call “mutable” contracts are actually collections of immutable contracts working in concert.

Smart contracts deployed on public blockchains are immutable by default, ensuring that the rules governing digital transactions can’t be changed arbitrarily once established. When users interact with a smart contract, they can trust that its code will execute exactly as written, without the possibility of unexpected modifications.

The most common approach to creating supposedly “mutable” smart contracts is through what are known as “proxy” contracts. Think of a proxy contract as a permanent front desk that never changes, while the implementation contract works like the back office where all the actual business processes happen.

When users interact with the blockchain system, they always go through this front desk (the proxy contract), which then automatically routes their requests to whichever version of the back office (implementation contract) is currently in use.

While each implementation contract remains permanently fixed once deployed—like all smart contracts on the blockchain—developers can deploy new versions of these implementation contracts when they need to update the system’s functionality. The proxy contract can then be instructed to route future user interactions to the new implementation instead of the old one. This creates a system that appears changeable to users, even though it is built entirely from immutable components.

For example, if a decentralized finance protocol needs to fix a bug or add a new feature, its developers don’t modify any existing contracts—which would be impossible due to blockchain immutability. Instead, they deploy a new implementation contract with the updated code and adjust the proxy contract to direct users to this new version. The proxy contract maintains a record of all user data and balances, ensuring that this information carries over seamlessly when the system switches to the new implementation.

This arrangement allows protocols to evolve while working within the constraints of blockchain immutability. However, the Fifth Circuit in Van Loon clarified that this kind of controlled upgradeability stands in contrast to truly immutable protocols designed to operate permanently beyond anyone’s control.

Once a smart contract is deployed without proxy functionality, it can never be made upgradeable—a point emphasized in Van Loon, where the court noted that a crypto mixer’s core mixing contracts were “irreversibly immutable” after their “trusted setup ceremony.” A crypto mixer is a privacy-focused service that pools and redistributes cryptocurrency transactions from multiple users to protect user anonymity.

Why This Matters

The Van Loon decision introduces critical considerations for smart contract developers by establishing that immutable smart contracts fall outside the sanctioning authority of the Treasury’s Office of Foreign Asset Control. This framework creates an explicit distinction between truly immutable protocols and those implementing proxy patterns for upgradeability, requiring developers to make foundational architectural decisions with lasting legal consequences.

The choice between immutability and proxy-enabled upgradeability carries particular significance for protocols handling cross-border transactions or operating in sensitive domains like privacy preservation, where OFAC’s sanctioning authority represents a material regulatory consideration.

This intersection of smart contract architecture and the law creates complex decision points for developers.

For example, state legislation in jurisdictions such as Wyoming and Tennessee allow decentralized autonomous organizations, which are governed by token-holding members through smart contracts, to incorporate and obtain legal recognition. But the legislation requires that smart contracts used by decentralized autonomous organizations “be capable of upgrade or amendment.”

By implementing such upgrade mechanisms through proxy patterns, however, developers may inadvertently subject their decentralized autonomous organizations’ smart contracts to OFAC’s sanctioning authority under the Van Loon framework.

The technical architecture of blockchain smart contracts thus carries increasingly significant regulatory implications. As development teams evaluate strategic priorities, these early-stage decisions warrant thorough analysis of their long-term legal consequences.

The case is Van Loon v. United States Dep’t of the Treasury, 2024 BL 433860, 5th Cir., 23-50669, 11/26/24.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Daniel Davis is partner and co-chair, and Alexander Kim is an associate, in Katten’s financial markets and regulation practice.

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