Written by: Liu Zhengyao

Introduction

Suppose you hold governance tokens for a certain DeFi protocol, and every month you vote on-chain to decide the protocol’s interest rate parameters, the direction of the funds, and even whether to open new staking products to users. You may feel that you are just "participating in community governance," like shareholders voting in a meeting, nothing serious.

But one day, a Web3 lawyer tells you: the protocol you are participating in may be suspected of illegal fundraising. Even more surprisingly, your voting behavior might classify you as a "participant" or even an "organizer."

This is not alarmism. As DeFi protocols penetrate deeper among Chinese users, the label of illegal fundraising has quietly drifted into the world of on-chain governance.

What is DeFi Governance? How does it relate to Illegal Fundraising?

First, let’s clarify some basic concepts.

DeFi (Decentralized Finance) protocols, simply put, are a set of "automatic financial programs" running on the blockchain. Users can deposit assets into the protocol to earn returns or borrow funds from the protocol. The entire process is without banks, no manual approvals, and relies on code for automatic execution.

So, what is governance? Many DeFi protocols issue "governance tokens," which allow holders to vote on significant matters within the protocol—such as setting the deposit interest rate, distributing protocol benefits, and whether to launch new features. This mechanism is termed "on-chain governance" or "DAO governance."

At first glance, this seems to be just a community decision-making mechanism; what does it have to do with fundraising?

The key lies here: when a DeFi protocol raises funds from an unspecified public and promises returns, its behavior model highly overlaps with the definition of illegal fundraising. When a protocol says "deposit USDT for a 20% annual return"—this is virtually indistinguishable from certain illegal financial products advertising "principal guaranteed with interest," in the eyes of the law.

If the fundraising behavior of the protocol itself is on the line, could those who participate in governance voting also be implicated?

Can the "hat" of Illegal Fundraising be placed on DeFi?

The core elements in Chinese law to recognize illegal fundraising comprise four points: raising funds from the public (undefined majority); without approval from regulatory authorities; promising returns or other benefits; promoted publicly. In summary: sociality, illegality, inducibility, and publicity. The specific regulations can be found in the Supreme People’s Court’s 2022 "Interpretation on Several Issues Concerning the Application of Law in the Trial of Criminal Cases of Illegal Fundraising" First Article.

When compared, many DeFi protocols’ operational methods almost completely fit these criteria:

Open for deposits to anyone (publicly available); no institutional approval (no compliance qualifications); offering promised annual returns (promising benefits); and possible public promotional activities (which is why Lawyer Liu said "almost all fit").

Of course, DeFi also raises confusion for judicial authorities: it is "decentralized," with no corporate entity, no legal representative, and no physical office. Who is responsible? Currently, the judicial authorities' approach to criminal prosecution has started trending towards "penetrating recognition"—that is, no matter what technical disguise you put on, if it essentially matches the characteristics of illegal fundraising, it can be recognized. The development teams behind the protocols, promoters, and even core governance participants could all become targets of investigation.

Does Voting in Governance Count as "Assisting" a Crime?

This is the aspect that gives DeFi users the least sense of security and is also the most controversial legally.

Let’s first consider an extreme situation: if you only occasionally participate in voting, deciding if the protocol interface should change color—such participation is almost impossible to be defined as jointly participating in illegal fundraising. The law would not drag you into criminal prosecution just for "casting a vote."

But what if the situation changes?—You are a major holder of a protocol, possessing a large amount of governance tokens; you have supported decisions in several key votes to "raise external fundraising limits," "expand user deposit scales," and "increase annual return rates"; as a result, you receive substantial governance incentive income from the protocol.

In such a scenario, your actions are no longer just "participating in community discussions," but substantially pushing the scale of a protocol that might involve illegal fundraising. Analyzing from the perspective of criminal law, this is quite close to "aiding in the implementation of illegal fundraising."

Judicial authorities usually assess whether you are "involved" by examining three dimensions: your awareness of what the protocol is doing (subjective awareness); whether your actions materially contributed to the illegal outcome (objective contribution); and how much benefit you gained (profit situation). Therefore, general users holding a small number of tokens and voting occasionally have relatively lower risks; however, those who participate deeply over the long term and profit significantly from governance find themselves in a true legal gray area.

Where should the Law Expand, and Where Should it Hold Back?

Lawyer Liu believes that applying the crime of illegal fundraising to DeFi governance participants requires considerable restraint for the following reasons:

First, governance actions do not equate to fundraising actions. Voting on protocol parameters is different from "raising deposits from the public." If all governance participants are considered conspirators in fundraising, it would negate the legitimacy of community participation in decentralized protocols, which does not hold up legally.

Second, "decentralization" should not be used as a shield to evade regulation, but neither should it result in all participants collectively bearing the blame. The ones who should truly be held accountable (assuming violation of law) are the core developers and major governance participants who knowingly lead key fundraising decisions while knowing the protocol may be illegal, and not every small retail investor holding dozens of governance tokens.

Third, criminal law should be a last resort, not the first barrier. In emerging areas like DeFi, if illegal fundraising is indeed constituted, regulatory authorities should prioritize administrative measures (warnings, corrections, delistings) to deal with it. Easily resorting to criminal prosecution would create a huge chilling effect, stifling the entire industry along with innocent ordinary users.

Of course, there are areas where Lawyer Liu believes the law should indeed expand: if the governance of a DeFi protocol is essentially a "decentralized shell packaged under centralization"—with a clear team behind it, someone specifically responsible for onboarding participants, and predesigned profit transfer mechanisms—then legal accountability should be enforced, and one should not escape responsibility simply by cloaking in "on-chain governance."

If You Are Participating in DeFi Governance, Here Are Some Suggestions from Lawyer Liu

First, clarify whether the protocol you are participating in is open to fundraising from Chinese users. If the protocol explicitly solicits funding from mainland Chinese users, has Chinese promotional materials, and operates domestic communities, then the risk of crossing the line is already high, and your participation also carries legal risks.

Second, differentiate between "participants" and "promoters." Ordinary users holding a small number of tokens and voting occasionally, and core contributors holding large amounts and leading key decisions, are not on the same legal risk level. The deeper the participation and the greater the profits, the more carefully one needs to assess their legal situation.

Third, do not assume that "decentralization" means "the law cannot reach it." Chinese judicial authorities have accumulated significant experience in penetrating technical disguises and directly determining legal responsibility when handling cases in the crypto field. The absence of a subject in the protocol does not mean there is no one who needs to take responsibility.

Fourth, once a protocol is under investigation, consult a professional lawyer immediately. Do not rush to make public statements, avoid arbitrary discussions of the case in communities, and do not accept inquiries in the absence of a lawyer. Every word you say may become a basis for later determination of "subjective awareness."

Conclusion

The world of blockchain is developing too fast, and the law is struggling to keep up. But being slow does not mean it cannot catch up. DeFi governance essentially represents a challenge from new technology to traditional financial regulatory logic. The legal response should not be a mindless swing of an old hammer, labeling all participants as criminals; however, it should not remain completely hands-off due to the novelty of technology.

The true boundary should be drawn between "substantially leading illegal fundraising behaviors" and "ordinary community participation"—rather than crudely defining by "holding governance tokens." How this line is drawn has yet to be determined in China’s judicial practice. But it is certain: the more you understand this issue, the more capable you are of protecting yourself in this gray area.

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