Decentralized Autonomous Organizations (DAOs) are rewriting how people coordinate capital and labor. They manage real estate, investment pools, and digital infrastructure through smart contracts instead of corporate boards. But while federal tax law has at least begun to grapple with how to classify digital assets, state and local tax systems, collectively known as SALT, are still trying to fit borderless, code-based entities into frameworks built for brick-and-mortar businesses.

The result is a widening gap between federal and state taxation. For DAOs, that difference can mean the same transaction is taxed twice, taxed inconsistently, or not taxed at all.

What You’ll Learn

This post explains how federal tax treatment of DAOs sets the baseline for state and local taxation (SALT), why conformity matters, and how states diverge when applying sales, income, franchise, and property taxes to decentralized organizations. You’ll see how the same DAO can face radically different outcomes depending on where its members live and how its tokens function.

Web3 and the Blockchain Network: The Setting for DAO Taxation

DAOs are native to Web3, the decentralized internet built on blockchain networks. These networks record transactions transparently and allow groups to coordinate without a central authority. A DAO can own assets, distribute income, and make decisions entirely through code. That design challenges the assumptions behind both federal and state tax systems, which depend on identifying a taxpayer, a location, and a moment when income is realized.

Federal Taxation: The Starting Point for SALT

Most state tax systems begin with federal taxable income. They either conform automatically to the Internal Revenue Code (rolling conformity), adopt it as of a fixed date (static conformity), or pick and choose which sections to follow (selective conformity). This means that how the IRS classifies a DAO or its tokens directly shapes how states tax them.

Federal Classification Rules

Under IRS Notice 2014-21, all cryptocurrencies, including DAO-issued tokens, are treated as property. That means every transfer can trigger gains or a loss. The IRS also applies the “check-the-box” rules for entity classification, which default most unincorporated groups to partnerships unless they elect corporate status.

For DAOs, this creates three key federal outcomes:

1. Partnership by default – Most DAOs with multiple members are treated as partnerships, passing income through to token holders.
2. Publicly traded partnership (PTP) – If DAO tokens trade freely and the DAO earns active income, it may be taxed as a corporation.
3. Foreign entity complications – Offshore DAOs with U.S. participants can trigger Controlled Foreign Corporation (CFC), Passive Foreign Investment Company (PFIC), or Global Intangible Low-Taxed Income (GILTI) rules.

These federal classifications cascade into state systems, but not uniformly.

SALT Conformity: Where States Follow and Where They Don’t

Rolling, Static, and Selective Conformity

This patchwork means a DAO’s federal income classification may flow through in one state, be ignored in another, and be partially included in a third.

Example: GILTI and Subpart F Income

At the federal level, U.S. shareholders of foreign DAOs that are classified as CFCs must include certain income under GILTI or Subpart F. States that conform to these provisions, like New York, also tax that income at the state level. Others, like Florida or Texas, do not. The same DAO income can therefore be taxed twice for a New York resident and not at all for a Texas resident.

Federal vs. State: Diverging Definitions of Taxable Activity

Federal tax law focuses on income, earned and realized. State and local systems expand that focus to include sales, property, and franchise taxes, each with its own logic.

This divergence means that even if a DAO complies with federal tax law, it may still face unexpected state-level obligations.

Case Study: A DAO Across Jurisdictions

A DAO residing on the XRP Ledger tokenizes a $50 million real estate portfolio. It issues governance tokens to investors in California, Texas, and New York. Rent is collected in stablecoins, and distributions are made through smart contracts.

Federal level:
The DAO is treated as a partnership. Token holders report their share of income on federal returns.

State level:

• California – Includes the income in resident returns, imposes an $800 franchise tax on the DAO LLC, and partially includes GILTI if the DAO holds foreign assets.
• New York – Includes all Subpart F and PFIC income for residents, even if undistributed.
• Texas – No income tax, but the DAO may owe franchise tax if gross receipts exceed $1.23 million.
• Wyoming – No income or franchise tax, but registration as a DAO LLC creates a filing obligation.

The same DAO faces four different SALT outcomes for identical activity.

Jurisdictional Reach: From Physical Presence to Economic Nexus

Federal tax law applies nationwide. States must establish nexus, a sufficient connection, to tax an entity. After Wayfair v. South Dakota (2018), physical presence is no longer required. States can assert an economic nexus based on sales or transaction thresholds.

For DAOs, this means:

• Selling $100,000 in tokens, or 200 transactions, to residents of a state can create nexus.
• Paying contributors in that state can trigger withholding obligations.
• Operating a user interface accessible to state residents may count as doing business there.

Federal law doesn’t care where a DAO’s users are. States do, and they each define “presence” differently.

Timing and Recognition: When Federal and State Rules Collide

Federal tax law generally taxes income when it is realized and recognized. States often follow that timing but may apply different triggers for sales or franchise taxes.

For example:

• The IRS (generally) taxes staking rewards when received.
• California taxes them upon receipt, even if illiquid.
• Some states defer recognition until conversion to fiat.
• Franchise and gross receipts taxes may apply continuously, regardless of realization.

This mismatch can create phantom income, which is tax owed before liquidity exists, and double taxation when both federal and state systems claim the same event.

The Constitutional Backstop: Limits on State Power

Federal law provides uniformity; state law must respect constitutional boundaries. Under Complete Auto Transit v. Brady (1977), a state tax must have:

1. Substantial nexus with the taxpayer.
2. Fair apportionment.
3. No discrimination against interstate commerce.
4. A fair relationship to services provided by the state.

For DAOs, these tests are hard to satisfy. A DAO may have users in a state but receive no benefit from its infrastructure or legal system. Taxing such activity risks violating due process and fairness principles. Federal law doesn’t prevent states from taxing digital activity, but it does limit how far they can stretch jurisdiction.

Why SALT Divergence Matters

Federal tax law provides a single baseline. SALT systems multiply it by fifty. The consequences include:

• Double inclusion – GILTI or Subpart F income may be taxed federally and again by conforming states.
• Phantom income – Tokens taxed before liquidity under state timing rules.
• Unequal treatment – Identical DAO participants taxed differently based on residence.
• Administrative impossibility – DAOs cannot issue K-1s or withhold for thousands of pseudonymous members across states.

Without coordination, compliance becomes unmanageable and enforcement arbitrary.

Policy Paths Toward Alignment

To bridge the gap between federal and state taxation, policymakers could:

1. Adopt functional classification – Tax tokens based on use (governance, yield, access) rather than blanket property treatment.
2. Create a multistate DAO tax compact – Harmonize definitions, thresholds, and apportionment rules across jurisdictions.
3. Defer taxation until liquidity – Align timing with economic benefit to avoid phantom income.
4. Encourage smart contract compliance tools – Allow DAOs to embed reporting logic directly into code.
5. Apply burden-benefit proportionality – Tax only where the DAO receives identifiable state benefits, consistent with constitutional fairness.

Wyoming’s DAO LLC framework already provides a model for aligning legal recognition with tax clarity. Other states can follow suit without sacrificing revenue.

Practical Guidance for DAO Participants

• Classify early—determine whether your DAO is a partnership, corporation, or disregarded entity under federal rules.
• Map conformity – Identify which states your members live in and how those states conform to federal income definitions.
• Track Nexus – Monitor token sales and contributor payments by jurisdiction.
• Document token function – Keep records distinguishing governance, treasury, and compensation tokens.
• Plan for withholding – If contributors reside in income-tax states, prepare for state-level withholding or composite filing.

The Bottom Line

Federal tax law provides a starting point for DAOs. State and local tax systems turn that starting point into a maze. Until states coordinate their approaches, DAOs will face overlapping, inconsistent, and sometimes unconstitutional tax exposure.

The path forward lies in alignment between federal definitions and state applications, between code and law, and between the burdens imposed and the benefits received. States that modernize their SALT frameworks for decentralized organizations will not only collect more revenue but also build legitimacy in the digital economy.

Schedule a consultation with Allegis Law to discuss DAO formation, SALT compliance, and decentralized governance strategies.

Disclaimer: This post is for informational purposes only and does not constitute legal advice.