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NFTs and the law

Written by Karen Holden on Tuesday, 10 May 2022. Posted in Commercial law, Legal

The UK government are planning to launch their own range of non-fungible tokens, a blockchain ‘token’ with a unique ID (NFT).

NFTs and the law

The UK government are planning to launch their own range of non-fungible tokens, a blockchain ‘token’ with a unique ID (NFT). NFTs have already been issued by individuals and businesses in various sectors to increase revenue, raise brand awareness, remunerate artists for their creative outputs and exploit opportunities in the ‘metaverse.’ With the government signalling its approval of NFTs, a mainstream move into this space is expected and businesses would be wise to clue themselves up on their use.

In brief, an NFT is a token, linked to an underlying asset (i.e. artwork), the specific value of the NFT comes from the fact that it is unique and cannot be replaced (non-fungible). It is the uniqueness that gives it value. The most obvious way of realising this value is by selling it to a third party.

Attached to NFTs and facilitating this sale, is usually a ‘smart contract’. This is a form of code attached to the token, containing details of the linked physical asset and the conditions for its use (i.e., details, restrictions, and obligations). This smart contract works in the same way as a traditional contract (which can still be used instead of a smart contract) and allows for royalties, intellectual property restrictions etc, to be built into the ownership of NFTs.

Legal issues in the UK

Although there is no specific regulation aimed at NFTs, at the moment, existing laws and regulations will still apply. Therefore, there are still commercial and legal issues that businesses considering their use must bear in mind.

Contractual considerations

The most fundamental aspect to understand is that when anyone buys an NFT they receive ownership of that token. However, unless the smart contract (or related terms of sale) contains additional specifics, then the new owner will not have more than simple ownership.

For instance, the buyer of the NFT of Twitter’s first tweet bought the NFT only, meaning they had the right to display the Tweet, but they did not buy the associated copyright. Therefore, the owner had the right to display and sell on the NFT, but not the right to use it in other ways (i.e., print the Tweet on a sweater and sell copies of it).

Intellectual property rights

Unless specified, intellectual property rights (IPR) will remain with the issuer. The licence for use of the IPRs should be set out in the smart contract or in a separate agreement between the NFT seller and purchaser.

As an example, the licence for the National Basketball Associations Top Shots NFTs grant the owners the right to “use, copy, and display” but does not permit them to “reproduce, distribute, or otherwise commercialise” the NFT.

It is also common to see a transfer of an NFT with royalty rights, i.e., the issuer is granted commission on any resales. This is made possible because an NFT exists on a blockchain (usually Ethereum) which means tracking such resales is (relatively) easy.

Financial regulations

The characteristics of the NFT will determine how it is going to be regulated. NFTs which have similar characteristics to traditional security assets, such as debentures or shares, or NFTs that function as electronic money, will likely be subject to additional financial regulations.

However, if an NFT does not confer any rights at all (other than to buy, hold, and sell) then it will likely not be regulated. Due to the potential NFTs have to fall under the scope of additional and onerous financial regulations, specific advice should be sought on any proposed usage.

Tax implications

There is no existing HMRC guidance when it comes to the taxing of NFTs. In fact, no major tax authority in any jurisdiction has published official guidance on NFTs. However, this is not likely to last, since most expect HMRC to quickly catch up, especially given the profits currently being made on NFTs.

Due to the tax complexity of NFTs it in paramount that specific advice is sought as to what tax liabilities any proposed NFT use will be subjected to.

Conclusion

NFTs present immense opportunities and have potential to generate revenue. Therefore, it is crucial for businesses to act carefully to protect their interest and avoid unnecessary contractual pitfalls or regulatory implications if they are planning on operating in this space. The regulations surrounding NFTs will constantly evolve, and consideration must be given to existing, future and overlapping regulations.

If you need help navigating this new world, please reach out to our Tech Team here at A City Law Firm.

About the Author

Karen Holden

Karen Holden

Karen Holden is an award-winning solicitor, media commentator and founder of A City Law Firm. She was one of 100 women invited into the Freedom of the City last year, an accolade previously bestowed upon Florence Nightingale and Margaret Thatcher. Karen specialises in advising businesses about scaling-up, starting up, investments, Brexit, Covid-19 and everything in between.

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