NFT Legal Issues – NFT Buying, Selling and Intellectual Property

Unlike fungible tokens (such as Bitcoin or money), each NFT represents a unique individual value often referred to as the “hash” or “mint address” of the NFT. Like cryptocurrency, NFTs are created (or “minted”) using blockchain technology. Unlike cryptocurrency, each NFT is unique and cannot be replaced with an identical token. Due to the nature of tokens, a user is not purchasing the actual copyrighted work but rather a link to its digital copy, although sometimes a copy of the work can be included with the NFT. An NFT can therefore be compared to an artist’s signature on a digital artwork.

The curious feature of NFTs is their flexibility, as virtually anything can be linked to an NFT, with some of the most successful examples including Andy Warhol’s artworks and the first ever tweet. Very recently, an NFT collection of 8,888 Pudgy Penguins was sold on OpenSea marketplace for 750 ETH (which is currently just under 2,000,000 GBP).

Other examples of minted copyrighted works include online articles, music albums and songs, etc.

December 2021 saw the opening of Quantus Gallery – London’s first NFT art gallery, offering display of digital art and advice on NFT purchases.

NFT transactions are currently on the rise, with many investors looking to grab their piece of this cryptopie. Right holders can sell their NFTs using one of the online marketplaces (e.g. Mintable or OpenSea) or by contracting with potential investor individually using a sale-purchase agreement. Our firm is here to help with both – terms and conditions for NFT platforms and marketplaces, as well as with B2B and B2C agreements. Please note that if you are selling to consumers, you need to make sure you give regard to strict consumer protection laws and regulations.

Ownership of an NFT does not mean the ownership of an underlying asset. The purchaser of an NFT will normally  receive only a link to a digital copy of the underlying artwork (plus sometimes also a digital copy of the artwork itself). What one is buying is therefore essentially a unique signature linked to an artwork and in either case the purchaser does not acquire any rights to the underlying work save for (possibly) a very limited licence to use the work to the extent necessary to enjoy the NFT.

Copyright infringement will be a risk when it comes to the minting of new NFTs. If one considers a NFT which reproduces a piece of artwork then the copyright in that artwork will be infringed if the permission of the copyright owner (usually the artist) is not first sought. This may be less clear cut when the NFT does not reproduce the underlying artwork i.e. where the NFT does not contain a digital copy of the artwork. However in those circumstances it may well that the communication right (rather than the reproduction right) is infringed because it may be argued that the minting of the NFT constitutes the making of that artwork available to a new public i.e. one that the artist had not previously envisaged.

In practical terms therefore it may be prudent for anyone considering acquiring  an NFT to make enquiries to ensure that the reproduction or use of the underlying artwork or other subject matter has been authorised by the artist.

For artists NFTs provide a potential infinite revenue stream . NFTs provide not just  an opportunity to earn money from their creation , but also provide artists with an opportunity to receive potentially unlimited amounts of royalties from each subsequent resale of that NFT. This is  because the terms on which NFTs  are traded usually provide for royalties to be paid to the creator of the NFT on each subsequent trade. This makes NFTs particularly attractive to online content creators, such as digital artists and game designers.

NFTs present a particular challenge for brand owners who, while owning a portfolio of trade marks designed to protect their business, may well not own trade marks which protect use in relation to NFTs.

By way of example if one considers a business which sells sports clothing and shoes that business is likely to traditionally have trade mark protection in Class 25 (footwear and clothing) and Class 35 (retail of footwear and clothing). It will not necessarily have trade mark protection in Classes 9 (software) or 41 (software services) which are proving to be the most popular classes for NFTs.

If therefore an NFT is minted and is promoted using that business’ trade marks it is unlikely to be possible for the business to prevent the use of its mark on the grounds that either (i) an identical mark is being used for identical goods and services or (ii) an identical mark is being used for confusingly similar goods and services, because the business has registrations in different classes that do not cover NFTs.

It may of course be possible for the business to argue that because its mark has a reputation, that the use of it in relation to dissimilar goods and services takes unfair advantage of or is unfairly detrimental to the distinctive character or repute of that trade mark, and therefore constitutes trade mark infringement.  This route is however not straightforward and will only be open to trade marks with a reputation. Brand owners are therefore increasingly reviewing their trade mark portfolios to ensure that they give sufficient protection for use in relation to more modern applications such as NFTs (and also the metaverse).

The problem with trade marks is magnified when one considers that a number of brands, particularly fashion brands have expanded into both NFTs and virtual sales. For instance, at the end of 2021 Nike  acquired a virtual shoe company RTFKT that makes NFTs and sells digital sneakers.

The whole question of trade mark infringement in relation to NFTs has not yet been tested in the Courts although two cases in the US (Nike’s action against online marketplace StockX for launching its Vault NFTs based on Nike’s shoes and which can be exchanged for a real life pair of Nike shoes and Hermès’ action against Mason Rothschild over the “MetaBirkins” NFTs which are NFTs which consist of a digital reimagining of Hermès’ Birkin bags) are likely to give an early indication of how the Courts will treat these issues.

The recent hype around NFTs and the high demand for them compared to very limited supply has created a fruitful ground for fraudsters. As a result, a number of artists and brands in the UK and abroad have been subject to fraudulent offerings of their works in the form of NFTs.

Although there are currently no precedents in the English courts, the same rules that apply to any other infringing digital content should apply to NFTs. Right holders should therefore be able to obtain injunctions against infringers and/or pursue a claim for damages. Criminal action against fraudulent content may also be a possibility.

One of the biggest challenge for the right holders is likely to be the actual monitoring of NFT marketplaces for fraudulent postings. We may, therefore, see some inventive technical solutions from software companies, offering online monitoring of NFT marketplaces (similar to the existing online trade mark monitoring services).

As it is with other cryptoassets, identifying the actual infringer is also likely to be a difficult task, which will raise challenges for trade mark and copyright owners, looking to enforce their rights.

NFTs are currently unregulated. One possibility is that future regulation of NFTs in the UK will be done via the Financial Conduct Authority (FCA), alongside cryptocurrencies.

HM Treasury was recently considering addition of NFTs to its definition of “qualifying cryptoassets” for the purposes of the financial promotion regime. However, the government has decided to against it, making “fungibility” the key criteria. This is because HM Treasury does not want to apply financial promotions regulation to non-financial products. It did, however, state that it will monitor the market and make changes as and when necessary. As NFTs are, indeed, cryptoassets (even though non-fungible), the government may review its decision in due course.

HMRC have made only limited comment on NFTs in relation to UK tax, in particular, the tax treatment for Inheritance Tax (IHT), Capital Gains Tax (CGT) and income tax.

For instance, in CRYPTO22200 HMRC say – “Non-Fungible Tokens (NFTs) are separately identifiable and so are not pooled” as it relates to allowable acquisition costs and how any gain or loss would be calculated on disposal.  This is logical since each token is unique, unlike interchangeable assets such as bitcoin.

The existing and rapidly expanding volume of HMRC published guidance in the cryptoassets space may well be used as the basis for future HMRC guidance but we cannot assume that will be the case.

NFTs may be taken as evidence of the ownership of an asset, most likely digital (intangible) assets, although, in addition, we understand they may be capable of conferring ownership of physical and other intangible (non-fungible) assets. Digital asset examples include artworks, music and collectables, videos, logos, presentations and websites, in fact, anything which can be digitally stored.

There won’t be a one-size-fits-all approach to NFTs, in fact each asset / disposal will need to be considered on its merits.  Importantly (we refer here to our blog on cryptoassets dated 11 July 2019) how digital assets are treated for tax purposes depends on whether the taxpayer is actively trading, whether they are holding the asset for personal investment or have been awarded the NFT in lieu of salary or benefits.

The tax residence and domicile of the taxpayer will be important here is it relates to their tax exposure in the UK.  Taxpayers should also retain adequate records of how they obtained and disposed (if applicable) of the NFT.  Taxpayers should ideally obtain tax advice before they dispose of assets, although we realise and understand that this is not always practical or possible.  In this rapidly evolving and interesting area we would be delighted to assist and advise both private clients / companies on their NFTs, or cryptoassets in general.