Non-Fungible Tokens (NFTs), the indestructible, non- replicable, non-removable from the blockchain are essentially a certification of ownership of a class of crypto assets. The growing desirability of NFTs, is creating the much needed legal attention to these class of assets in the crypto space.
Like cryptocurrencies, these operate on blockchain technology. Trading in NFTs is possible only through cryptocurrencies, today. Traded on the blockchain technology is the only similarity between cryptocurrencies and NFTs. How so? Cryptocurrencies are exchangeable or “fungible” while each NFTs are unique eliminating their exchangeability and in the crypto world are, “non-fungible”.
Interestingly, NFT as digital assets represent a real-world object which could be art, music, in-game items, videos and even cats, built using similar minting procedures or programming as cryptocurrency. Albeit cryptocurrencies are fungible in nature and facilitates trade and exchange amongst the same crypto or other. For instance, inter trading of Bitcoins is possible.
NFTs, no, cannot be traded amongst NFTs. The unique nature of each NFT makes it harder to be valued against each other, making them non-fungible/ non-tradable. Each NFT comes with its own digital signature thereby making it nonreplicable. India is in early stages of formulating laws and regulations on crypto currency, evidently, lack of a structure around NFTs has renders no specific legal status to NFTs in India. Though, that is not playing a complete deterrent in the growth and acceptance of NFTs.
NFTs are created and held on blockchains, typically Ethereum and through smart contracts. They can be created through digital objects which represent both tangible and intangible items including art, GIFs, videos and sports highlights etc. Each NFT has its own built in authentication data to authenticate ownership of the NFT. The creator of NFT, or the one who mints (blockchain verified) it, can even store unique information or signatures in the meta data of the NFT to claim ownership.
NFTs are indivisible they cannot be broken down into smaller denominations. They are indestructible, cannot be replicated, destroyed, or removed from the blockchain without authentication. To that extent, it is a very refined form of Asset from the security authentication standpoint.
NFTs are a source of monetization for content creators and artists, who can do it without relying on galleries or auction houses. Anyone dealing in NFTs, or cryptocurrencies is a potential customer. In case of art pieces, NFT sale can include a royalty for artists which could be a percentage of the sale.
One thing which makes for complex legal discussions in NFT in art is the possibility of barter exchange of NFTs. An NFT barter will require legal application to complex contractual equations, challenge in enforcing ownership rights. For example, rights transferred under assignment or license might differ for each transaction. To avoid a potential conflict ground, a regulatory framework for cryptocurrency and NFT, is required.
The absence of legal framework leads to classification issues in India. In the current form, the legislation applicable to NFT seems to be Securities Contract Regulation Act, 1956 (SCRA) which defines derivative as a contract which derives its value from the prices, or index of prices, of underlying securities. In the broadest interpretation, NFTs are essentially fitting this description of derivatives, section 18A of SCRA makes contracts in derivatives legal only if they are traded on a recognised stock exchange. Which, due to lack of brevity, points that NFTs, currently fit derivatives as per the SCRA. And additional provisions in the SCRA would render NFTs legal as derivative only if they are on a recognised stock exchange, which does not exist for NFTs yet and are still traded only on the virtual platforms which are not recognised by SEBI and RBI. Under such circumstance, the platform where NFTs are traded will have to apply for recognition as Stock Exchange with the Central Government.
An interesting challenge in treating NFTs as derivative, would be to see the treatment given to their unique nature of non-fungibility separates them from other securities. Perhaps, it may lose its status as non-fungible assets, but then would it still be NFT?
This is only for informational purposes. Nothing contained herein is, purports to be, or is intended as legal advice and you should seek legal advice before you act on any information or view expressed herein.
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Sources – Forbes, CoinDesk