NFTs
Blockchain North America Thought Leadership

BLM: Is the NFT Bubble About to Pop or Could It Float Even Higher?

Non-fungible tokens (NFTs) are now a multibillion-dollar industry but having largely been driven by the initial hype surrounding digital ownership, catalysed by global digitisation as a result of the pandemic, NFTs have been dropping in value. 

Is this an irreversible drop or will the NFT market begin to emulate that of cryptocurrencies? Arthur Caplin, a solicitor in law firm BLM’s Commercial Advisory and Private Wealth team, discusses the soaring value of the NFT market and the legal and regulatory challenges that could either send the market soaring higher, or bring it swiftly back to the ground.

Arthur Caplin, a solicitor in law firm BLM’s Commercial Advisory and Private Wealth team
Arthur Caplin, a solicitor in law firm BLM’s Commercial Advisory and Private Wealth team

Over the last couple of years, non-fungible tokens (NFTs) have seen a meteoric rise in popularity and notoriety, slowly solidifying itself in the zeitgeist. They have gone from being unknown mysteries to lucrative items that everyone wants a piece of. With some spending millions on NFTs, such as the $69.3million sale of Beeple’s The First 5000 days, is this NFT bubble about to pop?

What is an NFT?

Non-fungible tokens are unique assets whose value cannot be replicated, such as famous works of art. NFTs are like works of art, as they are individual, irreplaceable, and also possess unique values according to each specific asset. The difference between the Mona Lisa and Beeple’s The First 5000 days, is that the latter has been digitally generated.

NFTs are also used to prove ownership of an asset and are indivisible, creating digital scarcity. Each NFT on the blockchain (a record of transactions) has an owner, with an account associated with the ownership. The blockchain acts as a ledger of items, tokens, and cryptocurrency, recording who owns each NFT at a particular point in time. Owners of these crypto assets have their own private key that allows them to transfer ownership of the item over to someone else. NFT transactions are recorded on the blockchain, and ownership is updated via a decentralised immutable ledger where no data can be altered. As such, it is almost impossible to create counterfeits.

NFTs facing a slump?

The first potential warning sign of the NFT market is that it has started to slow, with prices starting to drop and NFT works losing significant value. This isn’t just the case for your run-of-the-mill NFT, but the high profile, well known NFT’s, such as CryptoPunks and Board Ape Yacht Club.

OpenSea, one of the premier NFT marketplaces reported that at the time of writing, CryptoPunks value was down 81.80 per cent over the last 30 days while Board Ape Yacht Club was also down 70.44 per cent over the last 7 days. While it should be noted that this may just be the market starting to correct itself after the meteoric highs and huge NFT publicity, the clear volatility of NFT’s isn’t something to be taken for granted.

Legal issues

Taking a step into the realm of law, the current legal issues with NFT’s may also be impacting the market.  One of these is the possibility of information being inputted incorrectly, creating a contract neither party intended. Another legal issue is in regard to taxation. Determining where NFTs are situated for tax purposes will prove to be difficult in resolving. However, the two most prominent issues potentially influencing the market are intellectual property and regulation.

Intellectual property considerations

Intellectual property issues may arise where an individual, such as a music artist creates and subsequently sells an NFT linked to say music royalty streams that may not necessarily belong to the music artist in the first place. This exact issue emerged in the United States with music artist Jay-Z recently.

Jay-Z co-founded the record label, Roc-A-Fella Records, with record executive, Damon Dash, with each owning a third of the business. Interestingly enough, Roc-A-Fella owned the copyright to Jay-Z’s debut album, Reasonable Doubt.

In June of this year Dash sought to auction off his share of the copyright to Reasonable Doubt as an NFT, through the NFT platform SuperFarm. Roc-A-Fella Records intervened and sued Dash in order to prevent him from selling the copyright. Roc-A-Fella argued that not only was this not Dash’s product to advertise, as Dash only owns a minority share in the company, but he also had “no right to sell a company asset” as an NFT or otherwise.

A temporary restraining order was granted against Dash, prohibiting him from selling the album as an NFT and SuperFarm subsequently cancelled the auction. This case serves as a cautionary tale to both buyers and sellers of NFTs to ensure that each party understands exactly what’s being sold, and whether it can be sold.

Is regulation the answer?

The key reason why the NFT market may be in a slump, and is so volatile, is an issue that has been ever present since its inception. Looking at the figures spent on NFT’s in the last year alone, along with the transactions being facilitated largely through the use of cryptocurrency, concerns have been about the legitimacy of these transactions, especially whether they are being used to circumvent anti-money laundering regulations. This point was echoed by artist David Hockney, where, when asked about NFTs, said “I think it’s I.C.S… International crooks and swindlers.”

In January 2020, The EU’s Fifth Anti-Money Laundering Directive (5AMLD) came into force, increasing the cryptocurrency regulations and subjecting all ’art traders’ to various new rules, such as the requirement to verify a purchaser’s identity and their source of funds prior to any transaction taking place.

What remains unclear, is whether NFTs fall within the regulations scope as “work of art”, defined by the 1994 Value Added Tax Act; this act fails to reference NFTs or other digital art forms. This regulatory uncertainty around NFTs is something that may not only impact people’s faith in the market, but also increase the risk of high-value NFT transactions being used as a means of circumventing the current anti-money laundering regulations.

Will NFTs be a success? This question has been well and truly answered as yes in the short term. The billion-dollar question facing NFTs is one of longevity and survival. Is the NFT bubble about to pop? With mass adoption and integration of NFTs now underway, what will be the next step for NFTs? We will need to see law making bodies impose strict but workable regulations regarding the transfer and sale of NFT’s, however, if they go too far, they will regulate NFTs out of the market and away from the public consciousness.

NFTs will likely have to embrace a level of regulation if they are to continue to survive into the future. The potential for NFTs is mammoth and it is easy to see how they could be adapted into a tool for utility, with the potential to diversify even further to property ownership, concert tickets and identification documentation.

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