29 July 2022

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NFT: speculative bubble or epochal innovation?

Author: Luigi Campopiano

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The digital asset market continues to reap successes thanks to the introduction of non-fungible tokens "NFT": they do not represent cryptocurrencies, but cryptographic tokens, which are closely linked to an underlying asset. The purchaser of the NFT does not purchase the asset itself but becomes the owner of a right over it, making the NFT a sort of certificate attesting ownership of the asset, guaranteed through a smart contract. Everything can be "tokenized": works of art, video fragments, songs, tweets, clothing, and even body parts. The authenticity and uniqueness of these tokens are guaranteed by the pillars on which the blockchain technology is based: decentralization, transparency, security, immutability, and consensus. This technology consists of a digital database in which the various digital assets are registered, validated, and encrypted (through a double public-private key system), eliminating any possibility of double spending (copy of the asset, a very simple phenomenon to carry out in the digital environment. ) and allowing for reflecting the relative intrinsic value that distinguishes them. Each transaction is then collected and stored in the blockchain thanks to the Distributed ledger technology "DLT" (a broader technological architecture under which the blockchain has developed), which allows keeping public and decentralized ledger able to track every step of ownership and certify its validity. The rapid spread of NFTs involves analysis at the level of its legal framework, as the difficult identification of the instrument and the complex traceability of the exchanges cause legal implications and uncertain tax treatment. The EU, in 2020, issued a proposal for a regulation (Markets in crypto-assets, or Mi.Ca, which will be formally adopted by 2024) but, to date, the tax legislation regarding the correct treatment of tokens is rather lacking (there are no special rules applicable or instructions or clarifications expressed by the Revenue Agency). Two main methodological approaches can be hypothesized as long as an official way is not traced through the European regulation or national legislation:

1. Importance of the relationship of the NFT with the underlying asset. The NFT may not fall under any special classification of assets but would acquire weight and value only as it is anchored to the category of the underlying asset, thus assuming the related tax treatment. Any income resulting from the sale of the digital asset will follow the same tax rules as that applicable to the normal sale of the underlying asset;

2. Reconnect the tax treatment of tokens to that of cryptocurrencies in relation to which the Revenue Agency has already had the opportunity to comment on the income classification. According to the latter's interpretation, cryptocurrencies are considered an alternative payment instrument to traditional legal tender currency: they can be used by taxpayers as a counterpart for goods and services or used for speculative purposes. As a consequence of this, the sale of cryptocurrencies generates a taxable capital gain in the event that "the total stock of deposits and current accounts (in this case, wallet) held by the taxpayer, calculated according to the exchange rate in force at the beginning of the reference period is higher to Euro 51,645.69 for at least seven continuous working days ", as regulated by the TUIR.

Since the value of the token owned by the taxpayer is expressed in terms of the cryptocurrency, referred to as the blockchain on which it travels, it would seem inevitable to equate the possession of this instrument with the possession of cryptocurrencies, as the asset itself is not available, but a right on it whose value also varies based on the volatility of the payment cryptocurrency. From this, it follows that the rules applicable to cryptocurrencies are also followed to define the tax treatment of NFTs. In conclusion, the sudden development of the NFT market did not result in an update of the relevant tax legislation, leaving users and professional operators to compete with legislation and interpretations borrowed from similar cases. Surely the impetus that may derive from the Mi.Ca European Regulation will accompany a broader discussion and in-depth analysis also at the level of national legal systems, allowing you to configure a legal framework without controversial aspects.

An Example of NFT published on OpenSea website: (Cover Picture)

https://opensea.io/assets/ethereum/0x495f947276749ce646f68ac8c248420045cb7b5e/78122611117634868431797356737795695490308004057189080288766439103217834917889