LexisNexis

Digital assets: surging popularity of NFTs raises important legal questions

Margaret TaylorThursday 5 August 2021

In the hours before the UEFA Euro 2020 final between England and Italy, Italian captain Giorgio Chiellini released a series of non-fungible tokens (NFTs) designed to show the spirit in which he planned to lead his team into the game. The centrepiece of the collection – released in mid-July – was a one-off piece of digital art that depicted the Juventus FC defender as a gladiator full of fighting spirit. It attracted 2,001 bids and reportedly sold for close to $59,000.

The identity of the buyer has not been made public, but what is in the public domain is that somebody was willing to pay a significant sum of money for a piece of art they will never be able to hold or hang on their wall. As Sajai Singh, Chair of the IBA Technology Law Committee and a partner at J Sagar Associates in Bangalore, says: ‘An NFT is so unique that it cannot be replicated, yet it has no tangible form of its own.’

The reason for that, says Andrew James Lom, a partner at Norton Rose Fulbright in New York, is that, as with cryptocurrencies such as Bitcoin, NFTs are ‘created, or minted, on a blockchain using cryptography’. Unlike dollar bills, which are defined by their value and can be interchanged with identical items, they cannot be replaced – they are not fungible, in other words – and their value is derived from that uniqueness.

‘As with other tokens created on a blockchain, the blockchain tracks the transaction history of the NFT from issuance to any number of subsequent transfers and that record is immutable,’ Lom says. ‘This record in turn creates provable uniqueness and scarcity, and these concepts are what ultimately leads to value. NFTs are essentially unique digital representations with blockchain-based transferability, authenticity, and ownership properties.’

NFTs rose to prominence earlier in 2021 when a number of high-profile – and high-value – sales were reported. Twitter co-founder Jack Dorsey, for example, sold his first tweet – the first ever to be posted on the social networking site – as an NFT for $2.9m. Digital artist Mike Winkelmann, otherwise known as Beeple, sold an NFT of one of his artworks for $69m through the auction house Christie’s.

For Singh, NFTs bring benefits for artists such as Beeple because they enable them to continue earning from their work when it’s sold on. He says NFTs can be considered as ‘certificates of ownership for virtual assets’, with the benefit arising because the details of every sale are stored on a blockchain, where records cannot be altered.

‘Since blockchains function as decentralised networks, they transparently reveal the history of transactions for digital assets, making it impossible for recorded digital assets to be pirated, modified, or deleted,’ says Singh.

Singh explains that artists benefit as NFTs usually include smart contracts within them, allowing the creator to earn on each future sale of the token. Smart contracts contain the terms and conditions of transfer of the digital assets, via an open-sourced blockchain protocol.

‘The term used most often is the obvious, royalty payment to the artist, but others are used frequently too, like those that contain use limitations, access control, channels of distribution, and establishing ownership’, adds Singh. Just as how an artist retains the copyright ownership of their work, he says, the creator may reap economic rewards on an NFT in the future.

However, Lynne Lewis, a partner at Bird & Bird in Sydney, notes there’s some confusion around the intellectual property rights attached to NFTs, not least because they are so new they are not currently addressed in legislation or case law. A common misconception, she says, is that purchasing an NFT gives the buyer a proprietary right to every copy or version of the underlying work. To make the position clear, the smart contract governing an NFT should specify how proprietary rights such as copyright are transferred upon sale of the NFT.

NFTs are also susceptible to copyfraud, Lewis says, something that is complicated by the pseudonymised way transactions are recorded in the blockchain.

NFTs are undoubtedly laying the foundations for a new class of assets

Markus Kaulartz
Counsel, CMS

‘Copyfraud can occur when a person mints an NFT of a public domain work, falsely claiming to own copyright in the underlying asset as an original work,’ she says. ‘Similarly, infringement of copyright and moral rights can occur when a person who is not the author or copyright owner in the underlying asset in which copyright subsists mints an NFT and misrepresents that they are the author or copyright owner of the work.’

Lewis explains that such conduct is especially problematic in relation to NFTs due to the anonymity features of the blockchain, which make it difficult to verify who is the rightful creator or owner of copyright in the underlying work of an NFT.

It’s because of issues such as these that Markus Kaulartz, counsel at CMS in Munich, believes specific attention should be paid to NFTs in the legal context.

‘We will encounter NFTs in many forms in the coming years and they will raise numerous legal questions,’ he says. ‘In order to protect investors in particular from there being multiple originals of a work, it is important to supplement the contracts with investors with suitable clauses specifically drafted for NFTs.’

Kaulartz says that NFTs are ‘undoubtedly laying the foundations for a new class of assets’ and their popularity looks set to continue to rise. Blockasset, the online marketplace where Chiellini sold his gladiator NFT, is one of many platforms adding new tokens for sale, with images from martial artists Leon Edwards and Darren Till and American boxer Terence Crawford expected to arrive on the market soon.

Yet despite the hype around NFTs, Singh is not convinced they are going to be a lasting phenomenon, concluding that whether they will endure ‘is anybody’s guess right now’.