What are they?
Non-fungible tokens (NFTs) are unique digital assets that are stored in a blockchain and are digital representations of tangible and intangible assets such as art, games, music and film. Examples include tweets, sports highlights and virtual game skins.
A lot of the current hype is around using the technology to sell digital artwork, and due to the unique nature of the token, means that these items have a highly desired rarity. Although these items can often easily be viewed/copied by anyone, they are designed in such a way that collectors have the digital ownership of the artwork – in the same way that anyone can buy a copy of the Mona Lisa, but there is only one original. As of the time of writing, the most expensive NFT ever sold was Pak’s ‘The Merge’ artwork which sold for $91.8m on 2 December 2021.
Despite the secure nature of NFTs due to their data being stored in blockchains, there is a lack of regulations and in combination with how new they are, there is huge volatility within the NFT market. Between 2020 and 2021, total NFT sales volume increased to more than $24.9 billion, up by over 26,000% over 2020’s total of $94.9 million as per DappRadar.
How to buy one?
Currently NFTs can only be bought with Ethereum from online NFT marketplaces and stored in a digital wallet. Although they are strongly associated with cryptocurrencies, each NFT is completely unique (non-fungible), while cryptocurrencies are fungible (interchangeable/tradeable for one another).
Creation of blockchain assets, including NFTs uses a significant amount of computing power, i.e., a huge amount of energy. Ethereum alone uses about the same amount of energy as the entire country of Libya. To address this, the cryptocurrency is undergoing various upgrades to its security mechanisms which estimate that Ethereum’s carbon footprint will be reduced by about 99.95% once this is complete according to Ethereum.org.
Due to the unique nature of crypto assets, there is currently no specific accounting guidance regarding them. Generally, they are treated as intangible assets with an indefinite lifespan and are therefore not amortised on an annual basis. However, with NFTs there is a bit of a grey area as depending on the underlying substance of the NFT, the accounting treatment may change. In terms of the tax implications, buyers and sellers are taxed under capital gains rates and creators are taxed under non-savings income rates.
If you have any questions about the taxation of gains resulting from crypto assets please contact us.