Recent Tax Updates

Understanding NFT Taxes

August 31, 2021


What does NFT stand for?

NFT stands for Non-fungible Token.

What is an NFT?

Physical money and cryptocurrencies (such as Bitcoin or Ethereum) are “fungible,” meaning they can be traded or exchanged for one another. These items are equal in value. Crypto’s fungibility makes it a trusted means of conducting on the blockchain (also known as a digital ledger).

NFTs are different. A non-fungible token is a unit of data stored on a blockchain, that certifies a digital asset to be unique and therefore not interchangeable. NFTs can be used to represent items such as:

  • photos
  • videos
  • audio, and
  • other types of digital files

So, although anyone may be able to download an image file of a CryptoPunk (popular NFT project), each NFT project can have one contract address and each specific NFT has a unique ID.  While copies of these digital items are available for anyone to obtain, NFTs are tracked on blockchains to provide the owner with a proof of ownership that is separate from copyright.

A picture of CryptoPunk 7804

Earlier this year CryptoPunk 7804 sold for $7.57 Million.

Are non-fungible tokens taxed?

NFTs are likely treated as “collectibles” under tax code Section 408(m)(2). Although the IRS has not issued any NFT specific tax guidance yet, according to the Section 408(m)(2)(A) “any work of art” is considered a collectible.

The taxation of NFTs depends on two interactions:

  • Create and sell NFTs in a marketplace, or
  • Buy and sell NFTs as an investor

Creators

Creators are the artists who create NFTs and offer them for sale in a marketplace. Creators encounter a taxable event when they sell NFTs.

Investors

Investors are individuals who buy and sell NFTs for investment opportunities. Generally, most people fall into this category.

For NFT investors, taxes are like those for cryptocurrency trading. NFTs are often purchased using cryptocurrencies. Purchasing an NFT using Ethereum triggers a taxable event because you are disposing of a cryptocurrency, which is treated as a property per IRS Notice 2014-21.