How should NFTs be taxed? The tax authorities are asking the public to weigh in
NFTs
The IRS is seeking comments on its plan to tax NFTs as collectibles.
The Internal Revenue Service (IRS) looks set to begin taxing some NFTs in line with tangible collectibles, such as artwork, precious metals and rare coins.
In a notice released on March 21 titled “Treatment of Certain Nonfungible Tokens as Collectibles,” the IRS lays out the basis that collectibles sold after being held for more than 12 months are subject to a 28 percent capital gains tax. The IRS usually imposes a maximum rate of 20 percent on other “non-collectible” investments.
The five-page document provides the tax authorities’ definition of an NFT, the blockchain and tokens. It invites the public to submit comments on the treatment of NFTs as collectibles through June 19. Among the questions, it asks whether there might be additional definitions of NFTs that might be relevant; what factors can categorize a digital artwork as a collectible; and how should additional NFT beneficial or ownership rights be assessed.
At the time of writing, five comments have been submitted.
“Overall, I think the approach the IRS has outlined is logical given the nature of NFTs, it’s great that the IRS is seeking public comment,” Patrick Camuso, a CPA specializing in digital asset accounting, told Artnet. The effective date of this guidance is among the problems it must solve, Camuso notes, as is coordination between states, the Treasury and tax authorities. “Many states issue guidance related to NFT sales tax,” Camuso said, “it would be practical to develop a consistent set of terminology and definitions.”
The notice is the latest in a gradual push by the IRS to increase control over digital assets. In 2014, it ruled that virtual currencies would be treated as property and has expanded on the issue in recent years. This notice marks an attempt to provide equal clarity on the tax status of NFTs.
Bored Ape Yacht Club gathering in OpenSea shown on a phone screen. Photo: Jakub Porzycki/NurPhoto via Getty Images.
One area that requires further explanation is distinguishing between different types of NFTs. An NFT, as a token on the blockchain that can be linked to a number of assets or rights, is not itself a collectible. Although NFTs have been popularized by digital art, they are used in everything from ticketing to virtual real estate to authenticating a physical object.
The IRS says it plans to use a “look-through analysis” in assessing NFTs, meaning it will consider whether the NFT’s associated right or asset is a collectible as existing tax law defines it. The IRS chooses a pearl as its example, saying that since a pearl is a collectible, an NFT certification of ownership of a pearl is also a collectible.
A further complication will be that the tax authorities will need to clarify NFTs that provide both an asset and a benefit. “How should a taxpayer report a gain on a sale of an NFT such as a Bored Ape which is a digital representation of an Ape but also gives the owner access to an exclusive club?” Nik Fahrer, a CPA at Forvis who specializes in digital assets, told Artnet News. “Is the designation of an NFT as a collector’s item all or nothing?”
Another more fundamental question is whether to label certain NFTs as collectibles in the first place. In the late 1990s, politicians lowered the tax on stocks but kept the 28 percent rate on collectibles, arguing that high-value art, fine wine, rare coins and the like were mainly owned by the wealthy. Does that logic apply to NFTs?
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