Nft’s role in the metaverse: Litigating Nft disputes – part I | Fox Rothschild LLP

This will be a two-part post. In this first part we will focus on the NFT technology, and in the second part the legal basis. NFT technology provides an extraordinary opportunity for arbitration to be used as the most viable approach to disputes. All disputes regarding fundamental issues and smart contracts, including privacy/security; intellectual property; securities; and contract law can be decided in an arbitration forum. Basically, nonfungible tokens (NFT) act as products or services in the metaverse and can be bought and sold with cryptocurrency through the blockchain technology, Web3’s infrastructure. Web3 is a new set of standards for how the internet should be used and governed, and it is used to access the metaverse. The Metaverse supports gaming, social media, retail and other experiences such as virtual reality. Using virtual reality (VR) access (headset), people have a customizable “body” (avatar), with a home to “furnish” and other places to visit. Interacting with others to work, play and perform basically anything you would do in the “real” world. Such use reduces travel and the need for physical resources, allowing people to visualize and interact with any object without much effort or time. Connects all activities, chats, locations and data, including without having to switch between apps and a browser.

NFT Basic technology
Web3 represents an open 3D immersive internet. Built on blockchain technology with data decentralized, open and easily distributed. Web3 applications, enhanced by decentralized products and NFTs, are the foundation for a new era of connectivity, interaction, work and play. Web 3.0 benefits users as they own their data and are free to act on it without losing ownership, privacy or depending on intermediaries, enabling security without tracking. Metaverse and NFTs allow users to work, learn, play, entertain and play games with other people using VR and Augmented Reality (AR). Both have their own independent virtual economy, enabled by digital currencies and NFTs.

NFTs use the metaverse, can be used to facilitate transactions, serve as products or services, and are bought and sold with cryptocurrency. For example, NFTs are used in the marketplace, such as Nikeland, art, real estate, gaming, sports, media and entertainment. NFTs are a symbol that conveys ownership of all types of assets linked to an underlying intangible asset. Buyers get a clear chain of custody and ownership transparency when the transfer of ownership is registered on the blockchain. The transaction history is public and cannot be changed or deleted. NFT buyers can do due diligence by looking at the ledger. NFT sellers do not need traditional intermediaries. NFT creators use code in a smart contract to embed certain sales conditions, such as the provision of automatic resale royalties.

NFTs use blockchain technology. Blockchain distributed ledgers are immutable as they provide unassailable trust across a wide and growing range of transactions. NFTs are transparent where all transactions are stored in corresponding blocks on a blockchain, secure from being corrupted and transparent. NFTs evolved from the ERC-721 standard, and were created by the same people who developed the ERC-20 smart contract. ERC-721 defines the minimum interface – ownership details, security and metadata – required for the exchange and distribution of gaming tokens. The ERC-1155 standard reduces the transaction and storage costs required for NFTs and bundling multiple types of non-fungible tokens into a single contract.

NFTs are an outgrowth of distributed ledger technology, using a blockchain, a form of distributed ledger. A distributed ledger is a database that exists across multiple locations or among multiple participants. Most companies use a centralized database located in a fixed location. A distributed ledger removes third parties from the process, which makes them quite attractive.

The use of smart contracts
The creation, or “minting”, of NFTs allows creators who own IP rights in the underlying asset to set the terms of a license to be transferred to the NFT buyer. The parties who own these IP rights and wish to transfer them use “smart contracts” to memorialize the express written terms for the assignment or licensing of IP rights. Smart contracts are simply programs stored on a blockchain that run when predetermined conditions are met. Essentially, it is the software code that generates a self-executing transaction triggered by an encoded state. NFTs: The New Privacy and Security Nightmare?

Typically, using a distributed ledger/blockchain technology provides anonymity. No requirement to attach names or identifying information to someone’s “wallet,” like a bank or brokerage account. NFTs undermine this anonymity.

For example, in the case involving Jimmy Fallon and Bored Ape NFT, we saw that public blockchains have low privacy environments. One can learn another’s wallet address, and thus have access to a whole range of individual information. Wallet addresses may need to be shared to complete an NFT transaction, i.e. if a user associates an NFT with part of their online or identity, uses an NFT as a profile picture, or maintains the NFT Marketplace profile, it becomes easy to see that person’s wallet.

Privacy laws are not made for blockchain. With the CCPA and GDPR, individuals can exercise their right to delete personal information. Blockchain records are immutable, and a variety of location-based NFTs and wallet trackers may violate new privacy laws

NFT’s security
Current NFT platforms may not be secure frameworks. Platforms may allow the transfer of unwanted NFTs to a wallet, incurring a charge to remove them. Rapper Wacka Flocka Flame, for example, clicked on the questionable NFTs which led to $19K being taken right out of his account.
Since NFTs are governed by “smart contracts”, software code (in smart contracts) can be susceptible to manipulation and/or human error. There is also hacking into NFT user accounts. For example, Sandbox (seller of virtual land NFTs) demonstrates software vulnerability. Likewise, Poly Networks’ software flaw allowed them to transfer $600 million worth of tokens to their own crypto wallets.

Conclusion
The use of NFTs is highly specialized and requires a thorough understanding of the technology. In our next blog, we will focus on the legal consequences of their use.

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