NFTs Are Taxation Shapeshifters

NFTs will be split into pieces for tax purposes

The IRS recently issued Notice 2023-27: Treatment of certain nonfungible tokens as collectibles. This is the beginning of IRS guidance on NFT Tax. The best part is they are looking for public comments and I was impressed with the questions they posed. Many times there is no public comment and we get what we get. 

What's the big deal

We knew the NFT collectible consideration was coming. There is no way it wasn't. If an asset is defined as a collectible, then a higher 28% long-term tax rate is applied. Non-collectibles which is MOST capital assets are subject to 0%, 15% and 20% long-term capital gains depending on your personal situation. The delta between 15% (where many taxpayers fall) and 28% is almost 2X so the "NFT Tax" is a big deal. 

Call to action

If you're an NFT Degen or an experienced NFT collector then submit your comments in writing by June 19, 2023. Alternatively, please reply with any insights you have and I will provide good ones to the Virtual Currency Task Force (It would come from me not you) 

The salient points

Here are some salient points from the Notice. 

"The Treasury Department and the IRS intend to issue guidance regarding the treatment of certain NFTs as section 408(m) collectibles." 

Taxpayer input can steer the final outcome. Here are some examples of what is an NFT and what is not. 

"For example, a gem is a section 408(m) collectible under section 408(m)(2)(C), and therefore an NFT that certifies ownership of a gem constitutes a section 408(m) collectible."  This makes total sense because the NFT is like a receipt for the underlying physical gem.

"For example, a right to use or develop a “plot of land” in a virtual environment generally is not a section 408(m) collectible."

NFT land plots are both the land and the right to develop the land. There is no such thing (that I know of) where an NFT is ONLY the right to develop the plot. Although this type of NFT may come later when the land plot owner creates a rights NFT like a landlord. This example is a little off, however the questions in the Notice do address the issues of a multi-value proposition NFT.

Key Takeaway

In other words, NFTs are multiple things and their value will have to be bifurcated. This is easier said than done. New NFT valuation services will emerge to address this for tax purposes. It's going to be a tricky path. 

Work of art 

"The Treasury Department and the IRS are considering the extent to which digital file may constitute a "work of art". This is the key place to start. Once this is nailed down then all the other NFT components can be addressed to the exclusion of a work of art; which will be defined as a collectible. 

Good luck and remember your goal is always a Crypto Bullseye™.

Yours in Crypto,

Kirk Phillips, CPA, CMA, CFE, CBP

DISCLAIMER
The information in this post can not be construed as tax, legal or investment advice because professional advice can only be dispensed with an official engagement letter.