NFT non-fungible tokens art and collectible illustrations, use blockchain technology to create unique digital items for crypto art, crypto collectibles and crypto gaming.
holly harry | iStock | Getty Images
According to tax experts, the NFT craze could have a painful tax surprise for buyers and sellers using cryptocurrencies.
Sales of NFTs, or non-fungible signs, have exploded in recent weeks and are $ 20 million higher in 2021, according to NonFungible.com. Along with the sale of the $ 69 million Beeple NFT titled “Everydays: The First 5,000 Days” at Christie’s last week, and the $ 3 million NFT sneakers, NFTs have everything from NBA highlight videos to Jack Dorsey tweets, ‘ created a huge new market of blockchain. based digital assets to buy and sell.
Yet experts say buyers and sellers are probably unaware of an Internal Revenue Service tax rule that could haunt them – and could cost them a large chunk of their profits. This entails a strong potential tax on anyone who uses their valued cryptocurrency to buy NFTs, which according to experts are the most NFT-selling.
“People’s knowledge about this tax in the US is very weak,” said Shehan Chandrasekera, head of tax strategy at CoinTracker, a platform for tracking crypto portfolios and taxes. “I just don’t think people know about it.”
At issue are recent IRS guidelines on the use of cryptocurrencies to buy an asset, including an NFT. As part of its principle known as’ alienation of assets’, the IRS states that ‘if you exchange virtual currency held as a capital asset for other property, also for goods or for another virtual currency, you will recognize a capital gain or loss. “
Chandrasekera said this has major implications for the NFT craze, which is mainly fueled by collectors using bitcoin or ether to buy NFTs. For example, if someone bought a unit of ether for $ 100 in 2018 and it would be worth about $ 1700. If they used the ether unit to buy a $ 1,700 NFT, they can assume they are not paying any tax on the ether because they are simply using it to buy a good or service.
“EVERYDAYS: THE FIRST 5000 DAYS” is a collage by digital artist BEEPLE that will be auctioned at Christie’s, unknown location, in this undated handout obtained by Reuters.
Christie’s Images LTD. 2021 / BEEP | via Reuters
But according to IRS rules, the eater is a capital asset, not a currency. Thus, the holder must pay tax on the profit of $ 1,600 as part of the NFT purchase, since the act of exchanging it for another asset applies as a sale or ‘disposition’. They would therefore owe the IRS – if they accepted the highest capital gains rate of 20% – a tax of $ 320. They could also owe taxes to the state, as many states like New York and California tax capital gains as income. (The rules for additional sales tax in each state for NFTs are less clear.)
“You are not spending currency, you are spending a valued asset,” Chandrasekera said. “So, just spending it creates a taxable event.”
If the NFT buyer later sold or ‘turned around’ the NFT at a higher price – which became popular with NBA videos and Beeple works – the seller would also pay a capital gains tax on any profits. And since NFTs are considered collectibles, they are taxed at the higher recoverable capital gains rate of 28%.
In other words, both buyers and sellers of NFTs are likely to face tax bills that they did not consider when investing in NFTs.
Another problem is inadequate reporting by companies in the midst of the NFT boom. The large platforms that buy and sell NFTs, such as Flow at Dapper Labs or OpenSea, can report a sale, but they cannot report the buyer’s profit on the crypto used for the purchase.
“They do not know what a buyer originally paid for their Ethereum or bitcoin, they can only report the selling price of the NFT,” Chandrasekera said.
Tax experts say it is almost impossible to know the total amount owed or unpaid to the IRS from the NFT boom. Some say it’s in the tens of millions, and maybe hundreds of millions.
Granted, NFT buyers who only buy bitcoin or ether and use it immediately to buy an NFT do not face taxes. The tax only applies to those who buy NFTs with a crypto that has increased in value since its purchase.
In addition, the rules do not apply to overseas investors in NFTs. The buyer of the $ 69 million Beeple NFT that was sold at Christie’s last week, for example, goes by the pseudonym Metakovan and is based in Singapore. Tax experts say that since Singapore does not have a capital gains tax applicable, Metakovan would not have owed tax on the valued eater he used to buy the piece. If he were a U.S. citizen, he could owe more than $ 10 million in capital gains tax as part of the purchase.
However, the IRS will get its share of the Beeple purchase. The artist who created and sold the work, Mike Winkelmann, who also goes to Beeple, owes the proceeds to federal and state taxes, as he is an artist by profession. Depending on the fees paid to Christie’s and MakersPlace, he could owe ten million dollars in taxes, experts say.
When Winkelmann told him he could face such a significant tax bill, he told CNBC: “Holy sh–, it’s a lot of tax.”