Non-fungible tokens (NFT) are currently the belle of the blockchain ball. The revenue related to sales of NFT’s are staggering: $69 Million for Beeple while NBA’s Top Shot swished over $700M in sales in less than a year. Open Sea, the largest NFT exchange, has a $13.3B valuation.
In the frenzy to scoop up NFT’s, buyers appear to be paying little attention to some important questions: Who is the seller? What intellectual property rights does the buyer get? And what happens if there is a problem?
In order to transact on Open Sea, you need to create your own digital wallet. The most popular app to create a digital wallet is MetaMask, which allows you to customize and create a cool name for your wallet, like @GiveMeSomeNFTLove. If you want to purchase an NFT the seller may have some similar type of digital wallet. The challenge is how do you know that the person you want to do business with actually owns that particular wallet. That is where Anti Money Laundering/Know Your Customer (AML/KYC) regulations would come into play if you were using a payment processor with your credit card.
On many NFT exchanges, however, buried in the terms of use, is a statement that the exchange itself does not guarantee the identity of the parties nor the authenticity of the assets. As of this writing, AML/KYC are not required for NFT exchanges. In short, it is buyer beware. I have a funny feeling that if you read this piece in December 2022, the story on this AML/KYC might be very different.
If you identify that the seller is legitimate, the next question is how do you know the seller has the right to sell the digital asset associated with the NFT. Most people assume these rights without realizing there may likely be no legal basis for that. If you review the ERC 721 token which is used on most exchanges to mint NFT’s you will note, there is no category identifying intellectual property rights. For example, while I may have a copy of a painting that does not mean I have the right to mint and sell a hundred copies to other buyers. If I create a digital piece of art that we associate with an NFT I have the following bundle of rights:
- Right to reproduce;
- Right to make derivative works;
- Right to distribute copies of a work;
- Right to perform a work publicly;
- Right to display a work publicly; and
- For sound recordings, the right to perform the work by digital audio transmission.
If you want to buy an NFT and distribute copies or reproduce it, you will need to get ownership of the copyright or a license that outlines in writing your ability to distribute and reproduce the product. For example, if you want to buy an NFT that looks like Mickey Mouse, you may be buying the opportunity to get a cease-and-desist letter from Disney’s legal department asserting your Mickey Mouse NFT violates their copyright.
More recently, the 1994 classic movie, Pulp Fiction, is back in the headlines as Quentin Tarantino wanted to mint NFT’s relating to the script and Miramax replied that it was their intellectual property.
As NFT buyers we anticipate the deal to happen without a hitch but what if we pay for an NFT and do not get what we expect? What happens next?
Most exchanges have terms of use, but they only govern the use of the exchange. If the ERC 721 token does not spell out the buyer’s remedies and there is no other written agreement between the parties now what? What law applies if the buyer is in France and the seller is in Germany? Is it the law where the digital art was created or where the NFT was minted? We do not know the answers right now as the business and technology rabbits are outpacing the legal tortoise.
If the seller’s identity is opaque, intellectual property ownership is murky and legal remedies sparse, the inevitable consequence is that exchanges will lose the trust of their customers.
Chris Spears, CEO of blockchain startup Lift Kitchen, sums it up well,
“Whether you are an individual artist or manage corporate intellectual property, the IP gap on many NFT platforms will result in heightening the risk associated with counterfeiting which will cause fear and concern for brands entering the digital space.”
It could be that customers or more likely regulations may influence exchanges to determine that having good AML/KYC and transparent IP rights will create better digital communities by building trust. Until that time, remember the new spin on an old adage is technology may change but human nature remains the same so buyer beware.
Justin Daniels is a shareholder in the Atlanta office of law firm Baker Donelson. He counsels clients creating non-fungible token (NFTs) exchanges, through the creation and iteration of business models that address regulations including federal and state money transmitter laws, AML/KYC, privacy and cybersecurity, as well as whether tokens are considered securities. Justin may be reached at (678) 406-8706 or jdaniels@bakerdonelson.com.