Despite the absence of NFT-specific regulations in the United States currently, NFTs are regulated in the US similar to other digital tokens, meaning that NFTs may be regulated:
- As a commodity, under the jurisdiction of the Commodity Futures Trading Commission (CFTC);
- As a security, under the jurisdiction of the Securities and Exchange Commission (SEC);
- As some form of “value” regulated by the Financial Crimes Enforcement Network, a component of the U.S. Treasury (FinCEN), and
- As a form of intellectual property.
NFTs (depending on their specific features, functions, and economic reality) may be governed by a framework of existing securities, anti-money laundering (AML), financial services, consumer protection and privacy regulations under US federal and state laws. Depending on the state laws that govern the creation and use of the NFT, if NFTs are offered as sweepstake rewards, they may be restricted under state illegal lottery laws. Likewise, state escheatment laws governing unclaimed property may also be applicable as NFTs age, if they are held in hosted wallets or otherwise in the possession of a holder other than the owner. We also note that not all digital assets that are referred to as NFTs are the same and, thus, not all will be treated the same way from a regulatory perspective. As an example, fractionalized NFTs have different regulatory considerations than others, as described below.
Securities Law
Absent federal legislative clarification on which types of digital assets may be securities or ancillary securities, courts still look to the Howey Test to determine what qualifies as a security in the US. Under Howey, an investment contract (or security), is defined as a transaction, scheme or contract where there is (1) an investment of money, (2) in a common enterprise, (3) with the expectation of profit (4) solely from the efforts of others. The definition can be very broad. At its most basic level, some of the hallmark characteristics of an NFT are that they are unique and non-fungible. This makes them more like a collectible that may appreciate (or depreciate) as opposed to a traditional security. But, as we described further below, new types of NFTs – and in particular, fractional NFTs – are starting to raise securities laws questions. While an NFT’s uniqueness may leave unsettled the legal question of whether it is a security, there are still several types of fraudulent conduct, such as wash trading, insider trading and front running, that wrongdoers in the NFT market can engage in.
Anti-Money Laundering
AML requirements are intended to safeguard the U.S. financial system from use by those seeking to move, hide, or spend the proceeds of crime. Various types of financial institutions, including banks, casinos, and money services businesses (or MSBs, which include businesses that transmit value in any form, including convertible virtual currency or digital assets), are subject to a variety of AML requirements, including the requirements to register with FinCEN (and potentially obtain licenses from state regulators), implement a risk-based AML policy, and report suspicious activities. The applicability of these rules to platforms or other persons doing business transferring virtual assets during the buying or selling of NFTs depends on whether their NFT-related activities would render them a money transmitter or other type of financial institution. This is a fact-intensive inquiry that considers the nature of the business dealing in NFTs.
FinCEN has studied, but not yet issued regulations on, whether those platforms, auction houses, or online marketplaces that deal in NFTs or other forms of digital-ledger collectibles should, separate from their potential status as a MSB, be considered “financial institutions” for purposes of AML laws and regulations. It has noted several AML-related risks associated with NFTs, and the high-value art market generally, but declined to extend regulatory obligations to this market to the extent it is not already covered by existing MSB regulations.
Given the potential applicability of U.S. AML rules to various activities in the NFT ecosystem (minting, primary sale, facilitation of secondary sales, etc.), each party involved in the issuance and trading of NFTs should review its activities to determine if they implicate money transmission and AML rules. For example, the primary sale of an NFT in exchange for cryptocurrency may not, itself, constitute money transmission; but if the seller first offers a buyer the opportunity to exchange fiat currency for cryptocurrency to use in the purchase of the NFT, then that activity may constitute money transmission.
Consumer Protection Laws
Consumer protection laws are designed to prevent consumers from unfair or deceptive acts or practices, especially in markets where consumers are relying on sellers for clear disclosure of information such as price, usage, risks, transferability, and other key terms of the product. Unfortunately, the crypto and NFT space are rife with information asymmetries that can generate consumer confusion, in addition to theft and fraud concerns. So, consumers need a clear understanding of exactly what rights they are and what rights they are not receiving when they purchase an NFT, as well as what limitations may exist on their ability to receive remuneration in the event something goes wrong. Typically, these consumer protections concerns – which are governed at both the federal and state-level in the US – are addressed via terms of sale that go along with the NFT.
Privacy Laws
Although US federal and state privacy laws do not specifically address NFTs, companies engaging in the NFT market should consider the potential impacts of privacy laws. Blockchain registrations of NFT ownership may constitute personal information. NFT owners may not understand that their ownership registrations will be processed publicly and in a decentralized manner. As discussed in Section 5 below, companies may therefore benefit from providing consumers with clear disclosures about how their personal information will be processed.