Do Creators and Investors Have to Pay Taxes for NFTs?
Whether you are an NFT artist creating and selling NFTs or an investor who is actively buying and trading them, it’s important to understand how NFT taxes work and how to avoid a hefty tax bill at the end of the year.
Before diving into the taxation of NFTs, let’s discuss what NFTs are and why they have become so valuable.
NFTs (Non-Fungible Tokens) are today’s hottest digital assets and they have taken the arts and investment worlds by storm. NFTs are digital representations of texts, images, videos, or other content that are stored on a blockchain network like other cryptocurrencies.
Nonfungible digital assets are unique and can’t be replaced with anything else. NFTs are an increasingly popular way to showcase and sell your digital artwork. Terra Nulius was the first NFT on Ethereum Blockchain which dates back to 2015 and billions of dollars have been spent on NFTs since that.
Managing NFTs can be done on a mobile app or web-based application. One of the most important aspects of managing NFTs is keeping the tokens safe. NFTs are held in wallets and there’s a unique link in the wallet that allows the content to be displayed or transacted.
Like fungible cryptocurrencies, NFTs (non-fungible tokens) are also subject to tax laws. There is no NFT specific tax guidance yet. But NFTs are treated as “collectibles” under tax code Section 408(m)(2), according to which “any work of art” is considered a collectible.
You can create and sell NFTs in a marketplace, or you can buy and sell NFTs as an investor. Any profits earned through selling NFTs will be taxed as property and subject to the capital gains tax.
The main taxable NFT activities are:
- Selling an NFT for cryptocurrency
- Purchasing an NFT with a fungible cryptocurrency
- Trading an NFT for another NFT
NFT Taxation for NFT Creators
NFT creators are considered to be artists, who create NFTs and offer them for sale in marketplaces like SuperRare and Nifty Gateway and they will have to recognize ordinary income from the sale of your NFTs. There is also self-employment tax if they are self-employed.
NFT creators must report all the income proceeds for each tax year on their tax returns. But if an NFT creator has another job, his income taxes will depend on the total taxable income bracket after deductions, including the NFT sales.
Ordinary income tax rates for NFT creators go from 10% to 37% and self-employment taxes rates are 15.3%.
NFT Taxation for NFT Investors
Investors are people who buy, sell and collect NFTs with the hope of making a profit. NFT investors are taxed as in the case of cryptocurrency trading. Sometimes NFTs are purchased using cryptocurrencies like ether. And as cryptocurrency is treated as a property per IRS Notice 2014-21, purchasing an NFT using Ethereum triggers a taxable event.
If NFTs are taxed as property you must pay from 0% to 20% according to your income. NFTs are taxed at 28% if they are treated as stamps, antiques, or trading cards.
Buying Crypto With Fiat Money
You do not have to pay taxes at the end of the year if you simply buy virtual currency with U.S. dollars, keep it within the exchange where you made the purchase or transfer it to your personal wallet.
If purchasing a virtual currency with U.S. dollars is your only crypto-related activity, you don’t have to report that to the IRS.
When you start using crypto as a method of exchange things become taxable. You have to pay taxes when, for example, you sell your crypto for U.S. dollars, exchange one cryptocurrency for another or pay for goods and services with crypto.
When you deal with different types of cryptocurrency and place a trade, it is a taxable event. The IRS has started taking a harder look at cryptocurrency transactions and cracking down on anyone dodging taxes.
How are NFT Taxes Calculated?
As we know, there are many cases where taxes are applicable in the NFT trade. It will be difficult to keep track of your trades if you are regularly trading in NFTs especially using cryptocurrency. In the case of crypto exchanges, the software allows you to determine costs and gains for taxation but NFT marketplaces do not provide such facilities.
The NFT marketplace only shows the sale value of the NFT. You can’t see the price of the cryptocurrency at which the buyer has bought them. Thus when buying an NFT, it is not possible for the marketplace to ascertain your gains.
You should track each purchase and sale and figure out the correct cost and sale value. As each NFT is unique you can’t use cost valuation methods as is the case with cryptocurrencies.
You may keep track of your purchases, sales, corresponding profits and losses by means of Portfolio Valuation Tools.
However, keep in mind that creating and selling an NFT is also a business and taxes work exactly like creating and selling anything else, and therefore this income qualifies as business income.
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