NFT or a nonfungible token is the latest cryptocurrency in the world of art and other valuable collectibles traded as digital assets. While the Securities Exchange Commission is reviewing the regulations of FinTech companies and individuals creating NFTs, IRS is tracking purchases and sells of digital assets using Ether. Christie’s Auction House sold the first NFT artwork of images by Digital Artist Beeple for over $69 million, in March 2021. Originally, nonfungible tokens started on the Ethereum cryptocurrency platform for trading games.
Today, there are many NFT marketplaces, including OpenSea, Mintable, and Rriable providing its users access to other types of NFTs, besides artworks. A major question millennial investors and sellers should ask is how IRS taxes nonfungible token transactions. Under IRS’s 408(M)(2) Tax Code Section, the artwork sold by Christie’s is a collectible and subject to taxation. NFT creators are subject to ordinary income taxes and self-employment taxes.
If an artist created the NFT art and sold it in the marketplace for $100,000, for an example, he or she would have to report the money as ordinary income. IRS requires Ethereum blockchains to report cryptocurrency transactions between sellers, buyers, and investors to determine if they are taxable as properties. An individual creating NFTs as a business or to trade can deduct associated expenses to reduce his or her taxable ordinary income.
Earnings from NFT Play-to-Earn games are also taxable.
The Internal Revenue Service taxes an NFT as a collectible based on the filer’s taxable income and the net capital gain. If the taxable income is under $80,000, the filer will not have to pay any taxes on the capital gain. Taxable incomes over $80,000 are subject to a 15 percent tax rate. When the taxable income exceeds the threshold of the 15 percent tax rate, the filer is subject to a 20 percent tax rate. Capital gains from coins and art are subject to the maximum percentage rate of 28 percent.
- Form 8949 (Sales and Other Dispositions of Capital Assets)
- Form 1040-Schedule D (Capital Gains and Losses)
- Business Tax Forms (1120, 1120S, or 1065)
- Schedule C (Profit or Loss From Business)
NFT sellers will use Form 8849 to report the sale of an NFT and calculate a loss or capital gain. They will summarize capital gains and deduct any losses on schedule D to offset the ordinary income. An individual with a huge investment income, such as Artist Beeple, may be subject to the Net Investment Income Tax (NIIT).
Form 1120, Form 1120S, and Form 1065 are business tax forms creators must report NFT income or Schedule C, if a sole proprietor. They can deduct expenses for auction, transaction, and subscription fees to reduce their tax liabilities on net capital gains. Investors can use Form 8949 and Schedule D to report Ethereum cryptocurrency for the purchase and sale of NFTs.
IRS classifies capital gains and losses as short-term and long-term. If a NFT seller holds a digital asset for over 12 months and receives a gain, it is long-term. A sale transaction completed within one year or sooner falls in the classification of a short-term gain or loss.
As petitioners are pushing SEC to issue rules and regulations on NFTs, IRS is stepping in to ensure such transactions are accountable as ordinary income. Creators and sellers of nonfungible tokens are subject to reporting to the Internal Revenue Service. They should learn as much as possible about cryptocurrency and how NFT trades and sales work on Ethereum blockchains.