NFT Taxes – A Guide for NFT Creators & Investors

nft taxes

A non-fungible token or NFT is a digital asset that represents real-world stuff such as music, arts, videos clips, in-game items, and more. This type of asset can be sold and bought with cryptocurrency and is usually encoded with the same fundamental software as other cryptos. 

Do you want to go deeper around this topic? If you do, this article will let you learn more about the non-fungible token and what are the accountabilities entailed to this asset, such as NFT tax implications, filings, and more.  

What is an NFT or Non-Fungible Token? 

As the digital world goes more advanced, the blockchain-based platform is also transforming how musicians, artists, celebrities, and sports enthusiasts buy and sell original creations. This trend is known as the NFT. Unlike fungible tokens such as bitcoin, this digital asset has a unique value and cannot be imitated. 

Plus, NFTs can’t be traded for another NFT since each item has a different worth. Furthermore, for an individual who creates a unique and one-of-a-kind masterpiece, converting your content into a non-fungible token is an effective way to have a record of ownership on the digital ledger and ensure genuineness. 

How are NFTs Taxed?

With all the profits you may earn out of every transaction around NFTs, income taxes are waving. As of writing, Internal Revenue Service (IRS) has not yet taken a formal stand on how NFTs are taxed. 

Thus, this asset can be charged with a similar tax treatment as crypto, which would be taxed as property with a long-term capital gains tax rate, ranging from 0-20%, depending on your income. Aside from that, NFTs can also have the same tax treatment as trading cards, antiques, or stamps and be taxed with a collectibles tax rate that is significantly above 28%. 

However, you may determine whether an NFT will be treated as property or collectibles when the asset is held for more than a year. As such, nonfungible tokens that are sold less than one year of holding period will receive short-term capital gains — equivalent to ordinary income tax rates — regardless of their tax treatment. 

Nevertheless, creating an NFT is not a taxable event. With that said, here are the following taxable activities around NFT transactions:

  • Trading an NFT for another NFT;
  • Purchasing an NFT with a fungible cryptocurrency; and
  • Disposing of an NFT for a fungible cryptocurrency 

Earnings from NFT Play-to-Earn games are also taxable.

(The IRS hasn’t provided specific guidance on the gifting of NFTs – as opposed to tax on crypto gifts)

Capital Gains Tax on NFT

When you buy a nonfungible token with crypto, you are basically disposing of a cryptocurrency value. As such, you are accountable for capital gains taxes on any profit from the worth of the crypto you used. 

For example, you bought a CryptoPunk for 6 Ether (when 1 ETH is equivalent to $2,000, you have a total purchase of $12,000). But later on, you sold it for 4 Ether (when ETH has increased to $4,000, giving you a total sales of $16,000). In this case, you have received a taxable gain of $4,000 from such a transaction. ($16,000-$12,000=$4,000)

Meanwhile, suppose you had been holding the 6 Ether for 18 months when you bought your CryptoPunk, during which time Ether’s worth has been raised from $1,500 to $2,000. When you used the 6 ETH to purchase a non-fungible token, you were giving off $12,000 worth of Ether, which you had only got for $9,000. Therefore, you owe tax from your $3,000 capital gain. ($12,000-$9,000=$3,000)

As such, the moment you purchased your Punk, you have obtained capital gains tax on your Ether. Furthermore, when you sold such CryptoPunk after several years, you have acquired capital gains tax on the NFT itself. Ultimately, since cryptocurrency is treated as an asset, you will incur tax liabilities when you exchange crypto to purchase an NFT and when you dispose of such nonfungible tokens for cryptocurrency.

nft tax evasion

Taxation for NFT Creators

Non-fungible Tokens are considered self-created intangibles like a lot of other works of art and performances. As such, NFT creators have no specific grounds in what is being sold other than the significant costs related to creating their piece. With that said, the IRS provides an exception that lets NFT creators subtract expenses as they go rather than the time when their item is sold. 

Suppose you’re an NFT creator, if you have subtracted your expenses in a tax year before the year when your item is sold, you have zero bases in the NFT. It means the money you will gain is 100% of the proceeds realized on the selling transaction. Hence, if you create an NFT and sell it for $500,000, your item has $500,000 of taxable profit. 

Even though IRS has not yet taken a stand on how NFTs are taxed, general tax principles indicate that non-fungible tokens are likely to be treated as creator’s inventory by the IRS. As such, whether you’re into creating NFTs for business or an artist who wants to add NFTs to your income, the profit from selling NFT will not only be taxed as ordinary income but is also subject to self-employment taxes.  

Moreover, while an authentic NFT is a one-of-a-kind token, the creator of such asset may keep the copyright to anything that was used to create the non-fungible token itself. In turn, when the copyright of an NFT is retained and copies have been sold, the income generated from the sale is considered as royalties. Thus, this income must be reported yearly on Schedule E and must be attached to the individual’s Form 1040. 

Based on current IRS guidance, that means creating an NFT is the same as mining cryptocurrency. Mined crypto is taxed at the time it’s mined.

Ultimately, NFT creators could be looking at three taxable events when they market their original masterpiece, these are:

  • Self-employment tax
  • Income tax on the sale itself
  • The tax generated by royalties

Selling an NFT you Created for Crypto

Creating an NFT is not a taxable event. However, if you are a creator of a nonfungible token and you sell it in the marketplace, the income you will generate from the sale is subject to income tax. Furthermore, the money you will get from such a transaction is considered as an ordinary income and will be taxed at your ordinary-income tax rate, varying from 10% to 37%.  

Taxation for NFT Investors

The tax implications for NFT investors are the same as the taxes applied on cryptocurrency trading. Suppose you’re an NFT investor and you trade an NFT for other cryptos. This transaction is considered the disposal of crypto and will be subject to a capital loss or capital gain. 

As such, if the crypto you used to purchase an NFT is worth higher when it was purchased — depending on the holding period of the token used to purchase the NFT — you are subject to receive either short-term or long-term capital gains tax rate. 

On one hand, if the crypto you use to purchase an NFT is worth lesser than when it was purchased, you would incur a capital loss that may offset other capital gains and lower your overall tax obligation. Moreover, if you held the cryptocurrency you used to buy NFT for less than a year, short-term capital gains tax rate can be applied.

This tax rate is the same as ordinary income tax rates, which can be as high as 37% — depending on the bracket where your personal income falls under. Meanwhile, if you held the crypto you used to buy an NFT for more than a year, the long-term capital gains rate is applicable, which varies from 0 to 20%. 

Whether long-term or short-term capital gains, consider all options to reduce tax on cryptocurrency investing.

How to Report NFT Investor Taxes

When it comes to tax reporting, NFT investors can use Form 8949 (Sales and Other Dispositions of Capital Assets) and Schedule D (Capital Gains and Losses) to report the disposal of crypto to purchase NFT and the following sale of such assets. Furthermore, if you’re an NFT investor, it is important to note that when you sell a collectible, you must indicate the transaction with code “C” on column (f) of Form 8949. 

NFT Taxable Event

According to cryptocurrency experts, the NFT investors and creators trigger a taxable event when  they buy and sell an NFT. For instance, if you’re an NFT investor and purchased NFT with another cryptos, a taxable event will be triggered upon the disposition of crypto which is treated as property. 

Then, if you sell your NFT, the gains generated from the sale will be subject to ordinary income tax, if you have only held it for less than 1 year. Or, it will be subject for long-term capital gains tax , ranging from 0% to 20% if held longer than a year. 

Tax Consequences for Selling NFT for Another NFT

as mentioned earlier, selling one non-fungible token for another non-fungible token may trigger a taxable event. For example, you purchased an NFT for $5,000 of ETH, and after a few months, you have traded it to another NFT worth $7,000 of ETH. In this case, you would incur a taxable capital gain of $2,000 ETH ($7,000-$5,000=$2,000). Moreover, since you have disposed of your NFT less than 12 months after you bought it, the gains generated from the trade will be subject to the short-term capital gains tax rate. 

Tax Consequences for Selling NFT for Cryptocurrency

Whenever you generate income from selling an NFT, you incur a capital loss or gain. For example, if you purchased an NFT for $20,000 of ETH and post it into market for $23,000 of ETH, you would incur a taxable capital gain of $3,000 ($23,000-$20,000=$3,000). In this case, you would be subject to capital gains rate on NFT taxes. 

Hence, if an NFT is sold for cryptocurrency after a holding period of less than 12 months, you would be subject to short-term capital gains tax rates, regardless of how an NFT is treated  — whether it is viewed as collectibles or property. 

nft profits

FAQ

What Qualifies as an NFT for Tax Purposes?

Whether you’re an NFT creator or investor and you’re generating income out of non-fungible tokens such as music, digital art, video clips, in-game items, and more, you are obliged to file income tax return. That said, here are the following taxable activities around NFT transactions:

  • Trading an NFT for another NFT;
  • Purchasing an NFT with a fungible cryptocurrency; and
  • Disposing of an NFT for a fungible cryptocurrency

Do you pay taxes on NFT sales?

In most cases, Yes! Whether you’re an investor who wants to buy and trade NFTs for profit or an artist who creates and sells NFTs, you are obliged to pay income tax returns. On top of that, if you invest capital in non-fungible tokens, any profits you earned through trades and sales will be taxed as property and will be subjected to the capital gain tax.

Furthermore, NFT can be charged with a similar tax treatment as crypto, which would be taxed as property with a long-term capital gains tax rate, ranging from 0 to 20% of your income. Aside from that, NFTs can also have the same tax treatment as trading cards, antiques, or stamps and be taxed with a collectibles tax rate that is significantly above 28%.  

Conclusion

Whether you’re investing in NFT or the one who creates the NFT itself, it is essential to know the tax implications connected to non-fungible tokens. Hence, the more transactions you have engaged yourself in, the more complicated tracing and calculating NFT taxes you may get. 

On top of that, NFT platforms don’t issue 1099 tax forms with complete cost basis details. As such, it is best to keep your record of both actual NFTs and the virtual currency used to buy NFTs. Ultimately, if you want to understand more about your digital assets and resolve tax issues, it is always better to consult tax consultant. By doing so, you can have enough knowledge about the do’s and don’ts of reporting taxes, so your tax obligations will never be brought to tax court.

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