Distributed Ledger Technology & Law 101 Series | What is NFT | Hong Kong & Global Comparison

“I’m selling this song about NFTs as an NFT… Actually, doesn’t feel quite right selling this. Will pass...”

- Elon Musk circa 17 March 2021

INTRODUCTION

The post-COVID era has since the sharp rise of digitization of every aspect of human life. From the sudden revitalization of bitcoins to the trend of collecting memes as ‘art’, such is the realities of this new age.

As the age of the meme connoisseur dawns upon humanity, the term NFT is upon everyone’s lips. Just as cryptocurrency has taken the world by storm, so has digital artwork in the form of NFT. The following as a crash course on NFT, the next Bitcoin in the world of blockchain and distributed ledger technology.

As you plan on where to have your next move into the crypto-market, don’t forget to follow our Distributed Ledger Technology 101 series penned by crypto-practitioner Joshua Chu and his team of specialists at the subscribe link provided. Your journey into Blockchain and Law begins here.  

NON-FUNGIBLE TOKENS | WHAT AM I?

The first question that most people will ask is what exactly is a NFT. NFT is an acronym for non-fungible token (“NFT”) which is essentially a unit of data that is designed to certify the following elements of a virtual asset:

  1. Ownership of the virtual asset;
  2. Uniqueness of the virtual asset; and
  3. Authenticity of the virtual asset.

(collectively “OUA” - not related to Open Universities Australia)

Before all the different acronyms starts to get confusing and to refocus, NFT, just like Bitcoin, is simply another form of digital ledger stored on the blockchain.

As a quick recap, blockchain is comprised of blocks of data (built upon each other) that is encrypted and duplicated systematically on a chain. This is why it is often said to be immutable and hence used as the bedrock of various cryptocurrency.

NFT is the blockchain community’s attempt to apply this innovative technology to document intellectual property rights with NFTs now being used to represent all different forms of digital files ranging from photos, videos (and films), digital art, virtual girlfriend and most importantly, memes!

What is special about NFT is that whilst it is a form of crypto (or ‘virtual asset’ in more formal names), NFT is NOT a currency (nor does it claim itself to being one – unlike Bitcoin). The purpose of a NFT is simply to serve as a unique and secured certificate that is NOT changeable (changeability being the defining character of Bitcoin – being able to trade one for another). This is good application for virtual girlfriend as most owners of such virtual relationship probably want their romantic partner not to be interchangeable.

NFT IN HONG KONG

The first half of 2020 has seen an explosion for the market of NFT with market value exceeding 2.5 Billion USD (approximately HK$19,439,325,000.00). The potential for NFT is therefore (as it seems) undeniable).

The biggest player/pioneer within the NFT space in Hong Kong is the art world (which is the same trend with the rest of the world). NFT art show has also came on the scene.

That said, NFT has already expanded beyond art with Hong Kong’s football club, RCFC having issued and sold a number of limited edition collectibles using NFT technology. The fact that Hong Kong has a long love affair with meme (propelling companies dealing with memes to listing status) only further reinforces the market potential of NFT in the city.

Even traditional auction houses are in the race to enter into the NFT market with one of the region’s first NFT auction to take place in the city.

LEGAL ISSUES IN OTHER COUNTRIES?

As the world move beyond the rise of cryptocurrency and decentralized finance, the NFT trend is similarly reflected in different parts of the world. Here are some legal issues already raised in the world’s various contemporary jurisdictions:

United States of America (“USA”)

SEC Commissioner Hester Peirce once raised issues over whether fractionalized NFTs are still NFTs per se. When a product is sold in shards, under the United State’s Supreme Court’s Howey test, fractionalized NFTs may be deemed as a security (being an investment product) as individuals invest money in a ‘common enterprise’ and reasonably expects profits derived from it.

United Kingdom (“UK”)

The legal status of NFT in the UK is far from being clear. Issues as to whether issuer has the legal basis for minting digital tokens that will grant ownership over an asset has been raised. From the UK perspective, distributed ledgers (the likes of NFT) are still not legally recognized as a registry the likes of the UK Land Registry.

Further, from a UK regulatory perspective, the concept of using a token to represent entitlement to certain rights may mean that a particular NFT is actually a form of security according to the current interpretation by Financial Conduct Authority. If this holds true, the result is that NFT will need to be regulated in the UK.

That said, another issue raised is that NFT will fall in what is essentially called a tax black hole as there are no published guidelines by the HMRC as to whether it is taxable. The existing guidelines only covered more traditional tokens like bitcoins (and will be deemed to be located where the beneficial owner resides).

CONCLUSION

All in all, what is certain is that digital art is here to stay. The different manner in which various jurisdictions have been reacting to NFTs shows the various lines of regulation that may ultimately be put in place to grapple with this newfound trend (be it securities regulation or tax regulation). It, therefore, remains to be seen how Hong Kong will tackle this new asset class which is set to dominate the markets.

We hope you enjoyed the latest of our Distributed Ledger Technology 101 series. To stay tune for more content, hit the subscribe link provided. Until next time.

Jurisdictions

Solicitor, ONC Lawyers

Joshua Chu is a Litigation Solicitor qualified to practice in Hong Kong. Before becoming a lawyer, Joshua worked in the healthcare industry serving as the IT department head at a private hospital as well as overseeing their procurement operations.

Since embarking upon his legal career, his past legal experience includes representing the successful party in one of Hong Kong’s first cryptocurrency litigation cases as well as appearing before the Review Body on Bid Challenges under the World Trade Organization Government Procurement Agreement concerning a health care industry related tender.

Today, Joshua’s practice is mainly focused in the field of dispute resolution and technology law.

Aside from his legal practice, Joshua is currently also a Senior Consultant with a regulatory consulting firm which had been founded by ex-SFC Regulators as well as being a management consultant for the Korean Blockchain Centre.

Group CEO, Marvel Digital Group