What are NFTs?
NFT stands for 'non-fungible token' and it is a cryptoasset, also known as a crypto collectible.
A non-fungible token is a record, stored on blockchain technology that is unique in nature and which cannot be interchanged. Examples of some of the first NFTs traded, include those of CryptoKitties, the NBA TopShot and CryptoPOP.
Fungible assets, unlike NFTs, are not unique, in that they are interchangeable. This means that they are replaceable by another identical item. Examples of fungible assets are cryptocurrencies (such as, Bitcoins and Ether) or fiat currencies (such as USD or EUR).
Let's take a fungible asset like a Euro 10 note. When it's exchanged with another Euro 10 note, it is irrelevant to its holder, whether that Euro 10 bill was the 1st one that was ever issued by the Central Bank or the latest one. What matters to the holder of the note is the value that it carries.
With NFTs this is different, because each NFT carries a code that is unique, so it is claimed that the 'value' of an NFT is found in its uniqueness and the fact that it cannot be replaced by another. Unlike cryptocurrencies, NFTs store (or are backing) content or data that is uniquely associated with this code. NFTs store data or content, such as digital art or a song, whilst fungible tokens, such as Ether or Bitcoin, store in their code the value they represent.
NFTs represent digital assets (which have no real-life equivalent), such as music, video, tweets, songs, digital art, virtual estate in Decentraland, even digital customised jackets to be worn in the metaverse world. Alternatively, NFTs are used to back real-life tangible assets, ranging from rare collectibles to luxury watches and paintings.
NFTs are built on distributed ledger technology (DLT), most commonly on blockchain technology like Ethereum, Polygon and Flow.
Distributed ledger technology is a system that records, shares, and synchronises transactions on separate computerised ledgers in a decentralised manner. When creating an NFT, there is a digital record in the form of a ledger, and a unique number or code, called 'hash' that is linked to the specific NFT.
The ownership of the NFT can be tracked and recorded through these computerised ledgers. With the use of blockchain technology, these ledgers are shared and worked on (or 'minted') by multiple participants (called 'miners') in a decentralised manner. The chain of ledger entries demonstrates the entire history in a way that it cannot be tampered with. Therefore, each NFT is 'minted' by miners and is powered by a smart contract which validates the transaction.
To create, trade or buy NFTs, the creator/buyer will need a crypto wallet containing digital tokens (cryptocurrencies) to pay for the transaction. This means that if you are building NFTs on Ethereum you will pay with Ether. Similarly, if you are selling or buying NFTs on crypto marketplaces like OpenSea or Decentraland you will be receiving or paying payment in cryptocurrencies through your crypto wallet which will be linked to the specific marketplace.
Trading of non-fungible tokens (NFTs) is on the rise. According to analytics platform DappRadar Industry Report of 2021 the trading volume of NFTs reached $23bn in 2021.
With the sale of "Everydays: the First 5000 Days" NFT by Mike Winkelmann, known in the digital world as 'Beeple' by auction house Christie's for USD 69.3 million, NFT trading became the hot topic of 2021. The buyer was Vignesh Sundaresan known in crypto world as 'MetaKoran'.
The proponents of NFTs, support that the commercial value of an NFT is that it can prove 'ownership and authenticity' of the underlying asset linked to that NFT. It is also claimed that NFT trading provides a medium for artists to exhibit or sell their art directly without using galleries or art dealers.
We attempt here to breakdown some of the copyright issues that any NFT creator or investor should be aware of when dealing with NFTs.
At present, there is no legislation in Cyprus or the EU (as is the case in most non-EU jurisdictions) which regulates the creation and commercialisation of NFTs, therefore, the analysis is based on application of general principles of copyright law and contract law.
What is copyright?
The creator of an original literary, scientific, or artistic work has copyright protection over the original 'work' of authorship created, which starts from the moment such work was created and recorded in an electronic or physical or other tangible medium (the "Work").
Literary, scientific and artistic work has a broad definition, and copyright protection over such works covers anything from computer source code, broadcasts, architectural drawings, art, films, music, books, articles, to databases.
Unlike trademarks or patents, copyright protection is automatically asserted upon creation and does not require a specific registration in a central registry. In some countries, like Canada or the USA, a voluntary registration process has been created where it is possible to register a copyright, however most jurisdictions (including, Cyprus and other EU countries) do not have a central registration system for registering the copyright, that would serve as proof of ownership.
The creator of an original Work has the copyright over the Work, and the term 'copyright' refers to a collection of rights determining the ownership, commercialisation and protection of the work, allowing the copyright owner to determine how the work is used, distributed, reproduced (i.e.. licensed) or assigned (transferred).
The copyright owner may through a licensing agreement determine the terms of use, distribution, reproduction, royalty payments, or may through an assignment agreement transfer the copyright.
What constitutes an 'original' work that affords copyright protection is a critical question and can be the point of dispute in copyright infringement cases. In short, originality is found when the work is the author's own intellectual creation.
Through copyright law, the owner of the copyrighted work can control the unauthorised use of the work, known as copyright infringement.
Copyright infringement takes place when a copyright-protected work is used without the permission of the copyright owner (or creator) to use such work, or in violation of a licence granted via a copyright licence agreement and the use of the work does not fall within the exceptions provided under the applicable copyright law.
This means that you require an authorization from the copyright owner before using a copyright-protected work (which takes the form of licensing or an assignment of rights).
NFTs, Copyright and Smart Contracts
As can be inferred from the brief description of the key elements of copyright law and protection, there are many questions and issues that should be examined from a copyright law perspective when creating and trading NFTs.
Copyright in underlying 'work' - establishing ownership
It is claimed that NFTs can be used to track and represent the ownership and authenticity of digital or physical assets, for example, artwork, paintings, sculptures and much more.
Whilst NFTs carry a unique 'hash' code which cannot be replicated, establishing:
- the 'ownership' and 'authenticity' of the work of the underlying digital or physical Work backing the NFT and/or
- the rights to use, display, copy, reproduce or sell the same
should not be automatically assumed.
Do not assume that an NFT illustrates a de facto 'ownership' of the underlying Work. The same applies to the 'authenticity' element. As explained above, the NFT is backing a digital or a physical Work, therefore, when dealing with NFTs, it is important to understand who the owner of the Work is, if the NFT is authorised by the owner of the Work, whether the Work that NFT is backing is original and what are the rights and obligations attached to it (if any at all).
The reason you need to consider the above is simple: failure to do so, could expose you to copyright infringement. Piracy is a form of copyright infringement, and it refers to the reproduction and sale of a Work, without the authorisation of the copyright owner. There are already many reported cases worldwide by artists who have seen their copyrighted work being used and sold via NFTs without their authorisation.
Ensure that appropriate research is done before engaging in NFT trading. How to check if the work behind the NFT does not infringe copyright? Unfortunately, there is no easy answer to this question. There is no searchable registry of copyrighted work, so you will not be able to quickly verify the ownership or authenticity of the 'Work' the NFT is backing.
If the NFT contains a digital picture of an art piece, it may be difficult to confirm if the copyright owner is the one that has created and selling the NFT. It is advisable to carry out due diligence checks to confirm the rightful ownership of the Work the NFT is backing before you proceed.
Copyright assignment/licensing
The general rule is that the rights and obligations relating to copyright ownership, use, reproduction, and royalties are laid out in a licensing or assignment contract (as the case may be) between copyright licensor/assignor and licensee/assignee.
If you are the rightful IP owner of a digital or physical Work and you wish to create a NFT you must carefully consider what are the rights and obligations which should be included in the smart contract when the NFT is created and consider what additional bundle of rights, you want to include before trading your NFT.
For example, what usage rights do you want to grant to the buyer? What reproduction rights, and by extent, what royalty fees do you want to receive (if any at all). Will you sell your NFT and transfer the copyright over the work that the NFT is backing, so you will no longer hold any IP rights over it?
On the other hand, if you wish to acquire an NFT, aside from considering the 'ownership and authenticity' of the NFT in the underlying Work, as described above, you should also consider what bundle of rights you are acquiring with the NFT.
Do not assume that if you buy an NFT from the original owner of the Work, that you are also buying all copyrights. It is advisable to carefully consider what rights you are acquiring with the NFT. Can you reproduce or sell the work? Are there any royalty fees which need to be paid back to the seller? Are there any other liabilities which need to be considered prior to purchasing the NFT?
NFTs and smart contract
As explained above, when creating or acquiring an NFT, the platform that the NFT is built on is using its own smart contract. A smart contract is a computer code that automates the performance of certain contract provisions, and the code is self-executing. As it stands today, not all contractual language that you would find in a typical copyright assignment or licensing contract is converted into a smart contract.
The smart contract performs certain key elements of the transaction, for example, it may be possible on a specific marketplace to set the rate for the royalty fee you wish to receive, provided that the resale is done on the same marketplace. However, the smart contracts that NFTs are built on today may not offer all the protection needed, particularly in relation to copyright protection. You should carefully consider what rights you maintain or what rights you grant when creating or trading the NFT.
There are several contractual provisions which have not been converted into a smart contract code. Some of these include, limitation of liability, default provisions, suspension /termination and many more. The list is non-exhaustive.
If the smart contract does not cover all aspects of copyright licensing you want to protect, then you need to consider what terms you want to include in natural language, to address any risks and liabilities, including those identified above.
For some NFT creators or investors these legal issues may not be important issues to address. For others, the legal clarity and protection may provide a higher financial benefit. An additional layer of legal protection will increase the value of their Work and the economic return of any future exploitation.
This is the Part I of NFTs, Copyright and Beyond article published by Aptus Legal and you can read Part II of this article by clicking here.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
