Sangita Sharma, B.Sc. LL.B. (Hons.), Gujarat National Law University
As the Indian people begin to adapt to cryptocurrencies such as Bitcoin and Dogecoin in the contemporary digital world, there has been a considerable surge in the interest surrounding Non Fungible Tokens (NFT). This term started gaining popularity when artworks worth millions of dollars were sold through NFTs in early 2021. Cryptocurrencies such as Bitcoin etc, are the digital answer to currency while Non-fungible Tokens are the digital answer to collectables. What makes the NFTs unique is its property of being one of a kind that cannot be exchanged for one another, unlike cryptocurrencies.
The aim of this article is to analyze the current legality of NFTs in India, a country where even fungible tokens (cryptocurrencies) are not fully regulated.
Non Fungible Tokens (NFTs)
NFTs are digital tokens that represent ownership interests in underlying digital assets. They can be used for a variety of purposes, including virtual real estate, gaming power-ups, and as collateral for loans. Any real-world object such as art, music, photos, etc which is sold through NFT is accessible for free online. This inevitably leads to a situation where some people are spending millions for something other scan easily screenshot or download without having to pay a rupee. This seeming dichotomy in the valuation of such a product is explained by the fact that collectors own and value the “digital bragging rights” provided by an embedded authentication, which serves as a proof of ownership over the product itself.
Non Fungible Tokens (NFTs) and Cryptocurrency
Though cryptocurrencies and NFTs are both built on similar programming and can be sold directly to the prospective buyer by the issuer or by a previous buyer, the non-fungible characteristic of the token makes it different from physical money. Cryptocurrencies as fungible tokens are equivalent to each other in value. Hence, they can be traded or exchanged for one another just like ahundred-rupee note is always worth as much as another hundred-rupee note (or one Bitcoin is always equal to another Bitcoin). However, the unique digital signature of an NFT makes it impossible to be exchanged for another. Despite lacking the functionality of an actual currency, NFTs reduce the likelihood of fraud and become an ideal medium to digitally represent physical assets.
Classification of NFT under Existing Legislation
The Sale of Goods Act, 1930 defines goods under Section 2(7) as any kind of moveable property other than actionable claims and money which is agreed for sale. The definition of goods has been broadened by the judiciary to include even intangible materials. Thus, as NFTs are intangible properties that can be transferred from one individual to another, there exists sound basis for classifying them as goods.
The transactions involving NFTs operate on the basis of smart contracts. Under the Indian Contract Act, 1872 any agreement made by free consent for a lawful accepted consideration and with a lawful object is valid. Further, Section 10 A of the Information Technology Act, 2000 validated smart contracts. Thus, the NFTs transactions are valid currently in India.
As the NFTs represent ownership interest in an underlying work, their rights may also be regulated through the Copyright Act, 1957. The owner of the work shall be granted exclusive rights guaranteed under Section 14 of the act if the underlying work satisfies the definition of works under Section 13 of the Copyright Act.
The fact that NFTs are merely digital representations of underlying assets makes it impossible to determine an NFT’s status as a security, which then creates uncertainty and division between the legality and standing of each and every NFT transaction.
Thus, the transaction of NFTs can be regulated through the Indian Contract Act, 1872 and the rights available under this law are right in personam. If the transaction is governed by the Sale of Goods Act, 1930 and Copyright Act, 1957, then the buyers will have right in rem i.e. protection against the world will be available.
Legality in the Indian Domain
Currently, there is no stated or explicit prohibition in India, that prevents Indian residents from buying or selling NFTs. However, there might arise some ambiguities under the following regulations:
Foreign Exchange Management Act, 1999 (FEMA)
The FEMA governs cross-border economic activities in India. However, there are no clear guidelines issued by RBI on either crypto-assets or NFTs. For now, the NFTs can be based on existing legislation, and classified as intangible materials like intellectual property. However, as stated by Supreme Court in Internet and Mobile Association of India v. Reserve Bank of India, these crypto assets cannot be stored anywhere, so this raises the question regarding their location.
The location of intangible assets is the location of the owner of the asset as per Delhi High Court’s judgment in CUB PTY Ltd. (formerly known as Foster’s Australia Ltd) v. Union of India. However, this answer is not helpful in the present case as NFTs are sometimes associated with physical assets such as artwork. In such a scenario, the question as to whether it would be the owner’s location, or the location of the physical asset that would be the NFT’s location for governance under the Foreign Exchange Management Act, 1999, leads to an unavoidable ambiguity.
The existing regulatory status of NFTs might change with the introduction of the cryptocurrency bill which is in the draft state currently.
Banning of Cryptocurrency & Regulation of Official Digital Currency Bill of 2019
Although, at present there is no explicit ban on NFTs, however this upcoming bill cast doubt on its legality in the future. Section 2(a) of the bill defines cryptocurrency as:
“Any information or code or number or token not being part of any Official Digital Currency, generated through cryptographic means or otherwise, providing a digital representation of value which is exchanged with or without consideration, with the promise or representation of having an inherent value in any business activity which may involve risk of loss or an expectation of profits or income, or functions as a store of value or a unit of account and includes its use in any financial transaction or investment, but not limited to, investment schemes.”
An NFT is generated and exchanged through cryptographic means and also provides digital representation of value for which it can be exchanged. However, it lacks inherent value since it derives its value from the underlying asset. Furthermore, Section 3(3) of the Bill lays down a proviso to Section 2(a) creating an exception for the “use of distributive ledger technology for creating a network for delivery of any financial or other services or for creating value, without involving any use of cryptocurrency, in any form whatsoever, for making or receiving payment.” As an NFT does not involve cryptocurrency, it might be exempted under this definition. However, NFTs are typically traded using cryptocurrencies. Since the latter’s legality is closely attached to that of NFTs, an ambiguity still persists.
The current Indian law is not settled with regards to cryptocurrencies or NFTs. It is not possible to regulate NFTs without regulation of transactions pertaining to cryptocurrencies, therefore the draft bill should be placed and acted upon.
Further, even though the country prohibits or restricts crypto-asset transactions, NFTs should be exempted as they are non-fungible as opposed to both traditional and crypto currencies. Also, cryptocurrencies such as Bitcoin, and Ethereum, etc serves primarily as a means of exchange and tradable assets while NFTs are used to collect and store digital or physical assets. The legal ambiguity should serve as a caution to those who plan to invest in it and regulatory authorities must consider the associated benefits and costs when constructing a policy concerning NFTs.
Sangita Sharma, 3rd Year, B.Sc. LL.B. (Hons.), Gujarat National Law University.