It started as a Blockchain platform for collecting and breeding cats, but now it is the new internet and financial sensation. I am talking about Non-fungible tokens, usually referred to by the acronym NFTs.
It has completely changed the ways people buy, sell, and store original creations and has provided many with an opportunity to grow their wealth. Recently a young boy made the news for making a killing by selling NFTs of iPhone pictures.
One question that comes up during NFT transactions is if there are tax obligations tied to these transactions? Most people do not understand how taxation affects non-fungible tokens, which keeps them from fully embracing the concept.
This piece will look at NFTs and how they are taxed, but first, let us look at what NFTs are.
What Are NFTs?
They make news headlines a lot these days, from the trendy bored ape collection to those who make a killing from selling selfies. NFTs are the topic of many online discussions. But what are they exactly? An NFT is a digital certificate that gives the holder exclusive ownership rights, and it is built on a blockchain, usually the Ethereum blockchain.
Unlike fungible tokes, each NFT has unique values and cannot be replaced or swapped with another. This feature gives NFTs all the thrill associated with it, as owning one means that you have a unique digital asset.
The emergence of NFTs has allowed content creators to convert their digital creations into NFTs, ensuring the authenticity and recording of their ownership of these assets in the digital space. It is also speculated as a massive means of wealth creation, and many people are already following this trend.
But let’s sift through all the noise and excitement and ask a question that most people seem to be forgetting: what about tax? No matter what you intend to do in the NFT space, it would be best to consider how taxes and taxation work for NFTs, so you do not get shocked by the amount you have to pay at the end of the year.
Are Non-Fungible Tokens Taxed?
Most people get confused when faced with this question because, unlike fungible cryptocurrencies, the IRS has no official policy governing taxation and non-fungible tokens. Most people consider NFTs as collectibles because they are works of art, and any piece of art is regarded as a collectible by the IRS. This means that creating and owning NFTs does not constitute a taxable event.
However, there are scenarios where you have to pay taxes on NFTs. Good examples are when you buy them or sell them using cryptocurrency or exchange an NFT for another NFT. As you can see, while creating or owning an NFT does not generate tax, you might be generating tax for making NFT transactions.
How Are NFTs Taxed?
We have already mentioned that creating or owning an NFT is not a taxable event. However, if, in the process of creating, selling, or buying them, you make crypto transactions, then you are liable to pay tax according to laid down stipulations by the Internal Revenue Service (IRS).
When dealing with NFTs, you can be an investor (someone who buys and sells NFTs to make a profit), or you could be a creator (someone who makes and mints NFTs either as a hobby or professionally to make a profit). Both situations are taxable, although the types of taxes they pay are different.
Tax Consideration For NFT Creators
You are not to pay tax when you create an NFT. However, specific scenarios make NFT creators eligible to pay tax.
An NFT creator is to pay tax on the profit gotten from selling their NFTs. These are called ordinary income taxes. Under the IRS, the profit generated by the sale of an NFT is considered ordinary income, and it is treated as such. So they will be taxed at the same rate as other income. The tax rate varies from 10 percent to 37 percent.
Your profit is also eligible for the self-employment tax, which means that you will have to pay a tax rate of 15.3 percent, which serves for social security and Medicare.
Tax Consideration For NFT Investors
If you are an NFT investor, you buy and sell NFT to make a profit. Unlike the NFT creators, you are more likely to get into a taxable situation, for which you have to pay the capital gains tax.
Buying An NFT With Cryptocurrency
Buying an NFT with a cryptocurrency is one such taxable situation. When you buy an NFT with a cryptocurrency, like Ethereum, you have disposed of the cryptocurrency, and hence you will incur a capital gain or loss. If you made a capital gain, you have to pay a capital gains tax. The rate for capital gain tax changes depending on how long the cryptocurrency was in your possession before you used it to buy the NFT.
However, if you made a loss while buying the NFT, you have incurred a capital loss, which means you could reduce your tax liability.
Selling an NFT for Cryptocurrency
You can also incur a capital gain or loss when you sell an NFT for cryptocurrency. If you sell it for more than the amount you acquired, you would have gained a capital gain, and the implications surrounding the capital gain tax as mentioned above will affect you too. The same goes for selling it for less than what you got it for.
Swapping One NFT For Another
This also counts as a taxable situation. So if you make a swap that gives you a profit, you are liable to pay capital gain tax. But if you made a loss, you are eligible for the capital loss deduction in your tax liabilities.
What Tools Can Help Me With NFT Taxes?
We have pointed out how important it is to know how taxes and NFTs work. Depending on how many transactions you carry out, keeping track of your NFT generated tax might become overwhelming. Here are a few tools that can help you do that.
Koinly is a fantastic tool for calculating NFT tax. It is a calculator that simplifies all your crypto-related taxes. All you have to do is import your NFT transactions, and Koinly will calculate the income generated from your transactions and add it to your tax report. They also have a help guide to guide you through any issues you might have.
Zenledger is another tool for calculating NFT taxes. It is perfect for those who trade or invest in NFTs, as it also finds opportunities for them to save money and trade better.
CryptoTrader.Tax offers you direct integration with the Ethereum blockchain. The implication is that if you carry out NFT transactions with OpenSea, you do not have to worry about manually tracking your NFT proceeds or generating tax reports. This platform will create your tax reports for you with a few clicks.
Cointracking is a powerhouse for crypto-related tax issues. They offer both Blockchain and manual import options. You can automatically track your NFT transactions through your smart chains address with the Blockchain import option. With the manual import options, you can manually input details of your transactions, and at the end, CoinTracking will calculate the proceeds and the tax you are liable to pay.
CaptainAltcoin's writers and guest post authors may or may not have a vested interest in any of the mentioned projects and businesses. None of the content on CaptainAltcoin is investment advice nor is it a replacement for advice from a certified financial planner. The views expressed in this article are those of the author and do not necessarily reflect the official policy or position of CaptainAltcoin.com