Cryptocurrencies and NFTs are all the rage
Cyril Abrol of Remfry & Sagar discusses the regulatory benchmarks for cryptocurrencies and non-fungibles tokens and why India could become a hub of crypto innovation
Interest around cryptocurrencies
Digital transactions using online banking facilities and unified payment interfaces are commonplace today. As technological advancement in the financial space continues, the next big change set to take place is not in the manner of payments but in the instrument itself, with currency changing from physical to virtual mode.
Virtual currencies or cryptocurrencies - of which bitcoin and ethereum are leading examples - are continuing to gather momentum, despite volatility in value, concerns surrounding their carbon footprint, and ever-increasing regulatory challenges.
Cryptocurrency is a digital currency that is non-state administered, decentralised (peer to peer), and open source based. An open-source software provides a platform allowing creation of a private currency and a platform for users to make payments in that virtual currency.
The following statistic attests their rising popularity - bitcoin was priced at $1 in April 2011 and in April 2021 its price touched a high of $64,000. Further, when currency valuations across the world were crashing last year due to the COVID-19 pandemic, the value of cryptocurrencies showed a reverse trend - with values surging over 800%. And while initially trades in cryptocurrencies were primarily speculative, traditional financial institutions such as banks are beginning to offer services linked to cryptocurrency investments which are seeing tremendous demand from customers.
Indian investors are also showing an increasing appetite for cryptocurrencies (especially bitcoins) - reportedly, cryptocurrency holders in the country have holdings worth over $1.5 billion.
Non-fungible tokens - new kids on the block
Amid the talk of cryptocurrencies, you might recollect auction house Christie’s selling a collage of 5,000 digital images titled ‘Everydays—The First 5,000 Days’ as a NFT for $69 million in March this year. The sale elevated the work’s creator, Mike Winkelmann, aka Beeple, to the company of David Hockney and Jeff Koons, the only two living painters to sell at such prices. Shortly afterwards, Jack Dorsey sold his first tweet ever (of March 21 2006) which says, “just setting up my twttr”, as a non-fungible token (NFT) for over $2.9 million. Examples such as these make the hype surrounding NFTs hard to ignore.
But what is a NFT? Essentially, it is a digitally encrypted file - or ‘token’ - that records ownership of an item - this could be a piece of art or a video of an iconic moment in sport or a tweet. The tokens are ‘non-fungible’ - that is, the assets they pertain to are ‘unique’ and cannot be readily exchanged for a similar good at a similar price. For instance, an NFT for ‘Everydays’ by Beeple cannot be swapped with a NFT for any other image created by him, just as in the physical world, you cannot replace Van Gogh’s ‘The Starry Night’ with his ‘Sunflowers’. Further, while in theory, the scope for NFTs could be a digital or real world item, say, a one-of-a-kind sneaker in a limited-run fashion line, presently, one most commonly hears of NFTs in the digital content realm.
A NFT can only have one official owner at a time and when you buy an NFT it becomes your legal property. It is more secure than a typical digital transaction because the records are kept in blockchain, which offers a public record that is ‘unhackable’ and helps combat misappropriation. To trade an NFT, one needs to use cryptocurrency - Christies received its $69 million for ‘Everydays’ in Ether (Ethereum).
Creating, or technically speaking ‘minting’, an NFT, requires a digital wallet compatible with the marketplace you wish to create your NFT on, after which, you can upload a file you wish to ‘tokenise’. Such tokens are built using the same kind of programming as cryptocurrency and creation may involve payment of fees to the platform. Equally, when a buyer purchases a NFT, it too may incur a ‘transaction fee’.
India's largest cryptocurrency exchange, Wazir-X, recently launched the country’s first marketplace for NFTs - a marketplace run on a blockchain platform created by WazirX’s parent company Binance, among the world’s largest crypto exchanges. The platform features exclusive artwork from artists, photographers, and media professionals from India and other South Asian countries with WazirX reportedly charging creators a 5% service fee on the proceeds of each sale. Several other companies are reportedly waiting in the shadows to enter the NFT space but await more regulatory clarifications.
The interplay with IP
NFTs hold the potential of birthing a new generation of artists, musicians, writers and digital content creators. Just as e-commerce sites like Amazon have enabled manufacturers to sell their goods directly to customers and modified, even eliminated, the traditional roles of middlemen, using the medium of NFTs, artists can list and sell their work directly on marketplaces, without the need of agents - especially seeing how easy it can be for an individual to build a community of fans on social media platforms!
Consider this example. A writer creates NFTs on a suitable platform each linked to a digital copy of her book. Every buyer who purchases such an NFT collects his or her specific copy of that title and pays for it by a direct transfer of money to the author’s digital wallet. Also, NFTs can be bundled with smart contracts - digital contracts set in code which can be programmed to self-execute when predefined conditions are met.
If after purchasing an NFT, an owner decides to put it up for resale (think used bookstores, but online), a smart contract could ensure that the author keeps receiving a percentage of royalties on resales. The traditional book publishing industry also stands to benefit. In the case of a paper book, many parties earn a percent of each sale - with NFTs and smart contracts, contractual pay-outs can be embedded into a transaction translating to automatic and immediate pay-outs to all parties.
Significantly, in the above example, the assets in questions are books but the NFT buyers are only receiving title to one particular copy of a book. The underlying copyright in the book remains with the author/publisher. In fact, the sale of NFTs not only involves smart contracts but is usually also accompanied by text-based terms and conditions which limit the exact intellectual property (IP) rights being transferred. That said, if you’re planning to buy Beeple’s ‘Everydays’, it would be wise to ensure that the conditions of sale transfer full copyright in the image to you!
There are other ways in which NFTs could impact ownership of IP. In April this year, IPwe, the world's first (blockchain based) Global Patent Market announced plans of working with IBM to create the infrastructure for representing patents as NFTs and storing the records on a blockchain network.
The tokenisation of IP would enable patents to be more easily sold, traded, commercialised or otherwise monetised and bring new liquidity to this asset class for investors and innovators. This is expected to benefit not only large enterprises that have significant IP, but it will bring new opportunities to small and medium enterprises and even individual IP owners. These NFTs will be stored and shared on the IPwe Platform, hosted on IBM Cloud and powered by IBM Blockchain.
A broader ecosystem including financial institutions, insurers, enterprises and other patent stakeholders are planned in the coming months to support the use and exchange of tokenised patents using these new technologies. In the Indian IP ecosystem, where linkages between innovators, financiers and industry still have a lot of room for development, new technologies such as NFTs certainly promise new opportunities for collaborations.
So far so good. But there have also been reported instances of people creating NFTs for assets they do not legally own. For trademark owners, concerns may arise around the unlicensed use of their brand name in connection with an NFT. Were disputes connected with IP misuse, or disputes surrounding the terms of a smart contract, come before an Indian court of law, it would be uncharted territory for judges and practitioners alike. Illustratively, the transfer of IP assets via digital agreements might be difficult to enforce at the moment unless accompanied by a reciprocal agreement on paper. For example, copyright assignments under Indian law need to be executed in writing to be valid.
Evolution of the legal position In India
The uncertainty surrounding such assets is accentuated by the fact that cryptocurrencies and NFTs, though not considered illegal in India, are not subject to any regulation.
That said, cryptocurrencies offer alternative private currencies and monitoring associated risks, including concerns on price volatility as well as fraud, the Reserve Bank of India (RBI) has held a cautious position vis-à-vis such assets over the past decade.
In 2013, it issued a press release cautioning users of the potential financial, operational, legal and security related risks associated with cryptocurrency trades. The government declared that it did not consider cryptocurrencies ‘as a legal tender or coin’ and concerned about the use of crypto assets in financing illegitimate activities, stated it would take all measures to eliminate the said threat.
In November 2017, an inter-ministerial committee constituted by the government initially recommended regulation of cryptocurrencies and proposed the Crypto-token Regulation Bill of 2018. Subsequently, the committee adopted a stricter approach and proposed a different bill recommending that all cryptocurrencies, except those issued by the government, be banned in India. None fructified into law. Nonetheless, it prompted the RBI to release a circular in 2018 titled ‘Prohibiting dealing in virtual currencies’, which barred entities regulated by the RBI namely, nationalised banks/scheduled commercial banks/cooperative banks and NBFCs from dealing in virtual currencies or providing services to facilitate any person or entity in dealing with virtual currencies.
Interestingly, this RBI ban was lifted by the Supreme Court of India, by its March 4, 2020 judgment in Internet and Mobile Association v. RBI. The court predominantly examined the matter from the perspective of Article 19(1)(g) of the Indian Constitution (which gives freedom to practice any profession, or to carry on any occupation, trade or business) and the doctrine of proportionality. The RBI circular, the court said, had adversely impacted the business of cryptocurrency exchanges. At the same time, the RBI could not show substantial empirical data of actual harm suffered by it on account of the existence of cryptocurrencies. Stating that the mere contention on the part of the RBI that cryptocurrencies are used for money laundering or black money did not satisfy the test of proportionality, it declared the RBI’s circular unconstitutional.
This landmark judgment favouring cryptocurrencies, fuelled a crypto wave which, in turn, has led the government to propose the Cryptocurrency and Regulation of Official Digital Currency Bill, 2021. This legislation has the stated aim of facilitating the creation of an official digital currency to be issued by the RBI. It also talks of prohibiting all private cryptocurrencies in India, though it will allow for certain exceptions to promote the underlying technology of cryptocurrency and its uses.
In a related development, in March 2021, the Corporate Affairs Ministry released a notification mandating companies to make certain disclosures with respect to the number of cryptocurrency assets held as well as the profit or loss incurred on cryptocurrency transactions in a financial year. Many view this optimistically as a nod towards a more formal recognition of cryptocurrency assets in the country.
There are no established regulatory benchmarks for cryptocurrencies and NFTs. Some countries such as Japan, Australia, Russia and Switzerland have devised rules to regulate cryptocurrencies while others including China, Thailand, Indonesia, Saudi Arabia and Taiwan have banned them outright.
Europe advocates a careful approach - a recent joint statement from securities, banking, insurance and pension regulators cautioned the public on the high risks associated with virtual currencies and their unsuitability as investment, savings or retirement planning products.
Given India’s strength in computing technologies and the fact that the crypto industry is at the forefront of technological innovation, the country could benefit significantly by becoming a hub of crypto innovation. An ideal regulatory environment would be one which would accelerate innovation while mitigating threats posed by cryptocurrency through the development of suitable compliance standards.
Regardless of risks and regulation, the interest in cryptocurrencies and associated assets such as NFTs refuses to abate. NFTs have become one of the hottest crypto trends of 2021, with overall sales up 55% already since 2020, from $250 million to $389 million in March 2021. But conquering new frontiers has always captured the human imagination and IP innovators know this better than most.
So it might be a good idea to jump onto the bandwagon, or at least have high awareness of it, rather than remain an ordinary spectator. However, as a lawyer, I do find myself ending with a note of caution - as I read in an article on the subject by the Economist, “picking NFTs looks akin to sorting real Rembrandts from those daubed by mere followers”.
Remfry & Sagar
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Cyril Abrol is a partner at Remfry & Sagar. He leads the foreign investment and corporate law practice of the Firm and has expertise across industries including engineering, healthcare, pharmaceutical, apparel, manufacturing, software, automobile, mining and trading.
Cyril advises clients on doing business in India providing tailor-made solutions to suit investor’s long-term India centric interests. His practice focuses on cross border transactions, licensing, joint ventures, takeovers, corporate restructuring, data protection, corporate law, commercial law, mediation and arbitration, competition law and advertising laws.
Cyril holds a bachelor’s degree in commerce.