Taxation of Non-Fungible Tokens in Germany

NFTs, on the other hand, are characterized by the fact that they are digital goods that are not interchangeable at will (non-fungible). In the case of artwork NFTs, the tokens depict an artistic image of which there is only one in existence. While it is technically possible to replicate the digital asset an infinite number of times, a certificate of authenticity stored on the blockchain ensures the singularity of the NFT.

But how are NFTs treated from a tax perspective? Due to the novelty of the topic, binding tax law guidelines are still lacking. Nevertheless, the following initial considerations can be made:

According to the tax assessment, there are two different ways to produce NFTs (minting), each of which entails distinct tax consequences.

• In the case of the production of digital works of art, income from an artistic activity is obvious. The prerequisite here is that the taxpayer performs a creative activity that involves a certain level of design.
• In addition, however, a commercial classification as a type of income is also conceivable. Among other things, the tax office assumes a commercial activity in the case of self-distribution of art in online trade. However, such a classification entails several disadvantages for the taxpayer, one of which is that trade tax must also be paid.

The specific individual case must be considered to determine which of the two types of income is present. Since neither the courts have issued a ruling nor has the German Federal Ministry of Finance (BMF) released a clarifying letter on this, there is a great deal of legal uncertainty for manufacturers of NFTs in many cases. In order to eliminate this, it is advisable to have experienced experts in the field of crypto tax law assess the specific facts.

The same considerations apply to manufactured NFT characters in the context of NFT computer games. If there is creative activity and the figure embodies a certain level of design, income from an artistic activity may accrue when such NFT characters are sold.

The boundaries of commercial activity are, however, quickly exceeded here as well. Depending on the individual case, commercial income may exist. To be on the safe side, a tax audit from a lawyer is advisable.

While many private crypto investors do not make NFTs themselves, they do buy and sell NFTs and make profits. The question of taxation also arises for this group of persons.

The taxation of trading in NFTs has still yet to be clarified either by the tax authorities or by case law. In particular, it is unclear when trading in NFTs should be classified as commercial for the purposes of income tax law. The distinction as a commercial activity is of paramount relevance for the degree of tax liability:

he assessment of whether the sale of NFTs qualifies as commercial under these criteria is determined on a case-by-case basis.

If crypto investors are classified as commercial NFT traders by the tax authorities, this will have far-reaching tax consequences.

• On one hand, additional trade tax is then incurred. This is usually falls between 7 and approx. 15 percent.
• Secondly, any profit is taxed regardless of a holding period. Commercial NFT sellers thus have no opportunity to make tax-free profits. In return, they can offset losses more easily.

• In the opinion of the tax authorities, cryptocurrencies fall under the characteristic of "other economic good," which is why the sale constitutes a private disposal transaction pursuant to Section 23 (1) Clause 1 No. 2 of the German Income Tax Act (EStG).
• There is much to suggest that the tax authorities will also apply this view to the tax classification of NFTs, so that private crypto investors who do not act commercially will generally realize a private sale transaction when selling NFTs.
• This is because the tendency is that the tax authorities do not distinguish between the individual subtleties of the tokens (in this case: fungible or non-fungible) but adheres to the blanket classification as "other economic good" for any crypto token.

The consequence of the existence of a private sale transaction in the case of the private sale of NFTs is that profits are taxed on the basis of the personal income tax rate if the sale takes place within one year of the purchase.

However, after the one-year holding period, crypto investors have the opportunity to earn tax-free profits. Since taking advantage of the holding period is reserved for private NFT dealers only, HODLers, in particular, should be careful not to slip into commercial activity. Together with an experienced crypto expert, a strategy can be developed to provide the tax authority with as few indications as possible for a commercial classification.

As a rule, you do not have to worry about value added tax when trading fungible tokens such as Ether, Polygon, ETC or BTC, as, fundamentally, no tax must be paid.

Due to the uniqueness of NFTs, however, using them as a means of payment has so far not been an option. Therefore, there are good reasons for subjecting trade in NFTs to VAT.

More about NFTs and VAT

Commercial NFT traders should also be aware of the Money Laundering Act and the due diligence, risk management and other obligations contained therein. This is because such crypto traders could fall within the scope of the MLA as "traders in goods." Even the most frivolous violations of the provisions of the Money Laundering Act are subject to heavy fines.