Written by Richard Wee and Carmelia Yong

In our previous article on cryptocurrency, we touched on a few Malaysian legal issues related to cryptocurrency in general. Cryptocurrencies are digital assets that work on the foundation of stored digital information on blockchains. There is another type of digital asset that works the same way: Non-Fungible Tokens (“NFTs”).

Simply put, non-fungible means that every token is unique and cannot be considered the same in value with another non-fungible token, unlike fungible tokens like Bitcoin and Ether which have the same value for every unit. To illustrate, this means that every Bitcoin has the same value to one of every other Bitcoin.

For better understanding, NFTs can be viewed as collectibles or memorabilia, where the value is subjective. An autograph by Lionel Messi may not mean much to someone who isn’t a fan of football, but it could be worth tens of thousands to an Argentinian football fanatic. This is why NFTs are not cryptocurrencies, because ‘currency’ is defined as “something that is in circulation as a medium of exchange” or “a common article for bartering” (Merriam-Webster). It would not be practical to use something as a medium of exchange when its value varies from person to person.

In this article, we look at some basic legal issues regarding NFT usage in Malaysia.  

As explained in our previous article, legal tender basically means a legally recognized payment method.

Therefore, as our reader may have immediately guessed, NFTs cannot logically work as a legal tender. It would be akin to using collectibles like Pokemon cards or artwork as money. There is no objective, universally agreed upon value in NFTs.

However, there are no laws in Malaysia stopping us from exchanging NFTs or using them in barter trades. An individual or a company may accept an NFT as payment in exchange for the goods or services they are offering, provided that, firstly, they have the authority to decide on the payment terms, and secondly, that the regulation or the law do not specify a quantum in Ringgit Malaysia. For example, if you have to pay a fine of MYR 500, it would arguably have to be in MYR.

One of the biggest advantages that NFTs offer is the authentication of digital art, which has always been more susceptible to art theft than tangible artwork (such as a piece of canvas painting or a marble sculpture). Digital art can be redistributed online with just a few clicks of a button, making it difficult to have any meaningful ownership of digital art. Minting an NFT (i.e. creating a token on blockchain) offers a solution to this problem as an NFT cannot be duplicated or pirated, in the sense that the content of the artwork can be copied but only the rightful owner would be able to prove provenance.

Given how the lifestyles of Malaysians are becoming increasingly digitized, the potential for NFTs is immense. There are already Malaysian artists selling their artwork as NFTs for thousands of USDs, such as Red Hong Yi and Ronald Ong. However, before one goes delving into the NFT scene, one should first be aware of relevant legal issues. Here, we briefly touch on two:

Intellectual Property rights

The primary legal issue with regards to NFT concerns Intellectual Property (IP) rights to the property. A purchaser of an NFT of a piece of art may not necessarily be the owner of the IP rights to that art. This means that the only thing they own is that particular NFT, and not the right to reproduce or distribute the art itself.

Loss of investment

In addition, when the value of an NFT lies in its uniqueness, a purchaser of an NFT would expect it to be a one-of-a-kind collectible. If the creator/seller of the NFT then creates and sells hundreds of NFTs containing the same digital content, the worth of the first NFT may be vastly diluted, if not extinguished. In this scenario, contractual terms surrounding the purchases of NFTs are crucial to ensure that expectations from both parties are met. This can be done through the implementation of smart contracts, which go in tandem with NFTs (the topic of which requires a discussion for a separate article).

Another reason why NFTs are becoming increasingly relevant in Malaysia is gaming. The marriage of NFTs and gaming has resulted in the creation of blockchain games, where players earn cryptocurrency by playing… well, games.

One of the most famous blockchain games in Malaysia now is Axie Infinity, which is by no means a new kid on the block (pun intended). Released in 2018, the game has grown by leaps and bounds over the past few years. Players earn a living by cultivating in-game creatures called Axies. Every Axie has a set of skills, which can be used to battle monsters or other Axies.

How are NFTs involved? Every Axie is an NFT and can be bought, sold or traded on online marketplaces. At the time of writing, an Axie may be priced at a minimum of MYR 1000 and at an estimated average of MYR 1700. 

It is possible. Similar to cryptocurrency, transactions involving NFTs may be taxed in Malaysia under Section 3 of the Income Tax Act 1967, which reads:

Charge of income tax

3. Subject to and in accordance with this Act, a tax to be known as income tax shall be charged for each year of assessment upon the income of any person accruing in or derived from Malaysia or received in Malaysia from outside Malaysia.

The provisions of the Act are wide enough to catch income earned from digital platforms although there is currently no framework for taxes with regards to NFTs.

The important thing to keep in mind is that, the more frequently you engage in profitable transactions involving NFTs, the likelier it is that the Inland Revenue Board of Malaysia (LHDN) would consider it taxable revenue. This would be similar to the LHDN’s current tax treatment on cryptocurrency trading.

Arguably, there is no regulatory body for NFTs.

The Capital Markets and Services (Prescription of Securities) (Digital Currency and Digital Token) Order 2019 (P.U.(A) 12/2019) (“The 2019 Order”) provides the following:

Interpretation


2. In this Order—

“digital token” means a digital representation which is recorded on a distributed digital ledger whether cryptographically-secured or otherwise.

 

Digital currency and digital token are prescribed to be securities

3. …

(2) A digital token which represents a right or interest of a person in any arrangement made for the purpose of, or having the effect of, providing facilities for the person, where—

(a) the person receives the digital token in exchange for a consideration;

(b) the consideration or contribution from the person, and the income or returns, are pooled;

(c) the income or returns of the arrangement are generated from the acquisition, holding, management or disposal of any property or assets or business activities;

(d) the person expects a return in any form from the trading, conversion or redemption of the digital token or the appreciation in the value of the digital token;

(e) the person does not have day-to-day control over the management of the property, assets or business of the arrangement; and 

(f) the digital token is not issued or guaranteed by any government body or central banks as may be specified by the Commission, 

is prescribed as securities for the purposes of the securities laws.

NFTs are digital tokens. However, to be prescribed as securities, a digital token would have to fulfil all the requirements as laid out in the 2019 Order shown above. Although NFTs are now generally used to represent ownership of digital assets sold in one-off transactions, it can also be used to represent interests in investments for projects and developments to be funded by the proceeds of NFT issuance, which could then be a form of security. In the latter case, transactions involving NFTs could technically be classified as stock markets under the Capital Markets and Services Act 2007 (CMSA).

NFTs are so new (relatively speaking) that regulators have not formulated specific rules and regulations for this area yet, unlike for fintech and cryptocurrencies. Does NFT need to be regulated? We would suggest that it should be, simply because it carries the character of a digital asset. Perhaps the Securities Commission Malaysia (“SC”) may regulate NFTs if the NFTs are used as securities. However, you should not need to look to the SC if you are merely selling an NFT of a digital painting of a poptart cat. 

This article definitely does not stake out any conclusive positions. In all likelihood, the issues would need to be revisited in time to come.

Published on 23 August 2021

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