In an earlier article I answered the questions whether and how NFTs are regulated. This article continues by taking a closer look on the EU's MiCA and its impact on NFT regulation.
I. MiCA Overview
Regulation (EU) 2023/1114on Markets in Crypto-Assets (MiCA) entered into force on 29 June 2023.
After a transitional phase, MiCA will directly apply in all EU member states from 30 December 2024. As an exception, the parts of MiCA covering crypto-assets that fall within the definition of asset-referenced tokens or e-money tokens, including so-called stablecoins, will already apply from 30 June 2024.
Art. 3 (1) No. 5 MiCA defines ‘crypto-asset’ as a digital representation of a value or of a right that is able to be transferred and stored electronically using distributed ledger technology or similar technology.
This is a broad definition that likely covers various NFT types. In addition, Art. 3 (1) No. 9 MiCA defines ‘utility token’ as a type of crypto-asset that is only intended to provide access to a good or a service supplied by its issuer. This also covers some types of NFTs.
However, Art. 2 (3) provides that MiCA does not apply to crypto-assets that are unique and not fungible with other crypto-assets.
In principle, this means that NFTs are not regulated under MiCA if they are considered “unique and not fungible with other crypto-assets”. MiCA does not define this any further which leads to some uncertainty on which NFTs are not in scope and which are in scope of MiCA.
II. NFTs that are not in scope
Non-transferrable NFTs are not covered by MiCA, because the definition of crypto-assets requires the ability “to be transferred”. This is also repeated in recital 17 mentioning (non-transferrable) loyalty points as an example.
MiCA recitals 10 and 11 include additional details on which differentiation the legislator had in mind when referring to “unique and not fungible” characteristics to exclude those tokens from the scope of MiCA. The recitals mention that the following NFTs are not intended to be covered by MiCA:
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The legislator’s arguments to exclude such tokens refer to their value which is attributable to each crypto-asset’s unique characteristics and the utility it gives to the holder of the token. In addition, recital 10 mentions that while these tokens might be traded on the marketplace and be accumulated speculatively, they are not readily interchangeable and the relative value of one such crypto-asset in relation to another, each being unique, cannot be ascertained by means of comparison to an existing market or equivalent asset. Recital 10 argues that such features limit the extent to which those crypto-assets can have a financial use, thus limiting risks to holders and the financial system and justifying their exclusion from MiCA’s scope.
III. NFTs that are in scope
Recital 11 continues that fractional NFTs should not be excluded. Instead, the legislator considers the issuance of crypto-assets as non-fungible tokens in a large series or collection as an indicator of their fungibility. The mere attribution of a unique identifier to a crypto-asset should not, in and of itself, be sufficient to classify it as unique and non-fungible. The assets or rights represented should also be unique and non-fungible in order for the crypto-asset to be considered unique and non-fungible.
So, the legislator’s intention is that MiCA should also apply to crypto-assets that appear to be unique and non-fungible, but whose de facto features or whose features that are linked to their de facto uses, would make them either fungible or not unique. In that regard, when assessing and classifying crypto-assets, the legislator looks for a substance over form approach whereby the features of the crypto-asset in question determine the classification and not its designation by the issuer. In other words, just labelling something as an “NFT” does not make it an unregulated token.
IV. Grey areas
The definitions and recitals lead to some grey areas. Especially the reference to “large series or collections” as an indicator of fungibility can be misunderstood. Some of the better-know NFT collections are series of 10.000 images. If those were considered a “large series” and thus covered by the regulation, MiCA’s regulatory objective to exclude NFTs in principle could be undermined by this interpretation based on the recitals.
It should also be taken into account that "large series" is not defined in MiCA or its recitals. The recitals are also not part of the legal text and are not binding according to case law of the European Court of Justice.
Another issue that MiCA does not solve is the classification of NFTs in other laws as discussed in this article because MiCA does also not apply to crypto-assets that are financial instruments or other regulated tools, Art. 2 (2) No. 4. MiCA. This leads to more regulatory challenges as NFT issuers need to comply with the existing regulations as well as with MiCA.
V. Next steps
For now, it is up to the regulatory authorities to apply the law. To help with the differentiation between regulated and not-regulated tokens, the European Securities and Markets Authority (ESMA) will publish guidelines. A first draft paper is up for comments by 29 April 2024. Part 5.5 deals with NFTs and mentions that technical features should not be of primary importance when assessing the fungibility, and that the assessment is on a case-by-case basis.
Based on MiCA’s Art. 142, the EU Commission shall present a report on the latest developments with respect to crypto-assets by 30 December 2024. This report shall contain an assessment of the development of markets in unique and non-fungible crypto-assets and of the appropriate regulatory treatment of such crypto-assets, including an assessment of the necessity and feasibility of regulating offerors of unique and non-fungible crypto-assets as well as providers of services related to such crypto-assets. So, NFTs could get their own regulation comparable to MiCA later.
