NFTs were the darlings of the investment community when they reached public consciousness in 2019. Investors and creators stoked a multibillion dollar industry, and their well publicized returns prompted brands across all industries to launch NFT projects.1
But now that the hype surrounding NFTs has diminished, many potential buyers have begun to realize that the NFT ecosystem is a bit like the Wild West. There is plenty of fraud, no federal regulation; and many eager buyers have no idea of the extent of the rights and restrictions associated with the the substantial investment they have made in their NFTs. None of this is surprising. New industries that promise outsized returns, introduce hard to understand terms (do you know what the minting process is?) and raise novel copyright and trademark issues attract the hopefuls and the scammers.
This post will hopefully guide you through this opaque landscape. This post will define key terms, discuss recent litigations, offer some trademark registration guidance, raise a few enforcement issues and offer some suggested reforms.
With more litigation and some hoped for regulation to come, there will be updates.
Elements of an NFT
1. What’s an NFT?
Let’s start with the basics. An NFT is a non-fungible token coded with a unique digital string of letters and numbers that cannot be reproduced. The token records ownership of the NFT. Think of an NFT as a digital identifier. Further, the token (sometimes referred to as a “hash”) either contains metadata linking it to its associated digital or physical asset or the digital asset may be encoded directly into the digital token. But for purposes of this memo, I will refer to the NFT as only the unique identifier or token.
The NFT is non-fungible because, unlike interchangeable tokens such as Bitcoin that can be exchanged on a one-to-one basis, the desirability and attraction of an NFT is based on its unique properties and requisite scarcity.
2. How is an NFT created?
Through what is referred to as “minting.” Let’s unpack this somewhat mysterious process. Minting includes the following: selection of a blockchain platform (most likely Ethereum); creation of a cryptocurrency wallet compatible with the chosen blockchain; opening of the crypto account and use of the native coin required by the chosen blockchain to buy the NFT. (Ether is the cryptocurrency currency of the Ethereum blockchain.) Once the platform receives payment, uploading the digital file (an image, a video, etc.) to the platform, which generates, records and stores the token at a unique digital web address.
3. What’s a blockchain?
It is an open, consensually shared across a peer-to-peer network, chain of data blocks that electronically records the chain of ownership of an NFT and (hopefully) validates authenticity. Once a transaction is entered on a blockchain, that transaction is immutable (cannot be altered or changed). Because the token (the digital string of letters and numbers) is simply an entry on this public database, anyone can verify who owns the token and see when it changed hands. Here’s an entry on a blockchain displaying an NFT token and accompanying data:
After the current block reaches its data limit new blocks are added to the chain. That’s how the blockchain gets its name. Each block contains a coded electronic signature (used for data security) that connects to the previous block making them all easily searchable.
4. What type of asset may an NFT link to or encode?
You can link any type, including art, concert tickets, sportswear, skills of a character in a game, videos, contract rights or physical goods. The token may point to or reference an “off-chain asset” (meaning off the blockchain), such as a digital media file on a website. That file, when accessed, could display an image, such as a handbag or one worn in a virtual world. The token may also reference a physical location (such as a safe deposit box) that stores the asset. Nike, for example, is experimenting with crypto tokens that are linked to the ownership of physical shoes. See here.
Alternatively, the digital asset may be encoded directly onto the digital token on the blockchain. That asset existing entirely on a blockchain is referred to as “on-chain hosting.” Data stored on chain cannot be changed and therefore has a higher level of trust. Most blockchains charge a fee, known as a “gas fee,” for storing files on chain.
5. Who can mint and exploit an NFT?
Here’s a non-exhaustive list of potential minters.
a. The copyright or trademark creator and owner of the linked asset.
b. A licensee authorized by the copyright or trademark owner to tokenize the copyrighted or trademark protected asset.
c. The owner of a physical, non-copyrightable asset linked to the NFT.
d. The creator of an NFT from public domain elements.
e. A fair use reliant where the creator neither owns the copyright nor trademark in the linked asset.
Legal Issues re NFTs
6. What rights do you acquire when you buy an NFT?
You become the sole owner of the token, can exclude others from claiming ownership of it and in most cases you have the nonexclusive license to use and display the linked or encoded asset. But unless your NFT sales agreement provides otherwise, you don’t own the associated or linked asset. You simply own the metadata associated with the asset. Thus although the NFT token is transferred from the wallet of the issuer to the purchaser, the underlying asset remains stored with the owner at an off or on-chain location.
Therefore, your right to monetize the NFT depends on the terms pursuant to which you bought it. Most terms permit you to gift or sell the NFT using cryptocurrency on various marketplaces like OpenSea pursuant to what are called “smart contracts.”
7. What’s a smart contract?
A smart contract embeds coded computerized instructions in the NFT. Those instructions contain the predetermined terms of the agreement. The contract automatically executes the terms once they are met. The transaction is trackable and irreversible. The owner’s smart contract can also provide the owner receives a percentage of royalties from any resale of the NFT made by the buyer, though enforcement of those royalties may be problematic depending on implementation by the NFT platform hosting the sale. An NFT and a smart contract are distinct; each may be owned by different persons or entities.
8. When you buy an NFT do you also acquire the copyright in that work?
No, to the surprise and dismay of those who assume the large sums they pay for an NFT buys them more than metadata. Absent a transfer by the copyright owner of some or all of the exclusive rights of copyright, the buyer does not have a copyright interest in any of the elements that make up the NFT: the token, the associated asset or those elements in combination.
The token, representing a digital string of letters and numbers, is most likely not copyrightable because it lacks sufficient creativity and was created algorithmically. For an argument that the token itself may be copyrightable see my earlier blog post here. The associated digital asset (if creative) is copyrightable; but under U.S. law (and the law in many other jurisdictions such as the UK) the NFT owner will only acquire a copyright interest in the asset by a writing signed by the copyright owner. Because a smart contract lacks the signature of the copyright owner, it cannot be used to transfer copyright ownership.
One district court case, Notorious B.I.G. LLC v. Yes Snowboards, 2022 U.S. Dist. LEXIS 99870 (C.D. Cal. June 3, 2022), *13 n. 3 (C.D. Cal. 2022), noting the absence of any authority, “assumed” that NFTs fell “within the subject matter of the Copyright Act” because an “NFT is a ‘digital representation’ of the underlying asset, i.e., the photographs at issue.”
No later case has followed, much less cited this dicta in Notorious, and for good reason. Even though the token accesses and represents the underlying asset, Notorious overlooked that the copyright to the underlying asset remains with its owner absent a copyright transfer to the buyer of the NFT. As a result, the buyer cannot commercially exploit the linked asset or stop others from doing so. The buyer is even powerless to direct the copyright holder, who for example sold the buyer an NFT linked to a photo, to take down the photo from the copyright holder’s web site.
9. Why doesn’t ownership of the NFT linked or encoded asset also give you the copyright is that asset?
That’s because of the unique nature of a copyrightable asset. It’s a limited set of intangible, exclusive rights that are not tied to any specific physical or material object.
Here’s an example that may explain. Let’s assume that Joe tokenizes or makes a NFT of a rare book and sells the NFT to Sally. She now has whatever rights to the material object, the printed pages of the book, that are contained in the purchase agreement. But without a grant of copyright or a license of one of copyright’s exclusive rights (the right to distribute the work or to make derivative works, etc.) Sally has no copyright interest in the words or the visuals of the book. As a result, Sally’s rights, pursuant to the terms of most NFT purchase contracts, are limited to selling, gifting or lending the NFT and its associated linked asset or displaying the digital asset offline. If she does anything more with the NFT, Sally may infringe.
10. Does trademark law protect NFTs and the assets linked to them?
Yes, although there is yet no appellate authority, two recent district (or trial) court cases have reached this result. In the first, Hermès International Int’l v. Rothschild, 2023 U.S. Dist Lexis 17669 (S.D.N.Y. Feb. 2, 2023), plaintiff sued digital artist Mason Rothschild for creating and selling “MetaBirkins,” a collection of NFTs tied to digital art depicting bags covered in cartoonish or faux fur “inspired by” the iconic Hermès Birkin bag. A photo of an actual Birkin bag is below on the left; and a MetaBirkin image associated with an NFT is on the right:
Hermès argued defendant made unauthorized trademark use of the Birkin mark on those images. Rothschild responded that the images were works of art protected by what’s referred to as the Rogers v. Grimaldi test balancing trademark and free speech rights. Rogers permits the unauthorized use of another’s trademark so long as the use furthers plausibly expressive purposes and does not mislead consumers about the origin or sponsorship of a product.
Rothschild argued its MetaBirkins sought to comment on the world’s obsession with luxury goods by depicting images of the outrageously expensive bags in a fanciful manner. A jury rejected this defense finding that the digital art linked to the NFTs were not expressive enough to avoid trademark liability. Hermès was awarded $133,000 in damages. The court more recently granted Hermès a permanent injunction preventing Rothschild from making more infringing NFTs and linked images and denied Rothschild’s motion for a new trial.
Similarly, a district court in California in Yuga Labs, Inc. v. Ripps, 2023 U.S. Dist. LEXIS 71336 (C.D. Cal. Apr. 21, 2023), relying on the decision in Hermès, found that virtual NFTs are nevertheless “goods” for purposes of the Lanham Act, the federal trademark law. Id. at *15. In that case Yuga created the Bored Ape Yacht Club, a series of 10,000 images of apes and claimed ownership of several unregistered trademarks it used in connection with BAYC, including “BORED APE YACHT CLUB.” The Bored Ape NFTs skyrocketed in value during the 2021 crypto boom, generating more than $2 billion in sales. Here are some examples of plaintiff’s NFTs:
Defendants created nearly identical NFTs that pointed to Yuga Labs’ underlying BAYC Images and marks. Below on the left is plaintiff’s NFT; defendants’ identical NFT is on the right:
Yuga Labs, in applying trademark law to NFTs and their linked images, stated they share many attributes with tangible goods:
New digital goods like NFTs that are built with ledgers have essentially imported the external labeling function for source indication into the file of the digital asset itself, although in an intangible form. Further, intangibility does not exclude NFTs from having other characteristics of ‘goods,’ including being individually transferrable between owners, storable for indefinite periods of time, exclusively owned by a single owner, and distinguishable based on their source.
Id. at *16-17.
In granting summary judgment to plaintiff, the court found the Rogers test did not apply to defendants’ look-alike NFTs because they were not artistically expressive works. The court stated those NFT “do not express any idea or point of view but merely point to the same online digital images associated with plaintiff’s NFT collection.” Id. at *39. A trial on damages has now begun.
Hermès and Yuga Labs are the first cases applying IP rights to NFTs. They signal that unauthorized use of another’s trademark used in association with an NFT may trigger trademark liability, especially where the NFTs create confusion as to source or origin and lack artistic relevance.
Trademark Registration and Enforcement Issues
11. What are some best practices for NFT trademark applications in the U.S.?
Below are some suggestions drawn from INTA’s recent “White Paper” on NFTs, which is here: https://bit.ly/43qwYho. NFTs are digital goods that fit within Class 9 as “downloadable files.” The White Paper recommends wording in the application stating the files are “authenticated” by NFTs, spelling out the type of item which is “authenticated.”
Here are two acceptable forms of wording from the USPTO ID Manual: “downloadable music files authenticated by non-fungible tokens (NFTs);” and “downloadable video recordings featuring (specify subject matter, e.g., sports highlights, movie clips, memes, etc.) authenticated by non-fungible tokens (NFTs).”
Also, NFT platforms use Class 35 to cover elements such as online marketplaces and websites for buying, selling, and trading NFTs. An acceptable form of wording for this class (again from the ID Manual) is “provision of an online marketplace for buyers and sellers of downloadable digital art images authenticated by non-fungible tokens (NFTs).”
In addition, to demonstrate use of the mark after you have filed the registration application, the INTA report recommends the mark appear on every NFT and on the landing pages from which the tokens can be downloaded.
12. Regulatory and rights issues; reforms needed
As mentioned above, the siren song (now somewhat diminished) that NFTs provide instant wealth have enticed dreamers and scammers. Here are a few regulatory issues that need fixing and some suggested reforms.
A. Who Are the Creators and Do They Have Rights to Mint the Linked Asset?
Creators are not obligated to disclose if they have rights to the linked assets, whether through ownership of the copyright or trademark or by license.
Sometimes, NFT creators have no rights to tokenize an asset. Miramax so alleged when it sued to stop Quentin Tarantino from attempted to sell scenes from the movie Pulp Fiction as NFTs. Although Miramax owned all rights in the movie, Tarantino argued that he had the right to market the NFTs because he retained all rights to that screenplay and the tokens were linked to the screenplay, not the movie. The case was settled confidentially.
Although Tarantino’s identity was clear, creators also do not have to reveal their identities within the NFT’s metadata or in any other sales documentation. In addition, NFT marketplaces do not routinely screen NFTs to ensure they are created with the permission of the copyright or trademark owner. Therefore, despite what the Trademark ID Manual indicates, the minting process often does not “authenticate” an NFT.
As a result, NFT buyers, even if they attempt to perform due diligence, lack the information needed to avoid buying an infringing product. And if the buyer is later faced with a suit by the copyright or trademark owner, some buyers cannot determine from whom they can seek reimbursement.
The various government agencies with oversight of this marketplace (the SEC, CFTC, etc.) should encourage the NFT creators to warrant they have the right to to mint their NFTs. Creators should further be compelled provide a means by which they may be contacted or their identities disclosed should that be necessary.
2. What rights do I have?
Even when buyers acquire non-infringing NFTs, they often don’t know what rights they have re their investment. Do they own the linked asset? Where and how can they display it. Can they monetize their NFT?
Anonymity attracts many buyers and sellers to the NFT ecosystem. But all participant in the NFT space would benefit from greater transparency. Again the relevant government agencies should encourage or possibly mandate the minting platforms and marketplaces in their sales agreements to clearly define NFT buyers’ rights and obligations.
3. Implementation of a DMCA-type (Digital Millennium Copyright Act) takedown procedure for NFTs.
The DMCA authorizes a copyright holder to give “notification of a claimed infringement” by what’s called a DMCA takedown notice. Applying this takedown procedure to the NFT marketplace would aid rights holders . But the unique characteristics of NFTs make application problematic for several reasons.
First, once an NFT is associated with a wallet controlled by the NFT owner, the marketplace may lack the ability to access that NFT or, in many cases, be able to contact the owner.
Second, the asset linked to NFTs often are stored on decentralized storage systems not under the control of a single entity. As a result, it is difficult, if not impossible, for copyright owners to track down each server where an infringing work may be stored and for the service provider to then take down the digital asset or disable access by third parties. Further, the NFT owner can continue to sell or distribute the infringing NFTs on other platforms (including those hosted abroad) or peer-to-peer.
Congress needs to enhance the reach of the DMCA to address these issues.
In sum, the NFT marketplace is an unregulated bazaar with plenty of risk and, for the fortunate, unexpected rewards. Those venturing into this as yet unregulated space should step carefully.