Taxing NFTs – but how?
The tax treatment of virtual currencies is a sensitive issue. Speculation involving NFTs has garnered significant attention over the past two years. The hype surrounding these digital assets shows no signs of abating, yet little is known about how they should be taxed. The tax authorities have not yet provided any guidance regarding NFTs. This has led to legal uncertainty. To clarify how NFTs should be taxed, one must first distinguish between income tax law and sales tax law.
Declaration on the personal income tax return? Creating and selling NFTs – tax liability under Section 15 of the German Income Tax Act (EStG)?
If an NFT is created and sold with the intent of making a profit on a regular basis, it stands to reason that this should be considered business income. Accordingly, the resulting income would need to be calculated using the cash basis method and reported to the tax authorities. If the profit from NFT trading exceeds EUR 24,500 (Section 11(1) of the Trade Tax Act), trade tax will be assessed, and a separate trade tax return must be filed with the tax office. It should be noted that, due to high trading volumes in the NFT market, certain profit and revenue thresholds can be exceeded very quickly, and that this could trigger an accounting obligation under § 141 AO. A profit calculation, which pursuant to § 4(3) EStG is based solely on income and expenses, is then no longer possible.
Freelance Activity Under Section 18 of the Income Tax Act (EStG)
Income from freelance work under Section 18 of the German Income Tax Act (EStG) may arise from trading in NFTs, provided that the activity constitutes an artistic endeavor. In this case, income under Section 18 EStG must be reported in Schedule S. This income is also taxed at the personal tax rate but does not trigger a trade tax liability.
The above explanations regarding the classification of the type of income do not apply if NFTs are part of existing business assets or if their sale is conducted through another legal form (e.g., a GmbH). Another special case arises when multiple individuals jointly create NFTs. This would then be considered a civil law partnership (GbR).
Regardless of the type of income involved, a “Tax Registration Form” containing profit estimates must be submitted to the tax office. As part of the application, a decision must also be made as to whether the sale is conducted as a small business for VAT purposes under Section 19 of the German VAT Act (UStG).
Tax liability resulting from purchase and sale
The mere purchase and sale of NFTs can result in other income under Section 22(3) in conjunction with Section 23 of the Income Tax Act (EStG) if less than one year elapses between the purchase and sale. This income is taxed if the profit exceeds 600 EUR per year. It must then be reported in Schedule SO. Important to know: This period may be extended to ten years if the NFTs are used as a source of income. This is the case, for example, when NFTs are licensed for merchandising purposes.
In the event of a VAT liability—that is, if the entrepreneur acts within the meaning of Section 2 of the German Value Added Tax Act (UStG)—it must be determined whether the sale of NFTs is subject to 19% or 7% German VAT, local VAT, or is net without VAT. As a so-called small business owner, one would not be required to charge sales tax on the sale provided that the total taxable domestic sales amount to less than 22,000 euros.
Income of the initial seller from subsequent resale
It is common for NFTs that have already been sold to generate revenue for subsequent buyers upon resale. A certain percentage of this income later flows to the original seller. This can give rise to specific withholding tax issues that may need to be examined in light of the applicable double taxation agreement (DTA).
It may take some time before the tax authorities comment on the various taxation scenarios. For now, it is important to communicate activities related to NFTs to the authorities at an early stage.
