Are you an investor in the world of non-fungible tokens (NFTs)? If so, you need to understand how NFT tax works.
Whether you’re using NFTs in complex trades or simply in it for the art, failing to comply with tax regulations can lead to steep tax penalties, audits, and worse. That’s why we’re here to help with this comprehensive guide to NFT taxes!
Gordon Law has focused on crypto taxes since 2014 and our team has witnessed the evolution of NFTs firsthand. With more than 1,500 crypto tax reports under our belts, we make it easy to report NFT taxes correctly and pay less to the IRS.
If you want to stay on top of your tax obligations and avoid any potential IRS headaches, keep reading!
Key takeaways
- Generally, the same tax rules apply to NFTs and other types of cryptocurrency. NFTs are taxed as property; this means that selling and trading NFTs are taxable activities that can trigger capital gains.
- Some NFTs may be considered collectibles, which have higher tax rates than other types of property.
- NFTs create many accounting challenges that make it difficult to calculate NFT taxes on your own. Professional accounting services are recommended for NFT investors.
How do NFT taxes work?
Like traditional cryptocurrencies, NFTs generally create 2 types of taxable income: capital gains or ordinary income. It’s important to know some basic information before we get into the specifics:
- When you sell or dispose of an asset for a profit, the profits are subject to capital gains tax. If the NFT is considered a collectible, then collectibles tax may apply.
- When you earn crypto or NFTs some other way, that’s subject to ordinary income tax.
- A taxable event is a transaction that may trigger either type of tax.
- Short-term capital gains apply to assets held for less than 1 year, and long-term capital gains apply to assets held for 1 year or more. Long-term capital gains have the most favorable tax rates (see the tables below).
- Every buy, sell, swap, deposit, and transfer of digital assets—including cryptocurrencies and NFTs—needs to be listed on your tax return. The more activity you have, the more complicated your tax accounting becomes.
In this guide, we’ll walk you through several examples of NFT trading activities and their tax implications.
NFT tax rates for short-term capital gains and ordinary income (Tax year 2023)
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NFT tax rates for long-term capital gains (Tax year 2023)
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Do I have to report NFTs on my tax return?
Yes, income earned from NFTs must be reported on your tax return. Learn about the IRS crypto crackdown here.
Are NFTs collectibles?
Some NFTs may be considered collectibles, which have a higher tax rate than long-term capital gains. The maximum collectibles tax rate is 28%, as opposed to a maximum of 20% for long-term capital gains.
Is your NFT considered a collectible? It depends on what the token represents. If your NFT represents ownership of a real-world collectible item, the IRS will consider it a collectible for tax purposes. The IRS has stated that the following physical items are considered collectibles:
- Any work of art
- Any rug or antique
- Any metal or gem
- Any stamp or coin
- Any alcoholic beverage, or
- “Any other tangible personal property specified by the Secretary for purposes of this subsection”
Some NFTs, such as NBA Top Shots, represent a sort of digital collectible. It’s unclear whether the IRS will tax these as collectibles or not. It’s also unclear whether profile picture (PFP) NFTs are considered collectibles for tax purposes. Consult a crypto tax professional for guidance on your specific situation.
Collectibles tax only applies to assets held for 1 year or longer.
Buying, selling, and trading NFTs
Most people dealing with NFTs fall into the category of investors. This includes anyone involved in buying, selling, and trading NFTs in the open market. For investors, NFT taxes work the same as taxes on cryptocurrency trades.
Buying NFTs with crypto
- Buying NFTs with cryptocurrency is a taxable event subject to capital gains tax. It’s as if you sold the crypto for cash and then used cash to purchase the NFT.
- If you “sold” the crypto for a profit, then you’ll have a capital gain.
- Similarly, selling an NFT for cryptocurrency is also a capital gains tax event.
Many investors get confused about calculating capital gains on NFTs. Let’s look at an example:
- Natalie purchases an NFT for 10 ETH. At the time, ETH is worth $2,000, so Natalie spends $20,000 total.
- Later, Natalie sells her NFT for 5 ETH. At the time, ETH is worth $10,000, so she receives $50,000.
- Even though Natalie received less ETH, she still has a capital gain of $48,000. Capital gains and losses are based on USD values.
Swapping NFTs
Swapping one NFT for another is a taxable event. Since NFTs are (typically) unique and not interchangeable, it can be tricky to determine an asset’s fair market value in USD at a particular time—and this information is essential for calculating your taxes.
See the section on NFT tax reporting challenges for more details.
Pooling funds to buy NFTs
Many investors pool funds with friends or family to buy NFTs, but they don’t realize they may be creating a tax headache.
Before purchasing NFTs with someone else, it’s best practice to set up an LLC. The individuals pooling their funds would be owners of the LLC; this provides a layer of protection for each owner. You should create unique wallets or accounts for the LLC rather than using personal accounts.
If you’ve already pooled funds to purchase NFTs and need to correct past mistakes, reach out to our experienced team for guidance.
Interacting with NFTs: Taxes on common activities
Minting NFTs
Many NFT collections allow investors to mint new NFTs. For example, if you mint a Bored Ape token, you’ll create a new character with unique eyes, clothing, facial expression, and other characteristics. Then, you can sell or trade this new NFT.
Taxes on minting NFTs:
Minting an NFT is not a taxable event; you only pay tax when you sell, trade, or convert the NFT. Minting fees can be added to your NFT cost basis.
Gifting NFTs
You may want to give one of your NFTs to a friend or family member as a gift. This can be a good way to avoid cryptocurrency taxes.
Taxes on NFT gifts:
Like other types of digital assets, NFTs can be gifted without creating a tax obligation. So long as you stay within annual and lifetime gift tax limits, neither the giver nor the recipient will owe tax on the gift.
The person gifting the NFT should provide a gift letter stating the acquisition date and cost basis of the asset.
NFT gas fees
NFT trading can incur a lot of gas fees, which are collected from users to maintain the blockchain.
Taxes on gas fees:
In some cases, gas fees can offset your tax bill.
- Gas fees incurred during a sale, swap, or other taxable event can be added to your cost basis. A higher cost basis means lower capital gains.
- Gas fees incurred during self-transfers cannot be added to your cost basis.
NFT airdrops
NFT investors can receive airdrops of additional NFTs, cryptocurrency tokens, or utility tokens as a reward for holding certain NFTs.
Taxes on NFT airdrops:
- Airdrops are taxable, and they’re considered ordinary income. The amount of income is based on the tokens’ fair market value at the time of receipt.
- It can be very challenging to determine the cost basis of an NFT that you received as an airdrop, especially if it’s part of a lesser-known collection. However, it’s generally not advisable to use a cost basis of $0. Consult a crypto tax professional for more information.
- Beware of scam airdrops and “sh*tcoins.” These are not taxable, but if you’re using crypto tax software, they may be falsely counted as taxable airdrops.
NFTs in DeFi
NFTs can be used to facilitate decentralized finance, or DeFi, transactions. DeFi taxes are very complicated, but the same rules apply whether the assets involved in a DeFi transaction are cryptocurrencies or NFTs.
Taxes on DeFi NFTs:
- NFTs in liquidity pools: NFTs can be used to represent your stake in a liquidity pool. Swapping your crypto for a liquidity pool NFT (such as UNI-V3), and vice versa, could be considered a capital gains tax event. This is the conservative stance.
- NFTs as loan collateral: NFTs can also be used as collateral for a crypto loan. Taxes on DeFi loans are very complicated, especially for borrowers, and we recommend consulting a professional about your specific situation. One important thing to know is that if your NFT collateral is taken by the lender, this is treated as a taxable sale.
For more information about how NFT taxes work within the DeFi ecosystem, check out our comprehensive DeFi tax guide.
NFT tax reporting challenges
Cryptocurrency tax reporting has always been difficult, but NFT taxes are even more complicated. Here are some of the most common challenges with NFT tax:
Determining fair market value and NFT cost basis
Since most NFTs are unique, it can be difficult to find the fair market value of an NFT at a particular time. The fair market value is used to establish your cost basis and your sales proceeds; you cannot calculate capital gains without this information.
When swapping NFTs, it’s taxed as if you sold the first NFT for cash and then used cash to purchase the second NFT. The sale price of the first NFT is also the cost basis of the second NFT.
The IRS has not released any guidance about determining the fair market value of NFTs, but there are a few different methods that we use:
- Floor Price: Every NFT collection has a floor price—the lowest price that any NFT in the collection has been sold for. This number can change over time. When you trade one NFT for another, you could use the collection’s floor price as your sale price. This applies to the NFT you’re disposing of.
- Last Sale Price: Similar to floor price, each NFT collection has a last sale price—the most recent price that any NFT in the collection has been sold for.
- Transfer Cost Basis: In some cases, when swapping NFTs within the same collection, you can essentially transfer the cost basis of the first token (the one you’re trading away) to the second token (the one you’re acquiring). Swaps are always taxable, so you still need to record this transaction on your tax return.
NFTs incompatible with crypto tax software
Crypto tax software is designed to calculate crypto cost basis and capital gains. However, this software often struggles with calculating taxes for NFTs, among other things.
With millions of NFT collections on the market, it would be nearly impossible for crypto tax software to be compatible with every NFT. Our experienced crypto tax professionals can help you report NFTs correctly with any type of software you choose. Get in touch if you need help.
New token standards
There are several different types of token standards used to create NFTs, and this number is only growing as experimental new standards are developed. Each time new blockchain technology is developed, tax professionals must examine the tax implications of that technology.
Some of the most common NFT token standards include:
- ERC-721 (Ethereum NFTs): ERC-721 is the original NFT token standard and the most common standard for Ethereum NFTs. ERC-721 tokens are unique and non-fungible. Popular collections include Bored Ape Yacht Club, Pudgy Penguins, and Miladies.
- BRC-20 (Ordinals): The BRC-20 token standard, created in 2023, allows for NFT creation on the Bitcoin blockchain. Bitcoin NFTs are also known as Ordinals. Popular Ordinals collections include NodeMonkes, Bitcoin Puppets, and Runestone.
- SPL (Solana NFTs): The SPL standard is the most popular token standard for Solana NFTs, which have become increasingly popular in recent years. Popular collections include MadLads, Galactic Geckos, and DeGods.
- ERC-404 (Fractional NFTs): NFTs can cost several thousand dollars apiece (or even millions!), making them cost prohibitive for the average investor. The experimental ERC-404 token standard, created in 2024, allows for fractional ownership of NFTs.
- ERC-1155 (Game Tokens): With this token standard, both fungible and non-fungible tokens can be managed on the same smart contract. Developers can also create “semi-fungible” tokens which have some unique properties and some standard properties. These tokens are popular in NFT games, including Axie Infinity, Decentraland, and Gods Unchained.
Generally, these different types of NFTs are all taxed the same way, but the method of calculating NFT taxes may vary based on different token standards. Speak to one of our experienced crypto tax lawyers for more information about NFT tax reporting.
How to calculate NFT taxes
Calculating NFT taxes is similar to calculating taxes for other digital assets–only NFTs tend to be less compatible with crypto tax software.
- Gather Your NFT and Crypto Tax Documents: Collect all records related to your NFT transactions and other crypto transactions for the year. Start with any tax documents you’ve received, such as 1099-MISC. You should also download your full transaction history from each exchange, wallet, or account you used during the year.
- Calculate Capital Gains on Form 8949: For each digital asset transaction, calculate the capital gain or capital loss. Use this information to complete Form 8949. To simplify this process and save yourself several hours of time, consider hiring an experienced crypto tax accountant.
- Transfer Totals to Schedule D: Once you’ve finished Form 8949, add the totals from each section to Schedule D. This is where you summarize your capital gains and losses.
- Report Ordinary Income: If you earned cryptocurrency as income, report it on Schedule C of Form 1040. This information is often, but not always, reported by exchanges on Form 1099-MISC. Be sure to include all relevant income sources.
- Seek Professional Advice: Consulting a professional with experience in NFT taxes can provide you with peace of mind, since many areas of digital asset taxation require legal analysis.
In our experience, most investors need professional help to calculate their NFT taxes correctly. At Gordon Law, our team (led by tax attorney and CPA Andrew Gordon) has focused on crypto tax since 2014 and prepared more than 1,500 crypto tax reports.
We make your crypto and NFT tax reporting easier than ever while unlocking maximum tax savings! Reach out today for experienced legal guidance.
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