The IRS has issued Notice 2023-27 about the tax consequences of selling NFTs.
NFTs, short for nonfungible tokens, is a development of blockchain technology. It’s a way to distribute items, including artwork and music, in a nonphysical form.
For example, you can purchase a unique computer-generated “painting” as an NFT. The NFT is a digital file that can be purchased, owned and sold.
An NFT can also provide the holder with a right for an item that isn’t a digital file, such as a concert ticket.
Markets have developed for buying, selling and trading NFTs.
The IRS is in the process of studying NFTs, and has issued preliminary findings in Notice 2023-27.
The IRS is considering a “look-through” method of classifying an NFT. What is the underlying asset that the NFT is giving a right to?
The major concern is many NFTS represent a right to art or music, which are considered “collectibles”. Collectibles are a special class of capital assets that are subject to a 28% federal income tax rate for long-term capital gains and aren’t eligible for the 20% federal income tax rate for long-term capital gains. The purchase of a collectible by a retirement account, including a 401(k), Roth or IRA account, is treated as a distribution, which could be taxable income for the account owner.
As we see new developments in the brave, new, virtual world, it’s important to be alert for the tax results.
Avoid an unexpected income tax result. Don’t invest in NFTs with a retirement account. Be aware a higher income tax rate may apply to a gain from the sale of an NFT.