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Legal Perspective of NFT Digital Collections in China

2022.11.15 CHEN, Jie、LIU,Xin

Non-fungible Tokens (NFT)1 have been around for some years, but they have gained in popularity since 2020 and continue to attract attention both from within and outside the global blockchain community. China is no exception. According to recent statistics2, from November 2021 to July 2022, China's NFT platforms expanded dramatically from 26 platforms to over 7003. The number of China’s NFT platforms is still growing.

NFT digital collections generally refer to digital collections in the form of NFTs, and include original artworks, museum collections, humanities and historical derivatives (for instance, virtual assets of games, and cultural and creative peripherals), as well as audio and video works. Due to the nature conferred by their underlying blockchain technology (uniqueness, immutability, traceability, timestamp, scarcity, etc.), NFTs also represent (or their Hash Function directs to) specific dependable and unique digital assets or data. With the technological development of the Value Internet built on Web 3.0 networks, NFTs would become identifiable and have unique assets and data in the operation of the Metaverse. NFTs can be unique digital assets and data (digital extensions of real-world assets) or their proof of interest mapped on the blockchain originates from real-world assets and any carrier thereof, or they represent any unique digital assets and data originated directly within the digital world.

NFTs are digital tokens that can represent various attributes such as identities, assets and interests in the Web 3.0 networks. Their nature is dependent on the original assets and asset operation models, and as a result there is difficulty in terms of the identification of the uniform legal nature of NFTs4. This article briefly discusses the current Chinese legal framework concerning NFT digital collections, which are currently the main form of NFTs. This article considers the recent decision by the Hangzhou Internet Court concerning an NFT digital collection copyright infringement dispute (hereinafter referred to as the “Golden Idea Case”5).

1. NFT Digital Collections should not be Virtual Currency Prohibited by PRC Law

On 15 September 20216, the People's Bank of China, the Cyberspace Administration of China (“CAC”), the Ministry of Public Security and seven other government agencies, issued the Notice on Further Preventing and Dealing with the Risk of Speculation in Virtual Currency Transactions (Yin Fa [2021] No. 237) (hereinafter referred as “Notice 237”) which sets out the strictest prohibitions to date on business and civil juristic acts relating to virtual currency. Although “virtual currency” refers not only to “fungible currency,” Notice 237 follows the regulatory targets indicated in the Notice on Preventing Bitcoin Risks promulgated by the People’s Bank of China and four other government agencies in 2013 and other regulations previously published by various ministries and commissions, all aimed at maintaining the stability of the financial order. Therefore, the superior laws of Notice 237 are the Law on the People’s Bank of China, the Law on Commercial Banks, the Law of Securities, the Law of Cybersecurity and other relevant regulations7. Notice 237 lists Bitcoin, Ethereum (ETH) and Tether USD (USDT) as typical virtual currency8 prohibited by Chinese law. Most virtual currencies are used in a Public Blockchain with fully decentralized blockchain technology as the fundamental technology, and they are of a monetary or financial nature (i.e., negotiable, exchangeable fiat currency and tradable; the value of the Stable Coin is also directly anchored to certain fiat currency). These Public Blockchain coins are currently held, exchanged and used in many regions outside China, and they are subject to the various monetary or financial licenses and anti-money laundering regulatory requirements of different countries and regions.

Assuming the NFT digital collections, although they are based on blockchain technology, do not have a financial nature or fall within the scope of financial activities, we believe that the NFT digital collections should not be defined as virtual currency regulated and prohibited under Notice 237. On 13 April 2022, the China Internet Financial Association, the China Banking Association and the China Securities Association jointly issued the “Initiative on Preventing Financial Risks Related to NFTs” (the “Three Associations Initiative”) which sets out six codes of conduct aimed at “containing the trend of the financialization and securitization of NFTs”. These are (i) prohibiting the launch of financial products associated with NFTs, (ii) prohibiting the weakening of non-fungible features (e.g. securitization practices such as creating bulk collections or massive splitting collections), (iii) prohibiting the provision of centralized trading or establishing trading venues for NFT transactions, (iv) prohibiting the use of virtual currency as a means of payment, (v) requiring real name authentication, and (vi) prohibiting the direct or indirect investment in NFTs.

The above codes of conduct are not mandatory but provide recommended guidelines to avoid the “financialization” and “securitization” of NFT digital collections. Understandably, NFT digital collection projects that include activities forbidden by the codes of conduct would be more likely to be challenged as financializing or securitizing NFT digital collections, and therefore shall be subject to the requirements of Notice 237. Thus, for the time being, compliance with Notice 237 shall be prioritized for the management of domestic NFT digital collection projects in mainland China.

2. Decentralization vs. Centralization

In order to avoid the financialization and securitization of NFT digital collections, we have observed that it is relatively easy to satisfy the six codes of conduct, since the original commodities of NFT digital collections issued in China thus far are mainly non-financial products such as artworks and cultural products. These platforms require real name authentication in order to comply with anti-money laundering requirements and generally do not create bulk collections or massive split collections.9 However, to launch NFT digital collection projects, it is recommended to avoid using virtual currency, speculate on NFT digital collections or offer relevant speculation possibilities.

Notice 237 bans the use of Public Blockchain coins such as bitcoin and ETH within mainland China. Global NFT platforms currently allow the use of virtual currencies, some platforms or projects only accept virtual currency, and some NFT platforms may also issue virtual currency for specific projects (i.e., fungible virtual currencies). Therefore, the ban on Public Blockchain coins under the existing Chinese legal framework makes it impossible in practice for domestic NFT digital collections to be issued and circulated on fully decentralized Public Blockchains (such as the ETH and Flow Public Blockchains, and various sidechains or platforms running on these Public Blockchain platforms), otherwise it would be impossible to avoid the use of virtual currencies. Such a ban has resulted in a gap between mainland China NFT digital collections markets and the NFT market outside mainland China.

The minting, issuance and circulation of most NFT digital collection projects in mainland China are launched on centralized (or partly decentralized) Consortium Blockchains (or Private Blockchains). For example, the Huanhe (幻核)10 NFT platform was launched on the Tencent Zhixin Chain, the Topnod (鲸探) NFT platform was launched on the Ant Chain, and the NFTCN (元宇宙中国) platform (Bigverse) was launched on the sidechain of Ethereum. It is worth noting that although the NFTCN platform was launched on the sidechain of Ethereum, as the decision of Golden Idea Case indicates, the sidechain is still a Consortium Blockchain with a “de-coined” nature. Cross-chain functions are not open to sidechain users, and users cannot transfer their NFT digital collections to the Public Blockchain of Ethereum.

In accordance with the Administrative Regulations on Blockchain Information Services issued by CAC on 10 January of 2019, blockchain projects shall be filed with CAC through its blockchain information service filing management system. Since the issuance of these regulations, CAC has issued nine batches of filed blockchain projects to date11. Several digital collection projects are included among the seventh (March 2022), eighth (May 2022) and ninth (July 2022) recent batches of filed blockchain projects.

3. Primary and Secondary Markets for NFT Digital Collections (Distribution and Circulation of NFT Digital Collections)

According to the Decision on Cleaning and Rectifying Various Trading Venues to Effectively Prevent Financial Risks (Guo Fa [2011] No. 38) issued by the State Council on 11 November 2011 and its subsequent implementation opinions, trading venues engaged in the trading of financial products such as insurance, credit and gold must be approved by the relevant financial management departments of the State Council and the relevant provincial people’s governments. The Three Associations Initiative also clearly recommends not “directly or indirectly investing” in NFT digital collections, not establishing trading venues in disguise, and not providing services for NFT transactions such as centralized trades and standardized contract trades. Considering these recommended guidelines and the requirements relating to prohibited financial activities under Notice 237, there are currently no mandatory legal requirements explicitly forbidding the issuance and circulation of NFT digital collections without a financialization nature.

Current Chinese laws do not prohibit a platform from engaging in the issuance and circulation of NFT digital collections through an e-commerce platform (including any third-party platforms), provided that such platform holds all the necessary corresponding licenses. For instance, subject to its respective business model, the platform may be required to obtain the appropriate value-added telecommunications operation permits/filings, network culture operation permits, artwork trading institution filings and other permits. However, given the different business models and future development of business, and NFT asset holders’ investment expectations worldwide, market players who are engaged in the circulation and trading of NFT digital collections in the secondary market or related business in mainland China shall be more cautious in identifying compliance risks and keep across the different regulatory requirements and changes.

Based on our observations thus far of domestic NFT platforms, as issuers in the primary market, most platforms tend to be more cautious in selecting the collections source for distribution. For instance, domestic NFT platforms only invite artists to mint NFT works, but do not allow everyday users to freely upload their work to platforms. Further, many domestic NFT platforms are more cautious about secondary market trading of NFT digital collections12 and do not fully open or only open the secondary market to a limited extent. For instance, in some platform user service agreements, users are required to hold digital collections for individual purposes only, such as personal study, research, entertainment or self-collection, and commercial activities are forbidden. We have also observed that a significant proportion of platforms do not allow the resale of collections, and the rules applicable to the granting of collections vary from platform to platform: some platforms do not allow resale or gift giving, whilst some platforms set certain thresholds for gift giving, for example, the restricted period for prohibiting gift giving may vary from 7 days to 30 days or sometimes up to 6 months or 2 years after a user obtains the collections. There are platforms which not only allow resale and granting as gifts, but also gain fees from secondary transfers. For instance, the decision in the Golden Idea Case described NFTCN’s business model as the following: (i) for a primary sale, NFTCN charges a user a Gas fee and a commission equivalent to a certain percentage of the sales price; (ii) for secondary sales, NFTCN charges 10% of the profit generated by the sell side user as a commission, and the artist receives 2.5% of the profit as royalties (if there is no premium due to a lower resale price, no commission or royalties shall be generated).

As discussed above, NFT platforms in mainland China operate on Consortium Blockchains on a centralized basis. The operators of such Chinese NFT platforms shall comply with all requirements and standards applicable to the internet information platforms stipulated under Chinese laws, including but without limitation, those legal requirements relating to personal data and privacy protection, payment specifications, APP compliance requirements, technical cybersecurity and other relevant aspects.

4. Right Attributes of NFT Digital Collections: Ownership of Virtual Property

In this section, we are referring to the rights of NFT digital collections under the Civil Code of the People’s Republic of China (hereinafter referred as the “Civil Code”) and related civil legal regulations. Article 127 of the Civil Code stipulates that, “Where any other laws and regulations contain provisions in respect of the protection of data and network virtual property, such laws and regulations shall apply.” Although the foregoing article introduces the concept of “data and network virtual property,” it is still unclear whether the term “network virtual property” covers NFT digital collections. Further, even if “network virtual property” covers NFT digital collections, the Civil Code only confirms that such collections could be protected if provisions exist protecting such network virtual property. Accordingly, in the absence of interpretation and implementing rules in Article 127 of the Civil Code, the legal rights attributes of NFT digital collections as well as the nature and type of the corresponding rights (creditor’s rights, real rights or intellectual property rights, or a new type of right or interest)13 are still subject to further clarification.

Based on the legal principles of the Civil Code, and judicial decisions on property disputes (including the Golden Idea Case) , such as game currency, game equipment, NFT digital collections and even virtual currency associated with the Public Blockchain prohibited by Chinese laws, we believe that the property attributes of NFT digital collections shall not be denied, and therefore users shall own the property of the NFT digital collections after purchasing the collections on the compliant NFT platforms14. Subject to the content of the property ownership, the property owner shall be able to occupy, use, transfer and dispose the relevant property.

Besides the relevant applicable legal requirements (such as the de-financialization requirement under Notice 237), users’ ownership of NFT digital collections is also subject to the corresponding platform service agreements and user agreements. Specifically, the platform service agreements or user agreements may contain various specific requirements for NFT digital collections, such as purchases, and their use is not permitted for commercial or investment purposes. Therefore, though users may essentially be deemed as the owner of the property, it would still be difficult for them to freely transfer the property without support from the platform or without a well-established cross-platform circulation system. Additionally, if the original assets of a digital collection are derived from works or other assets containing intellectual property rights, a user may still need to obtain the appropriate and necessary authorizations of the relevant intellectual property rights. An analysis of intellectual property rights is briefly described in the section 5 of this article.

In addition to the unclear determination of the nature of virtual property, some hold the opinion that, for the protection of network virtual property and data (including blockchain original digital assets), according to Article 127 of the Civil Code, blockchain original digital assets shall be protected in accordance with the rules concerning real rights, while other network virtual property and data with weaker controls and dominance shall be protected in accordance with the rules concerning other forms of property interests15. We believe that this opinion is worthy of further discussion and exploration. If property rights exist in NFT digital collections and certain other digital assets, the owners of such real property rights may create usufructuary rights and security interests on their NFT digital collections and other assets, or at least adopt similar principles applicable to the management of property rights of NFT digital collections.

Besides the uncertainty of the property attributes of NFT digital collections, including the connotation, identification, protection and circulation thereof16, it is advisable to observe the development of legislation and judicial practice regarding pricing in the primary and secondary markets, investment standards, taxation, and the determination of administrative or criminal liabilities17.

5. Right Attributes of NFT Digital Collections: Intellectual Property Rights and other Civil Rights

Digital collections currently published on different NFT platforms on the market mainly include the following types: original art works, collections of museums and other cultural institutions, game products, cultural and historical derivatives or peripheral products, and audio and video works. The original assets of these digital collections usually contain corresponding intellectual property rights, which may include: (i) original art works, and audio and video works that are still within the copyright protection period, (ii) cultural relics and collections owned by cultural institutions with ownership or right to use and their copyrights of corresponding image and video works, etc., (iii) copyrights of design works, design patents, etc., and (iv) works published by brand companies containing relevant trademarks or logos of their respective brands. In some cases, NFT digital collections may contain the attributes of personality rights such as portrait rights and name rights.

Therefore, when a user is purchasing an NFT digital collection on a NFT platform, besides acquiring the property ownership of the corresponding collection, the user may be required to obtain an authorization to use the intellectual property rights associated with the original digital work, since the intellectual property rights of the digital collection owned by the collection issuer or designer would not naturally be transferred together with the property ownership of the corresponding collection. As mentioned above, the service agreements and user agreements of various platforms usually prohibit users from using the works for commercial or investment purposes. For instance, permitted use may include self-collection, study, research, entertainment and display, and granted authorization of intellectual property rights are subject to specific restrictions such as restricted terms, non-exclusivity and restricted usage.

However, there are also NFT trading platforms that offer a broader range of authorization. For instance, some platforms will grant the purchaser of a NFT digital collection with perpetual worldwide license to use the copyright during the possession period of the collection, which is non-exclusive, transferable, and non-sublicensable; meanwhile, the purchaser may utilize the collection for the purpose of advertising, printing, publication, product packaging, design, video, animation and gaming. The purchaser may assign the digitally licensed collection. After the transferee purchases a digitally licensed collection, the corresponding license would be transferred simultaneously. Upon the request of the holder of the NFT digital collection, the copyright owner will cooperate with the purchaser to conduct the relevant filing for the transfer of the copyright18.

The above discussed practice allows the original copyright owner to enter into a copyright transfer agreement with the buyer instead of entering into a license agreement for the grant of use rights. However, as described in the above user agreements, we believe that unless a user enters into an explicit transfer agreement with the original copyright owner, a user who purchases NFT digital collections on the platform shall still be granted a non-exclusive use right for the corresponding intellectual property rights. In order to avoid confusion between the license and the assignment of copyright, under the transfer agreement (if signed), it is advisable to explicitly provide that (i) the transferee of a NFT digital collection shall become the copyright owner of the digital work and other property rights (e.g. reproduction rights, distribution rights, rental rights, exhibition rights, performance rights, screening rights, broadcasting rights, information network transmission rights, filming rights, adaptation rights, compilation rights, translation rights, etc.), associated with such copyright except for personality rights, and (ii) the original copyright transferor shall no longer own other copyrights other than the rights of person.

The Golden Idea Case introduced a meaningful exploration of the intellectual property rights attributes of NFT digital collections. Specifically, (i) the original collection was deemed as an art work with a physical carrier from a copyright law perspective19, (ii) the decision defined that an NFT transaction is a sale in which the digitalized content is the target of the transaction, and the purchaser acquires through the transaction a kind of property interest, which shall be neither defined as an authorization to use a digitalized property, nor be defined as a transfer or an authorization of intellectual property rights, and (iii) the decision determined that the transaction of NFT digital collections shall be defined as an information network transmission activity.

Regarding the liability of NFT platforms, the Golden Idea Case also provided a noteworthy analysis from the perspective of intellectual property infringement:

(1) A platform operator shall be (i) obliged to conduct due diligence on the issuer of collections at least on a customary basis, including establishing an effective intellectual property rights inspection mechanism and an infringement prevention mechanism, to conduct a preliminary review of the copyright of NFT digital collections traded on the platform, and (ii) subject to a duty of care in the occurrence of any infringements.

(2) any secondary sale of NFT digital collections shall be defined as an information network transmission activity rather than an issuance of works20, and thus the “Exhaustion of Rights Principle” does not apply. This means that a secondary sale of NFT digital collections by users through the platform would still require the granting of a license from the copyright owner for the use of copyright21; and

(3) given that copying NFT digital collections is to make the collections available to the public through the Internet, which belong to the act of network transmission, the damages caused by copying should be absorbed by the damages caused by the information network transmission activity, and do not need to be evaluated separately.

Given that the Golden Idea Case is an intellectual property rights infringement lawsuit between the intellectual property rights holder and a third-party platform, it provided less comments concerning the property ownership attributes of NFT digital collections, and the boundaries of various rights and responsibilities of intellectual property rights associated with the transaction of NFT digital collections.

In terms of the property attributes of NFT digital collections, the current Chinese legal framework acknowledges their attributes of property ownership and intellectual property rights, but the connotations and extensions of property ownership remain unclear. NFT digital collections transactions (including primary and secondary sales) could generally be considered as a transfer of property ownership plus a granting of the license of the corresponding intellectual property rights (or the transfer of intellectual property). Currently, platform operators and users rely on the platform service agreements to regulate the relevant parties’ rights and obligations. Considering the complexity of the content of intellectual property rights and the exercise of rights, the boundaries of rights and obligations among all parties (e.g., among rights holders, platform operators, purchasers and transferees and transferors in a secondary sale, etc.) will further be clarified following the development of business operations, legislation and judicial practices.

6. Conclusion and Prospects

The laws and regulations applicable to NFT digital collections are uncertain and subject to further development of legislation and judicial practice. Chinese regulatory authorities generally hold a relatively cautious position in respect to the development of financial markets and financial products under the Chinese legal framework. Therefore, the digital economic development in China, including the development of NFT digital assets, would follow a specific path, which shares some commonality but may still vary from that of other legal jurisdictions (such as the United States, Hong Kong and Singapore).

We also have observed that the application of NFTs would not be limited to digital collections. In the era of Web 3.0, assets, documents and data mapped from “off-chain” to “on-chain” could also be associated with NFTs in various scenarios with a rich and broad application scope, including original and digitalized assets, such as user accounts and data information, bank accounts, content on the blockchain, transaction data, Internet of Things (IoT) data, etc. With the development of China’s innovative sectors, we will continue to make observations and expect relevant new businesses comply with China’s economic development and solve some of the issues, including but without limitation, (i) to balance the efficiency of a centralized business with the fairness of a decentralized market, (ii) to promote the tokenization of digital assets (NFTs, fungible tokens or digital-encrypted fiat currency), and (iii) to build a token economy function based on smart contracts and decentralized autonomous organization (DAO). All these matters are inspiring topics and will be explored further.

[1] A token can also be translated as “代币”, “令牌”, etc. We believe that tokens are sometimes used in the same way as virtual currency, which is slightly ambiguous for NFT digital collections, and can easily be confused with coin or other cryptocurrency, and I suggest that it is more appropriate for NFTs to be referred to as “非同质化通证”.

[2] See Research Report: Counting and Analysis of Domestic NFT Offering Platforms, published on a WeChat public account “白话元宇宙NFT” on 26 April 2022.

[3] https://vr.sina.com.cn/news/hot/2022-08-09/doc-imizmscv5441589.shtml.

[4] For example, if an NFT is used in digital identity recognition, proof of offline asset rights, forensic identification and evidence, etc., then it shall be categorized and the relevant legal rules are applicable.

[5] (2022) Zhe 0192 Min Chu no.1008, first instance judgment made by Hangzhou Internet Court regarding the information network communication right’s dispute between Shenzhen Golden Idea Ltd. (claimant) and Hangzhou Yuanyuzhou Technology Co., Ltd. on 22 April 2022. We are not aware of any information regarding appeals and second instance hearings relating to the foregoing case.

[6] Notice 237 was promulgated and effective on 15 September 2021.

[7] The regulations listed in Notice 237 include: the Law on the People’s Bank of China, the Law on Commercial Banks, the Law of Securities, the Law of Cybersecurity, the Regulation of Telecommunications, the Regulations on the Prevention and Dealing of Illegal Fund Raising, the Regulations on the Administration of Futures Trading, the Decision of the State Council on Clearing and Reorganizing Various Trading Places to Effectively Prevent Financial Risks, and the Implementation Opinions of the Office of the State Council on Clearing and Reorganizing Various Trading Places.

[8] Chinese laws and regulations generally use the phrase “virtual currency,” but words such as “enciphered currency”, “digital currency” and “token” are also used in the market.

[9] The laws do not specify the quantity limit that would result in being deemed as securitization. Many digital collections for example are generally limited to a few thousand or ten thousand copies (each copy is obviously unique and has a unique private key). In addition, the number of digital collections issued may actually affect the value and scarcity.

[10] Huanhe Platform ceased to offer digital collections on 16 August 2022.

[11] http://www.cac.gov.cn/2022-07/25/c_1660369837207693.htm.

[12] Currently, about 29% of NFT platforms in China have a secondary market for NFT digital collections and about 71% of NFT platforms do not have a secondary market. See Research Report: Counting and Analysis of Domestic NFT Offering Platforms, published on WeChat public account “白话元宇宙NFT” on 26 April 2022.

[13] See Si Xiao, “Analysis of the Property Legal Issues on Blockchain Non-Fungible Tokens (NFTs),” published on 23 August 2021 on the WeChat public account “腾讯研究院”.

[14] The Beijing Chaoyang District People’s Court’s criminal first instance judgement on Ling Yasheng and others on theft (Judgement No. (2021) Jing 0105 Xing Chu 1302), upheld that, whether the platform in question was non-compliant and whether the virtual currency on this platform was protected by law, was two separate issues. Therefore, we understand that compliance of the NFT platform does not necessarily affect the property interest of NFT digital collections associated with that platform.

[15] See Si Xiao, “Theory of Real Property Rights of Blockchain Digital Assets,” published on 27 January 2022 on the WeChat public account “腾讯研究院”.

[16] The transactions and circulations discussed in this article refer to circulations and transactions on platforms within the territory of mainland China. If the NFT digital collection involves a cross-border transfer, it may constitute an import or export of digital artworks, which is a more complex issue and is not addressed here.

[17] Depending on the specific circumstances, the relevant administrative penalty or criminal prosecution threshold may involve specific amounts of money, so the valuation of the property of the corresponding NFT digital collections will be an important consideration.

[18] See the NFTCN platform agreement for details.

[19] It is consistent with the characteristics of originality, reproducibility and certain aesthetic significance of the artwork.

[20] The determination that the sale is an act of information network dissemination is limited to the analysis of this case, and we are looking forward to more developments in practice and analysis.

[21] The court's analysis of the exhaustion of rights principle is based on the principles of copyright law. If the relevant platform agreements and rules are explicitly agreed upon in relation to copyright licensing or transfer, we believe that the determination and scope of the copyright ownership of the specific work is subject to the provisions of such agreements and rules, if it does not violate the mandatory regulations.

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