A Global Guide for In-House Counsel: Doing business in a rapidly changing world

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Commercial – Crypto & NFTs

What are the biggest investment opportunities in digital – and how can clients decide on the best entry point for them?

Given that the ethos of digital assets is that of decentralization and freedom, I believe the best investment opportunities lie in tools that empower individuals, companies, and communities to leverage this ethos: or conversely, tools that help governments fight bad actors taking advantage of the opacity and complexity of these assets.

Digital assets that link to IRL utility like event passes, marketing, etc. (think NFT’s, with extended utility), coupled with tools that make the interaction between these and the masses, also stand a good chance of providing value and making money. Lastly, I believe that ecosystems that combine all of the vital CeFi, DeFi and neobanking features will be one of the biggest investing opportunities for 2023.

According to one of Bankrate’s recent reports, more than 60% of users find it challenging to use crypto-first applications. The challenges include registration and identity verification issues (33%), complicated user interfaces (49%) and even more confusing digital assets purchasing and trading (57%).

A seamless, hassle-free experience can only be achieved by deploying next-generation technologies, and companies such as Blockbank are known for being a true powerhouse for introducing innovative solutions. The best entry point is determined by their time horizons and risk appetites.

“The crypto market has cooled and values have stayed low, with this period being dubbed The Crypto Winter”

Crypto can be a volatile market: how do you advise your clients to mitigate risk when trading in digital currencies?

Like any early-stage technology, there are many risks associated with digital assets as we have observed in the past year. Since the collapse of stablecoins TerraUSD, LUNA and more recently FTX, cryptocurrency values have dropped significantly. Companies that work in the cryptocurrency space were equally impacted. The crypto market has cooled and values have stayed low, with this period being dubbed ‘The Crypto Winter.’

So how do you mitigate risk? Generally, the elevated levels of risk come from high volatility in the value and liquidity of crypto assets. First and foremost, you need to gauge how much risk is suitable for you. You should not be investing amounts that you cannot afford to lose. Your investments should be diversified to reflect your goals and risk tolerance. Make sure you are trading on a registered crypto asset trading platform that has security as a priority, one that has safeguards to protect your assets from loss, theft, or misuse. Platforms that operate in Canada and trade securities or derivatives are required to register with securities regulators. Also make sure you have an understanding of how your coins will be stored: a hot wallet (connected to the internet) or a cold wallet (offline storage).

Secondly, do your research. Look into a project’s reputation, news articles, market capitalization, recent trading volume, executive experiences and profile of their team, their community, and so on. Once you are satisfied, use your secure platform to invest in that asset. Your research is crucial in helping you identify red flags and recognize risks. Crypto scams will often promise astronomical returns capitalizing on your fear of missing out on a great opportunity. They will charm you with great marketing, and excite you with guaranteed returns. If we have learned anything this Crypto Winter, it is that crypto is volatile and there is no guarantee.

Finally, seasoned professionals and reputable resources are out there to help you succeed. Take advantage of them. Some clients decide to invest before getting guidance from investment advisors or professionals such as lawyers or accountants. We often remind them that “going it alone” is difficult and carries a lot of risk. Successful investors and advisors devote considerable time to build knowledge and skill through research and practice. This is experience that you should capitalize on, as they will help you understand the market, develop investment strategies, and lead you to trustworthy platforms.

How is your jurisdiction managing the legal challenges of NFTs: for instance, taxation on purchases, IP, ownership and theft?

NFTs are taxable in Canada and earnings from NFT dispositions are treated as business income or capital gains depending on the circumstances. Merely holding NFTs is not taxable. Where NFTs are traded in the course of business activity, any earnings are considered business income and are 100% taxable. Accordingly, if a business accepts NFTs as a form of payment, they may need to pay sales tax and remit the amounts owed. By contrast, where the sale of an NFT is not in the course of business activity, then any earnings are treated as a capital gain (or capital loss), of which 50% is taxable; as such, recording the adjusted cost base of the NFT is crucial for accurate capital gains reporting.

The intersection of NFTs and intellectual property (IP) rights is still unsettled in Canada, but the general rule for NFT purchasers is caveat emptor. The IP rights (if any) associated with an NFT are governed by the terms or contract underlying the NFT. It’s a common misconception that owning an NFT automatically confers IP rights (such as trademark or copyright) to the underlying work itself. Instead, most NFTs only provide purchasers a limited license to display or use the NFT in specific ways. For example, Bored Ape Yacht Club NFTs provide purchasers with an unlimited, worldwide license to use the NFT for commercial purposes, as opposed to full copyrights in the work. In any event, any assignment of copyright in Canada needs to be in writing and signed by the author, which obviously complicates any NFTs ability to confer copyrights in Canada.

In Canada, like other jurisdictions, once an NFT is stolen there is little recourse available and the nature of decentralized assets makes recovery unlikely. NFTs are generally stolen using phishing-style scams that gain access to credentials that enable thieves to drain victims’ wallets. As with purchasing NFTs, the best course of action NFT owners can take for security is to practice caution and prudence in all online interactions. How Canadian courts characterize NFTs (i.e. personal property vs negotiable instruments) and their corresponding remedies remains unclear. However, jurisdictions such as the UK and Singapore have recognized NFTs as protectable digital assets and a form of legal property, and this jurisprudence may influence the future decisions of Canadian courts.

TOP TIPS

Exploring digital asset investments

When considering an investment into the crypto/ blockchain/web3.0 space, keep the following three points at the forefront of your decision-making process:

  • Diversification of reliable service providers.
  • Custody of assets is key –
  • Consider futures and ETFs

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