Exploring the Legality of Crypto, Smart Contracts, and NFTs in 2023

We’re now quite far from the early and lawless days of cryptocurrencies. In 2023, the legality of digital assets (including NFTs and stablecoins) and smart contracts is a pressing issue. Governments are grappling with regulations for this industry, addressing financial, contractual, and intellectual property concerns.

Cryptocurrencies face varying legal statuses globally, depending entirely on the territory and/or country. Smart contracts pose challenges in contract law and enforceability, while NFTs raise questions regarding copyright and intellectual property rights. Not to mention the financial security issues around different types of tokens.

So, is it legal to use any type of token and smart contract? Let’s find it out.

Crypto bans to consider

The very short answer to that question above is mostly yes, with some exceptions —and local rules to consider. It won’t be the same for someone that lives in China than for someone who lives in El Salvador. We mean here that cryptocurrencies are completely banned in China, while Bitcoin (BTC) is an official legal tender in El Salvador, just for a small example.

We can sum up the global “crypto-legal situation” by mentioning the (fortunately) short list of countries that have banned these assets. We also can mention some of their counterparts, where cryptos have been embraced and welcomed.

In their last Global Crypto Regulation Report, the firm PwC only mentions three full crypto bans: China, Qatar, and Saudi Arabia. However, outside their sample, other countries known for their full crypto bans are Algeria, Bangladesh, Egypt, Iraq, Morocco, Nepal, Pakistan, and Tunisia [US Library of Congress].

Then again, everything seems relative about this topic. For example, other sources mention that cryptocurrencies are legal in Saudi Arabia, but their investors aren’t protected by law and the banks aren’t allowed to deal with them. And the legal circumstances for cryptocurrencies in Iraq are confusing. Its central bank banned them in 2017, but the adoption has been growing anyway.

Since these are digital and typically P2P (person-to-person) assets, it’s quite difficult to enforce a full ban.

Some crypto-friendly countries

Good news here: according to the US Library of Congress Report, at least 103 countries (53% of 195) have legalized cryptocurrencies. By “legalized” we don’t mean they’ve adopted it as legal tender like El Salvador did, but more like they’re widely accepted as means of payment and/or investment and some basic regulations have been put into place for them. Some of these jurisdictions are more welcoming than others, though.

Of course, probably the most crypto-friendly country worldwide is El Salvador, in Central America. They’re even building their own Bitcoin City, and they have their own crypto services network including ATMs and exchanges. In January 2023, they approved a regulatory framework to transact and issue other tokens beyond Bitcoin.

The Central African Republic (CAR) was the second nation to adopt Bitcoin as a legal tender in 2022, but they reversed their decision in March 2023. This was due to the current economic and infrastructure struggles of the country (only 10% of the population has access to the Internet). They still seem open to these assets, though. Their Central Bank Digital Currency (CBDC), Sango, is still working, and its website shows plans to build a Crypto City.

Now, beyond these countries, Slovenia is considered the most crypto-friendly land in Europe. Around 18% of its population is investing in cryptocurrencies, against 22% in traditional assets. Additionally, the eponymous BTC City in Ljubljana (Slovenian capital), one of the largest shopping and entertainment complexes in the continent, is aiming to become a real Bitcoin City where all crypto services would be welcomed.

Switzerland and Germany are also very crypto-friendly. The former has the first established Crypto Valley (Zug), a whole region in which numerous crypto companies have their HQs. However, cryptos are legal and welcomed in the whole country as well. For its part, Germany is crypto tax-free for private investments surpassing a year.

General rules for crypto

Regulations vary per country, but there’s usually a set of ever-present rules for crypto institutions and investors. That includes the classical Anti-Money Laundering (AML) and Countering the Financing of Terrorism (CFT) laws in every country. To avoid these financial crimes, Virtual Asset Service Providers (VASPs) like crypto exchanges and custodians must apply proper Know Your Customer (KYC) practices.

Crypto KYC involves identity verification, risk assessments, and transaction monitoring. Especially in cases where the transaction also involved fiat currency (e.g., BTC/USD). In other words, crypto companies would be closely monitored by local authorities, and they’d probably need to acquire a license —with all the requirements that this implies (capital reserves, reports, payment of taxes, etc.)

For their part, crypto users trading against fiat money would have to share some personal data with those companies. Aside from this, depending on the country and region, they’d also have to pay some taxes on their crypto profits. Perhaps the country with the highest tax rate on cryptocurrencies is Côte d'Ivoire, at 60% –only because that’s a tax on all income (above some threshold), including crypto. Conversely, nations like El Salvador, Switzerland, and Germany apply no taxes for long-term holdings.

Are smart contracts legal?

The legality of smart contracts can vary depending on the jurisdiction and the specific use case. Generally, smart contracts are considered legally binding agreements as long as they meet the requirements for a valid contract, such as offer, acceptance, consideration, and the intention to create legal relations. If they have a valid digital signature (as per international standards), they should be legally enforceable anywhere –if there’s a problem with its own self-enforceable code. However, it's important to note that legal recognition and enforcement of smart contracts may differ across different countries and legal systems.

Some jurisdictions have taken steps to explicitly recognize the validity and enforceability of smart contracts. For example, countries like the United States and Canada have introduced legislation that supports the use of distributed ledgers smart contracts. In these jurisdictions, smart contracts can be enforceable through existing legal frameworks. Therefore, if they’re doing something already illegal, their validity would be nullified automatically.

The legal status of smart contracts may not be clearly defined or may still be evolving in other regions. It's essential to consult with legal professionals and consider the specific laws and regulations of the relevant jurisdiction to ensure compliance and assess the enforceability of smart contracts in a particular context, especially if the use will be institutional.

A kill switch

More recently, the EU Parliament passed a bill mandating the inclusion of a "kill switch" in smart contracts. This measure would require these apps to have an accessible and reversible mechanism to terminate their execution in specific circumstances, like a scam attempt. The introduction of a kill switch is intended to provide a level of control and accountability, ensuring that users can intervene and terminate problematic contracts if necessary.

However, this bill could be considered an attack on a ledger's immutability and decentralization. Someone (likely the project and team behind the contract) would be able to manipulate a program specifically designed to not be manipulated in any way. At least, for now, the bill is still in the negotiation phase.

Are NFTs legal? And the copyright?

Unless you’re trying to launder money or infringe copyright laws, Non-Fungible Tokens (NFTs) are completely legal everywhere, even in China. That’s because these tokens are considered artworks more than means of exchange. As you may know, NFTs are unique tokens that can’t be divided, and their price fully depends on the community.

Outside the linked artwork, NFTs are basically hashes (unique IDs) on a distributed ledger. That’s what the buyer owns, and not the copyright of the artwork itself. The latter keeps belonging to the artist, and even more: in most cases, every time an NFT is sold, a percentage of it goes automatically to the artist’s wallet.

On the other hand, NFT creators should obtain the necessary licenses and permissions for the copyrighted content they tokenize. Artists must also be cautious when using existing copyrighted material in their own creations. Copyright laws apply to NFTs just as it does to other forms of digital content, and understanding these legal aspects is crucial for artists and collectors alike.

So, for example, you just can’t release an NFT collection of Marvel heroes and characters without the explicit permission of Marvel. They’re copyright material, which means no one outside the owners can freely use them. If the artwork linked to the NFT is completely original, then the owner would be the artist and no one else —not even the buyer, as we mentioned before.

Are privacy coins legal?

Privacy coins are digital assets known for their anonymity mechanisms. Usually, cryptocurrencies have a public ledger, where anyone can freely consult transactions and addresses. Bitcoin (BTC) and Obyte (GBYTE) are like that. Privacy coins like Monero (XMR) and Blackbytes (GBB) intentionally hide this data from the public, sharing it with only the involved parties. This could pose an issue for AML/CFT rules.

Privacy coins weren’t designed to commit crimes, though. They were developed to protect the users’ privacy and eliminate intermediaries from the trading process. That’s why they’re legal in most countries, even if some centralized crypto exchanges like Bittrex and Kraken have delisted them. They still can be traded P2P.

So far, only Japan, South Korea, Australia, and Dubai have banned privacy coins, while they welcome other cryptocurrencies. The European Union could be considering doing the same (at least partially), according to a leaked document: “Credit institutions, financial institutions and crypto-asset service providers shall be prohibited from keeping anonymity-enhancing coins.” This is only a possibility for now, though.

Are stablecoins legal?

Stablecoins are likely what worries regulators around the world the most about cryptocurrencies. That’s because they take their value after a national currency (like USD or EUR) or, sometimes, after some precious metals or commodities. The great problem lies in the reserves: do the issuers have proper reserves (1:1 ratio) to back up their assets, or they’re coming from thin air?

In case you didn’t know, there are mainly two types of stablecoins: asset-backed and algorithmic. In the first case, the stablecoins issuers have some kind of asset reserves to back up the token price, ideally in a 1:1 ratio. For example, Tether Limited is the issuer company of the stablecoin Tether (USDT), and they claim to have USD reserves in 1:1 to back up their tokens.

The second case, algorithmic stablecoins, doesn’t have any backup behind it. Instead, their code mints new coins if the price goes up, and destroys a part of the current supply if the price goes down, and that’s how they maintain price stability. However, this system could fail if enough big investors manipulate the natural supply and demand. And that’s what happened to Terra USD (UST) in 2022, causing billions in losses.

Two groups

Partly due to the Terra disaster, many regulators worldwide are developing their own regulations for stablecoins. The new EU law Markets in Crypto Assets (MiCA) has a whole section for these assets, which they call asset-referenced tokens (backed by several assets) and e-money tokens (backed by only one fiat currency).

Algorithmic stablecoins face regulatory challenges in the EU, as issuers are required to demonstrate proper reserves to fully back their coins on a 1:1 basis. This specific type of asset seems to be banned in the region by the MiCA law. Additionally, the MiCA law seeks to impose a trading volume limit of one million transactions per day. Besides, central banks could veto large stablecoins if they have fears they could upend monetary policy.

For their part, the Basel Committee on Banking Supervision (BCBS), an institution that sets and promotes global banking regulations, has divided stablecoins into two groups as well. Group 1 is 1:1 backed tokens, while Group 2 includes unbacked cryptoassets. According to them, “banks’ total exposure to Group 2 assets must not exceed 2% limit of the Tier 1 capital and should generally be lower than 1%.”

As a consequence, algorithmic stablecoins could be heavily limited in numerous countries. Meanwhile, the issuers of backed stablecoins would need more capital and regulatory compliance to access this market. But all of this may vary per country. As the PwC report showed, countries like the United States, United Kingdom, Australia, Canada, Singapore, and the United Arab Emirates are working on their own regulations for stablecoins.

TL;DR

Are cryptocurrencies legal? Yes, with exceptions in some countries (usually non-western). KYC may apply to trade against fiat currencies, though.

Are smart contracts legal? Mostly yes, especially if they have a valid digital signature.

Are NFTs legal? Yes, everywhere, if you’re not infringing copyright laws. The artwork copyright will always stay with the artist, though (unless specifically sold out).

Are privacy coins legal? Yes, except for some countries. And they must be traded mainly in a P2P manner.

And finally, are stablecoins legal? Yes, especially if they’re backed in a 1:1 ratio. Other than that, they could be limited, but still legal.