Legality Analysis of Chinese Law on Introducing Royalties/Resale Right to NFT Digital Assets

Last month, X2**, a leading exchange, said on its social platform that it would launch a “royalty selection” function. In other words, the platform tried to give buyers the right to choose whether to pay royalties for NFT collections. The original idea of X2** is as follows: when users purchase NFT digital storage through the platform, they can click “OPTIONAL ROYALTY” to choose how much royalties to pay. Assuming that the normal royalty setting for an NFT is 2%, the buyer can choose to pay 2% (100%), 1% (50%), or 0% (0%) of the royalty.

This directly moved the cakes of many NFT project parties and art creators. Let me ask, as an economically rational person who has not yet achieved financial freedom, isn’t it stupid not to choose 0 royalties?

Therefore, the abolition of royalties has been raging on the Internet, and many NFT project parties and digital artists have attacked it, believing that it is not feasible to implement the “0 royalty” system at this stage, and it will not only fail to pull NFT digital storage out of the bear market. The purpose is to directly destroy the job of a hard-working writer, making everyone’s life that is not rich even worse. As the public opinion fermented, the X2** platform had to declare two days later — “0 royalty is by no means the future of NFT.” Then the platform successively introduced a series of 0 royalty “replacement” policies, trying to boost the NFT under the bear market liquidity.

So, what exactly are NFT royalties? Does the creation of this royalty system comply with legal norms? And most importantly, is there any legal risk in directly transplanting overseas royalty-based gameplay in China’s digital Tibetan field? Today, DappOnline team will answer you one by one.

1. Royalties are not royalties, but resale rights

Royalties in the context of our country refer to copyright royalties. Generally speaking, royalties are the monetary benefits received by the original creator of the intellectual property or the copyright holder from other people who use their intellectual property, and are essentially a kind of remuneration way (some scholars also consider royalties as part of their remuneration).

However, royalties in the context of NFT data are actually not simply “paying for knowledge” in the traditional sense. The current NFT royalties refer to the fact that after a certain NFT is sold once, every time it changes hands, the NFT project party or creators can obtain a fixed percentage of income from the value-added part of NFT.

For example, we created an NFT and wrote a 10% royalty setting into a smart contract on a certain platform, and then the NFT was bought by another one at a price of 100 yuan. A month later, our reputation soared, and the other one took advantage of the momentum to sell the previous NFT at a price of 10,000 yuan, making a profit of 9,900 yuan. At this time, the NFT contract will automatically execute the royalty setting, and transfer 10%/990 yuan of their profit of 9900 yuan to our wallet. After that, if the NFT continues to appreciate and continue to circulate, we can obtain a fixed 10% income from the appreciation of each transfer.

In fact, the royalty game in the overseas NFT market is not the first of its kind in the crypto world. It is even said that the institutional design of continuously granting income to artists through the transfer of artworks already exists, and it has a special term in the legal field — resale right. The resale right was first created by France in 1920. The French expression is “droit de suite”, which originally means “the right to follow the work”. In English, it is expressed as “resale right”.

Under the promotion of developed countries in Europe, the resale right system was written into the Berne Convention, the most widely accepted international convention for the protection of intellectual property rights in the world today, at the Brussels Conference in 1940. It is worth mentioning that China is a party to the Convention and is bound by it. According to the definition of the resale right in the Berne Convention, the resale right refers to — “the right to share in the benefits of any sale of the work after the first assignment of the work by the author”.

In other words, in addition to the first sale, the author can share a certain percentage of the benefits from the resale for each resale of the work, which does not distinguish the transaction mode, regardless of whether the work is resold, or it appreciates during the sale.

We must know that the right of resale in the Berne Convention is only an optional right, not an obligation of international law that states parties must perform to the Convention. It is neither universal nor a rule of international jus cogens. At the same time, the Berne Convention clarifies that the right of resale is a non-transferable, inalienable, but inheritable right (after the author’s death, it is enjoyed by a person or institution authorized by national law, and the specific implementation may depend on the domestic law of a specific country).

The reason why the resale right system is set up, is actually to solve a huge pain point faced by artists from ancient times to the present — works of art are often fired after the death of the writer, and the artist herself/himself, her/his family, and her/his descendants are often not allowed to share the works of art or any gain in appreciation.

This leads to a phenomenon that is unfair in traditional moral concepts — those who create value cannot get benefits. To give a most realistic example, the famous French Barbizon painter Jean-François Miller, as the most famous legendary painter in modern times, created many paintings including “Vessers”, “The Gleaners” and “The Sower”. What is embarrassing is that Miller himself was poor during his lifetime, and he even had to rely on farming to make a living at the most difficult time. His paintings were basically ignored before his death, but they were fired for sky-high prices after Miller’s death, especially the work “Vespers”, of which the price changed and raised several times. While Miller’s astronomical paintings are sought after in palatial auction houses, his widow can only make a living selling popcorn on the streets of Paris in the cold wind every day.

It can be said that the original intention of the establishment of the resale right system is to solve the basic livelihood of artists, but in the era when blockchain technology and NFT have not yet emerged, whether to introduce the resale right system and how to guarantee the resale right in practice are all in pending. There are many disputes, and even today, the resale right has not been legislated and recognized by most sovereign states.

Note: The painting is the famous “Vessier” by Jean-François Millet

2. Can China’s digital collection industry be established?

How about resume system?

I believe that practitioners in the digital collection industry will have a question in their minds after reading this — Is the NFT digital collection royalty (resale right) game feasible in China? What are the pros and cons of setting up royalties (resale rights)? Are there legal risks?

Our team will give an answer first — Although our country’s “Copyright Law” does not introduce a resale right system, the “Civil Code” does not exclude the parties to the transaction from agreeing on the resale right in the contract. On the premise of expressing the true intention, the terms of resale right shall be clearly stipulated in the contract.

(1) Legal basis for the agreement on resale right

At present, there is no resale right system in our country’s intellectual property legal norm system, but this does not mean that civil subjects cannot agree on resale right clauses when signing contracts. Article 130 of the “Civil Code” stipulates — “Civil subjects exercise their civil rights in accordance with their own will without interference.” This is the most intuitive embodiment of the principle of autonomy of will in our country’s “Civil Code”, and the resale right has a legal space in civil legal acts.

Legal scholars generally believe that the rights and freedoms enjoyed by individuals in accordance with the law cannot be infringed (legal reservations) without legal reasons, and the exercise of their rights depends only on the individual’s free will. The disposition and exercise of one’s own civil rights by individuals is the scope of the right holder’s autonomy, that is, the “Civil Code” gives the right holder the greatest possibility and freedom to create rights and obligations that bind different subjects within the boundaries permitted by law. Such freedom is widely reflected in the exercise of civil rights. For example, contract law allows parties to decide whether to conclude a contract, with whom to conclude a contract, in what form to conclude a contract, and to determine the content of the contract.

Let’s get to the question of the legality of the resale right, that is to say, as long as the contract complies with Article 143 of the Civil Code, it simultaneously satisfies

(1) the actor has the corresponding capacity for civil conduct

(2) the intention is true

(3) If it does not violate the mandatory provisions of laws and administrative regulations, and does not violate public order and good customs, it should be recognized and protected by the law.

Our team believes that setting the resale right in the smart contract of digital collections does not violate the mandatory provisions of our laws and administrative regulations, nor does it violate social order and good customs.

Of course, the share of resale right agreed by the project party and the creator in the smart contract must be in line with common sense and general trading habits (for example, refer to the royalty setting of mainstream overseas NFT trading platforms is generally between 2% and 10%). The setting of royalties is too high, which may not only hinder the liquidity of NFT data collection, but may even be identified as an unfair clause signed by one party taking advantage of the other party’s state of distress and lack of judgment ability, and the injured party has the right to Request the People’s Court or arbitration institution to revoke it. In addition, frequent abnormal transactions after setting too high royalties may also be suspected of money laundering.

(2) The ability and inability of Chinese law to establish the right of resale

In fact, the resale right system appeared in Article 14 of the Copyright Law of the People’s Republic of China (Revised Draft for Review) issued by the Legislative Affairs Office of the State Council in 2014. After the manuscript of a musical work is first transferred, the author or her/his heirs or legatees shall have the right to share the value-added part obtained from the resale of the original or manuscript by the owner through auction, and this right is exclusive to the author or the heirs and legatees. The protection measures shall be separately prescribed by the State Council.

But in the end, this article was not reflected in the revised Copyright Law. The root causes are as follows:

(1) The resale right clause only stipulates that creators of works transferred through “auction” can enjoy the statutory resale right, which unilaterally increases the auction cost and causes collective objections from the auction industry.

(2) Teacher Zhou Lin pointed out: Judging from the current situation of the art market in our country, most of the artists who can actually enjoy the benefits brought by the resale right are not those poor and unsustainable artists, but those “Art Tycoon” who need no relief. The number of beneficiary artists is very small and the actual royalties received by the artists are also very small, which is in contrary to the original intention of the legislation of the resale right to help those in distress and to encourage creation.

(3) The implementation of the resale right may lead to considerable social costs, such as the operating cost of the special executive agency for the implementation of the resale right, and the negative impact on our art market.

(4) The resale right is suspected of violating the principle of “exhaustion of rights” (this reason is still subject to intense academic debate even today, and some scholars, from the perspective of the duality of the resale right’s property and person, believe that it does not violate the use of rights as per the principles).

In the process of enacting the resale right into law, Fei Anling clearly pointed out that the question of the legitimacy of resale right is essentially asking whether the author is entitled to share the added value of her/his works through a certain market mechanism. This is actually a manifestation of the limit of legal intervention in the market.

So, does our art market need legislative intervention? This is an important issue worthy of communication between practitioners and legislators of digital collections in our country. However, DappOnline team believes that the biggest significance of introducing the resale right in the current digital collection is that it directly increases the cost of its hype and cleaning transactions, so as to achieve the purpose of compliance transformation of digital collections. Although this transformation is bound to be accompanied by pain, it is the only way for the development of industry compliance.

In the final analysis, we must be clear that academic disputes and legislative gaps are not obstacles to the agreement of the two parties to the resale right. In judicial practice, the most important criteria affecting the validity of the contract are:

(1) the true expression of intention

(2) do not violate legal provisions, general social order and good customs.

At The End

When the team of DappOnline studied the copyright of NFT digital collections and the resale right in traditional legislation, we deeply felt the impact of current technology on traditional legal norms. We often think that the development of emerging technologies will cause traditional legal norms to “invalidate” in the process of adjusting new social relations, but the resale right system is completely different. It can be said that the birth of blockchain technology and NFT’s ERC-721 technical standard has given a new life to an ancient legal specification, making a resale right system born in the field of traditional artworks a hundred years ago an operability and reality in modern society. The traditional obstacles to resale rights, such as the precise positioning of the original rights subject, the real-time tracking of sales data, the calculation of the commission quota, and the timely realization of benefits, are being broken one by one.

We believes from beginning to end that the relationship between emerging technologies and traditional legal norms should not be one-way output by one party and passive acceptance by the other party. From the dialogue between NFT royalties and resale rights, we seem to see a difference in the dialogue between the two.

A possibility — realizing the system with technology, and integrating technology in the system.

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(The above information is not intended as investment advice, this article only represents personal opinion)

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