I’ll keep repeating this until it becomes a reality: the law is coming to the wild west of NFTs. Copyright DCMA takedown notices have already started appearing and, as I predicted in my previous blog, securities regulations have caused one prominent project to be delisted from OpenSea (the largest secondary market for NFTs).
What is going to be next? Sure, securities law and intellectual property issues are at the forefront of everybody’s mind, but what people aren’t ready for are the class actions that are going to be coming to NFT land. They are coming, and who knows if the next celebrity cash grab with an unrealistic roadmap or rug pull will land you a share of these class action settlements that are sure to follow these lawsuits.
If you have been in the NFT game long enough, you have likely been unfortunate enough to buy into what is colloquially referred to as a “rug pull” which is when a developer team drops an NFT with promises of future development only to ghost the project immediately after minting. If not a straight up rug pull, you have bought into a project that makes lofty promises with no ability or intention to actually deliver on those promises (looking at you, Boneheads team 🤨).
What you may not know is that, as a victim, YOU may be entitled to compensation (if my defense counsel brethren knew I uttered those words I might be excommunicated, so don’t tell them I said so). There are a few different ways that these bad actors could be sued. I’ll give you a brief rundown below on how those lawsuits would look.
Consumer Protection Lawsuits
Most (if not all) states have codified consumer protection laws which prohibit unfair, deceptive, and fraudulent business practices. These laws typically have both a civil and criminal element which allows the state to prosecute the bad actors and also allows private citizens to sue companies or individuals for monetary relief (often including potential punitive damages). For example, in Missouri we have the Missouri Merchandising Practices Act (“MMPA”).
Under the MMPA, unlawful conduct is defined as “use or employment by any person of any deception, fraud, false pretense, false promise, misrepresentation, unfair practice or the concealment, suppression, or omission of any material fact in connection with the sale or advertisement of any merchandise in trade or commerce or the solicitation of any funds for any charitable purpose … in or from the state of Missouri.” A blatant rug pull or unfulfilled roadmap would almost certainly constitute a “misrepresentation” or “false promise” which would be recoverable under the MMPA as well as most other states’ consumer protection laws.
The biggest issues holding back consumer protection lawsuits are (1) limited drop sizes (usually 10,000 items or less) making enough plaintiffs for a class action from any given state hard to gather; and (2) limited amounts in question, as most drops are for .08 ETH (~$300 USD) or lower, making amount in controversy relatively low. However, it is not uncommon to have consumer protection lawsuits with people from many different states represented. These varying laws are often similar enough that the predominant issues can be decided on a class-wide basis and state law particularities are decided at the class certification and liability stages. Additionally, most of these laws allow for punitive or multiplied damages, meaning people wouldn’t necessarily be limited to mint cost recovery and could get a piece of the developer’s secondary royalties as well.
Consumer protection lawsuits are where I see most NFT class actions focusing. For reasons discussed below, breach of contract actions will have many more hurdles to overcome to survive summary judgement. Consumer protection laws are generally broad enough to allow relief for the situations which are common in NFTs (rug pulls and unfulfilled promises or roadmaps in particular). There will be other issues which hold these lawsuits back. One issue will be locating the actual people to sue since many developers are not doxxed (AKA, are anonymous internet personas). But some clever digital forensics and common internet discovery practices can likely identify most, if not all, of these developers. Additionally, notice to potential class members could be airdropped in holders’ wallets or announced on the project’s twitter and/or discord, to gather the necessary numerosity to warrant a class action.
I will be closely following the space, so I will let you all know when the first prominent NFT consumer protection lawsuit is brought and how it advances through the court system.
Breach of Contract Claims
Another type of lawsuit would be a standard breach of contract lawsuit. Some states require any contract for over a certain amount or for certain types of purchases be written and signed by both parties. The particularities on what contract formalities are required for any given state are often called the state’s “statute of frauds.” Note that the “contract” you mint from may or may not satisfy any given statute of frauds. That will likely be covered in a later article, but that “contract” which you mint from is different from the “contract” you are agreeing to when you buy the NFT. For example, the Bored Ape Yacht Club minting contract doesn’t mention licensing rights anywhere, but people are buying under the assumption that those licensing rights (as covered on the Bored Ape website) are a part of the purchase.
However, even contracts generally required to be in writing and signed by both parties generally have carve outs for oral or written representations outside of the formal written contract. That means every time a developer makes promises in the discord (even if those promises are not in a formal roadmap or announcement about the project), it could be a breach of contract if that representation is not met. This will differ from state to state, as some require actual reliance on the representation to be recoverable (meaning if you didn’t see the hypothetical comment in the discord you can’t be harmed by it) while others would require the representation to be “material” (i.e., important) to be recoverable.
It will be interesting to see how courts handle the issue. First, generally breach of contract is only available between the contracting parties. Meaning, if you buy a product off the secondary market instead of from the drop, your claim would be limited to the person you bought it from and not the developer. That is where consumer protection liability steps in, which allows a quasi breach of contract claim to be brought even when a product is not directly bought from the manufacturer of the product.
Additionally, it is unclear what the “terms and conditions” of any particular NFT purchase are. I have yet to see an NFT product website or discord with terms and conditions (other than for things like licensing/intellectual property rights). So it is unclear what a court would consider a part of the contract vs. advertising and “mere puffery” which is not a real promised feature of the NFT being purchased.
Finally, there are defenses for breach of contract lawsuits such as when it is an illegal agreement. Just like you can’t sue your drug dealer if he doesn’t give you the correct drugs, you also may not be able to sue an NFT developer if the NFT is for an illegal DAO or investment contract which did not obey SEC regulations.
While breach of contract lawsuits will be harder to win in the NFT space, I certainly see them being brought and being viable claims depending on the state law being applied and the facts/circumstance of any given case.
There are other miscellaneous claims which can be added on based on the facts and circumstances of any particular lawsuit. For example, many states allow civil claims for common law fraud, breach of warrantee, fraudulent inducement, negligence, and willful/wanton conduct. These claims will differ in elements and availability from state to state, but would largely be add-on claims to an overarching breach of contract or consumer protection lawsuit.
I’ll keep saying it until I am red in the face: the law is coming. This doesn’t just include the FBI and SEC, but also individuals after their pound of flesh when a project fails to deliver on its promises. I could very much see there being a cottage industry of plaintiff class action attorneys suing, and getting very good at suing, failed or failing NFT projects. If you are a plaintiffs’ firm bringing such a lawsuit or know of one being brought, my DM’s are open. I would love to cover it for my blog.
If you have any questions or would like me to write about anything else law and NFT related, let me know on either of my twitter pages! As always, I am an attorney, I am not your attorney. For legal advice, you should always consult (and pay for) an attorney.