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Taxing the Metaverse: Incorporating the Virtual Economy into Current Tax Systems

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The Challenge of Taxing the Growing Metaverse

As the metaverse continues to expand and attract a staggering 400 million users worldwide, a pressing question arises: How do we effectively tax this thriving virtual world? The metaverse has become a popular destination for millions of people, with its current active user count reaching 400 million. In 2021, its value was estimated at $58.5 billion, and experts predict it could skyrocket to $1.5 trillion by 2030. This virtual realm is no longer just a realm of entertainment; it has emerged as a formidable player in the global economy. With such exponential growth, it becomes imperative to incorporate this virtual economy into existing tax systems.

Why Tax the Metaverse?

But why is there a need to tax the metaverse? According to a research paper by Harvard researcher Young-Ran (Christine) Kim, it is essential to view this transformation as another business sector that should be subject to taxation, just like any other industry. The argument for taxing the metaverse is supported by well-established theories and perspectives on regulation. Earning profits, making investments, and receiving rewards within this virtual space are akin to traditional money-making activities outlined in the Internal Revenue Code. By not taxing this thriving sector, governments risk losing out on significant potential revenues that could contribute to the country’s treasury. Additionally, implementing a proper tax system can prevent the metaverse from becoming a tax haven and ensure transparency and accountability within financial markets.

What Can be Taxed in the Metaverse?

Let’s explore how individuals generate income in the metaverse and how these earnings can be taxed:

Profits and Gains

In the metaverse, people can earn money through salaries, trading profits, and dividends, much like in the real world. However, these profits may take the form of virtual goods or cryptocurrencies. The Internal Revenue Service classifies cryptocurrencies as property, subjecting them to capital gains tax rules when traded or sold. This classification can be expanded to include various digital assets within the metaverse, forging a connection between virtual profits and real-world tax implications. Valuing these digital assets accurately can be challenging due to their volatile nature. The research paper suggests implementing dynamic tax approaches that reflect market fluctuations. Furthermore, converting digital assets into cash can be complex. One proposed solution is to allow taxes to be paid in kind, using digital assets or services available within the metaverse as a form of payment. Drawing parallels with taxable barter transactions, this approach ensures a balanced and fair tax structure that integrates seamlessly with existing frameworks.

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Self-Created or Enhanced Assets

The metaverse fosters creativity, enabling users to create or enhance digital assets such as virtual weapons or non-fungible tokens (NFTs). While NFTs are currently subject to a 28% tax on all royalty gains, taxation on other digital assets remains undefined. The metaverse could potentially introduce a new category of calculated income derived from self-created or enhanced digital assets. Imputed income, which encompasses economic gains from personal resource utilization, could be subject to taxation in the metaverse. Evaluating and monitoring these activities becomes easier within this digital realm, opening doors to new tax opportunities. However, implementing such a system would require extensive discussions involving policymakers, tax experts, and industry stakeholders to ensure an effective and fair approach to taxation.

Rewards

Within the metaverse, users are enticed by rewards, such as loot drops during games. Although these rewards hold real value, determining when and how to tax them presents a challenge. Leveraging the metaverse’s tracking capabilities, it may be possible to tax these rewards immediately, promoting fairness and discouraging tax evasion. While traditional bonuses are generally not taxable in the United States, bonuses within the metaverse could be subject to taxation.

Unrealized Gains from Virtual Assets

Unrealized gains refer to gains that exist only on paper and are realized only when converted into cash or used for purchases. Current tax laws only tax these gains upon realization, which may not be suitable for the dynamic world of virtual assets. An alternative approach would be to tax these assets based on their market value at the end of each year, providing a more accurate representation of an individual’s financial situation. This unique characteristic of the metaverse could enable the imposition of immediate taxes, disrupting traditional tax landscapes and ushering in a new era of taxation.

Where Should Taxes Be Collected?

One challenge in taxing the metaverse is determining how to collect taxes in a sprawling virtual universe that lacks a physical address. This issue requires innovative solutions and further discussion to establish an effective taxation framework.

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