Tax the Metaverse Calls Gain Momentum Following Scholarly Research

A new research paper from Harvard legal scholar Christine Kim argues that the same tax principles that apply to physical world income should extend to the metaverse.

Christine Kim, a law professor at Yeshiva University, laid out the case for taxing the metaverse in her recent paper “Taxing the Metaverse.” She contends that metaverse activities like trading virtual assets, selling digital products, and providing services meet the standard definitions of taxable income. 

“Because economic activity within the Metaverse satisfies the Haig-Simons and Glenshaw Glass definitions of income, its exclusion will create a tax haven,” she says in her research paper.

The Metaverse Offers New Possibilities for Tax Policy Experimentation

A key reason the metaverse has ignited such interest around taxation is its potential to closely track all transactions and measure individual gains. This gives tax authorities an unprecedented ability to monitor economic activity and accumulate tax revenue in real time.

Kim advocates moving from a system of taxing only realized income and capital gains to one that taxes unrealized gains as they occur. The transparency of the metaverse would facilitate this shift. She argues this approach could make the metaverse a test environment for envisioning the future direction of tax policy.

A major consideration is how to go about collecting taxes in decentralized digital worlds. Kim discusses two potential approaches: requiring platforms to withhold taxes on transactions or having users file taxes directly based on transaction records they receive.

Kim expresses a preference for the withholding model, while acknowledging users may object to platforms taking a direct role in tax collection. Resistance could arise from those participating in the metaverse specifically to exchange value outside the traditional financial system.

New Opportunities to Engage Policymakers Through Metaverse Tax Reforms

While the metaverse is a novel concept to many lawmakers, Kim suggests tax policy could represent a more familiar entry point. Applying real-world tax principles to metaverse activity can ground the concept for policymakers, as well as highlight the scale of economic value being generated.

The focus on metaverse taxation may also compel policymakers to deepen their understanding of Web3 technologies that could disrupt existing legal frameworks. 

“The Metaverse can be a laboratory for experimenting,” she suggests. “It has the potential to simulate scenarios that are unlikely to ever occur in the physical world.”

Lawmakers not directly engaged with blockchain technology may also see value in exploring how these tools can transform approaches to taxation.

The Evolving Debate Around Taxing Virtual Worlds

This academic exploration of taxing the metaverse represents just the beginning of what will likely be an extensive debate. While Kim lays out an early framework, the discussion will grow more complex as the number of metaverse platforms increases.

Open questions include how to handle issues like tax avoidance through users spreading assets across different virtual worlds. Enforcement cooperation between platforms may prove necessary.

Additionally, comprehensive taxation will require establishing clear guidelines around how to value newly created metaverse assets that have no physical counterpart.

However, implementing real-time taxation of unrealized gains could also face backlash, as it represents a major departure from the status quo. Critics argue it would create unnecessary tax burdens and friction that could stifle economic activity. 

The lack of predictable liquidity in metaverse markets means users may struggle to pay taxes on gains that have not yet been realized through withdrawals. And participants drawn to the metaverse specifically for its decentralized nature may push back against this degree of financial oversight. 

As metaverse platforms consider how best to integrate tax compliance, they will need to weigh the benefits of upfront revenue collection against concerns over discouraging user participation. Real-time taxation of unrealized gains may be impractical in the physical world but could become a viable model in virtual economies. Lawmakers have much to learn from this glimpse into the future of taxes.