NFTs have an image problem: They are frequently the target of cons, and con games and are also regarded as environmentally destructive. Many consider them gaudy or not worth their excessive price. However, they have always had one saving grace: royalties.
Last year, nonprofits like UNICEF decided to sell NFTs to earn royalties. Many creators, such as the rapper Nas, have entered Web3.
Unlike artists selling a physical picture and receiving money from the initial sale, artists can mint a single NFT and hope to receive eternal revenue from a portion of every future on-chain sale of that asset.
However, one of the NFT’s primary benefits is affected, as shown by SudoAMM, a marketplace developed by the NFT exchange Sudoswap. In July, Sudoswap eliminated all royalties to lower transaction fees to 0.5%, which caused anger among NFT artists.
And artists are taking measures to safeguard their income. QQL, a generative NFT project by Tyler Hobbs, has blocked X2Y2, an NFT marketplace that enables purchasers to avoid royalties.
QQL #125 – by 51mul4crum.eth pic.twitter.com/Hhz0pLSsA1
— Tyler Hobbs (@tylerxhobbs) October 18, 2022
According to Arya Ghoner, also known as Kingfo, a web3 creator, there is no clear way for artists to have recurring monthly income by removing marketplace payments. Good projects will likely have to dilute you as an early investor with secondary collections to continue raising funds for the company or their business plan.
An NFT artist, Damien Roach, argues that removing or decreasing royalties would counter web3’s progressive goals. We should stay focused on establishing new, more equitable and sustainable ways of doing things instead of just recreating the old, outdated and failed structures. To give up on forging this reality would be a huge mistake.
The Ethereum token standard EIP-2891 aims to associate royalties with on-chain transactions. NFT wrapping undermines this effort to decentralise NFT royalties, leaving NFT royalties to the discretion of marketplaces.
The stigma around wrapped NFTs
Among the firms that manage NFT transactions are centralised NFT marketplaces. For instance, OpenSea checks the transaction’s authenticity and facilitates the sale by transferring ETH from the buyer’s wallet to the seller’s. OpenSea will then deduct the specified percentage, up to 10% of each sale, and return the cash to the original developer as a royalty payment.
Ethereum Improvement Protocol (EIP) 2981 specifies that when the sale is completed and the NFT is transferred, a portion of the sale must be paid to the creator. This part and the wallet address of the original inventor are encoded into the smart contract code. However, NFTs can be encased under rules other than those initially intended.
Marissa Hudson, a blockchain developer, explains that wrapper functions as a box covering whatever is inside. It is as though the smart contract examines the box before determining whether to approve or reject its transfer.
As an illustration of how wrapping works, suppose an NFT is issued under ERC-721. This is the Ethereum token standard via which NFTs are created. The NFT owner is the person with the NFT in their wallet and is free to use it. In other words, under ERC-721, the owner and the user are linked.
However, a new token standard known as ERC-4907 eliminates the link between owner and user, enabling the renting of NFTs.
The ERC-721 NFT is enclosed in an ERC-4907 box. When this wrapped token passes through an ERC-4907-compatible smart contract, it is rentable though not intended.
Then, an ERC-2981 token going through an ERC-2981 smart contract would send a percentage of the sale to the selected original artist. However, the ERC-2981 coin can be encased in an ERC-721 box and traded via an ERC-721 smart contract. The ERC-721 smart contract would confirm this transaction, and it would proceed without royalties.
Therefore, ERC-2981 can only support on-chain royalties if all parties agree to, adopt this token standard in conjunction with the appropriate smart contract. Otherwise, “it’s simply ERC-2981 — also known as ‘Ask Politely For Specific Royalties,’” jokes Hudson.
The problem of on-chain royalties
There is a mechanism to prevent NFT wrapping that avoids royalties, but it would create more issues than it would solve.
Most NFTs comply with the ERC-721 token standard, which has multiple operations, including “transfer from.” This is what traders use whenever an NFT changes addresses. It also enables an NFT to be sold in a marketplace, regardless of whether the marketplace has royalties, like OpenSea, or none, like SudoAMM.
Nicholas, a blockchain developer, explains, “As long as you permit the holder of the NFT to send the NFT to another address, it is difficult to prevent a marketplace from using that function to complete the transaction.”
He adds that you might prevent this circumvention by preventing NFTs from being transferred between wallets or anywhere else besides during a sale. However, it wouldn’t solve the issue because I could simply sell it to you for a small amount of ETH to circumvent this process and conduct a larger ETH transaction outside the marketplace.
According to Hudson, this distinction between sales and transfers is difficult to establish. There are several transfer causes, such as a user exchanging a token between multiple wallets. To block “transfer from,” it would be impossible for NFTs to move across wallets.