Consumer Law within the Web3 space

Legislative interventions in consumer protection lag far behind the reality of events that increasingly see web3 shopping, especially given the expansion of NFT purchasing.

The information obligations under the Consumer Code and European law require professionals providing goods or services to consumers to provide information to consumers in clear and comprehensible language, prior to the conclusion of the contract.

Fulfilling this obligation can be complex due to the innovative nature of these goods, and understanding for the consumer what he or she is really buying, without adequate prior information, could lead to an increasing number of disputes.

The European legislator adopted specific rules applicable to contracts for the supply of digital content with Directive (EU) 2019/771, which was transposed into Italian law by Legislative Decree No. 170/21 amending the Consumer Code.

The new discipline expressly deals with ‘goods with digital elements‘, i.e., those goods with a digital component without which they cannot function. The digital component may be internal to the good, incorporated, or external, interconnected, but in both cases it must be essential for the good itself, meaning that without this characteristic it would not be able to perform its functions.

In the specific context of the sale of digital goods, the new subjective and objective conformity requirements dictate that the characteristics of the digital content must correspond, respectively, to what is stipulated in the contract and to what can reasonably and objectively be expected from the digital content itself.

The European Directive also states that the seller must ensure that the consumer is provided with the updates, including security updates, necessary to keep these goods in conformity for the period of time that the consumer can reasonably expect, taking into account the type and purpose of the goods and digital elements, and the circumstances and nature of the contract.

The seller must therefore fulfil a strict obligation to provide information about available updates so as to be exempt from liability for lack of conformity in the event that the consumer, despite receiving information, does not provide the necessary updates or installations.

In the specific case of the purchase of NFT, non-conformity of the goods can be recognised when the content is not available or is altered.

On the other hand, doubts as to the non-conformity of the goods arise when the NFT does not exhibit the promised rarity characteristics; the scarcity of the NFT is in fact fundamental for the quantification of its value, and a degree of rarity significantly lower than that expected by the consumer could render the goods unfit for use and therefore not conforming according to the subjective requirements. 

The contractual terms and conditions of sale of the NFT should therefore set out precisely what degree of rarity is to be guaranteed in the future for the NFT sold, and comply with the requirement of good faith and contractual transparency with regard to multiple other, often underestimated issues, such as, but not limited to, the possible consequences in the event of failure of the blockchain and the action for damages.

Another issue that will be decisive for the application of the protections provided by consumer protection legislation is to resolve, in NFT purchases, the status of consumer.

Article 3 of the Consumer Code defines a consumer or user as ‘a natural person acting for purposes which are outside his or her trade, business, craft or profession’.

In practice, however, we see an increasing use of NFT for advertising or marketing purposes, and the category of buyers is divided into occasional and ‘speculative’ or ‘collector’ buyers, who might not be considered consumers but rather ‘professionals’.

This first distinction will be the basis for the interpreters of the law for the application of many other issues that currently do not find practical application because the European consumer protection rules were designed for the conclusion of “traditional” contracts, not through smart contracts: think of the issue of the so-called unfair clauses and the impossibility of double signature of clauses required by Art. 1341 of the Italian Civil Code; or the so-called consumer forum, today it is difficult to establish the domicile of the consumer.so-called unfair clauses and the impossibility of the double signing of clauses required by Art. 1341 of the Civil Code; or the so-called consumer forum, to date it is difficult to establish the domicile of the buyer/consumer in the crypto world, precisely because of the anonymity that characterises blockchain environments.

The EU’s new Markets in Crypto-Assets Regulation (MiCA) may partly provide a solution, as it prohibits the anonymity of crypto-asset holders for admission to trading platforms, but NFTs will be excluded from the scope unless they fall under existing crypto-asset categories. 

The European Commission will be tasked with preparing a comprehensive assessment and, if deemed necessary, a specific, proportionate and horizontal legislative proposal to create an NFT regime and address the emerging risks of this new market.

Purchase of NFT and right of withdrawal

Another crucial issue for consumer protection and web3 shopping concerns the right of withdrawal.

According to Directive 2011/83/EU on consumer rights, the consumer must be informed about the possibility and how to exercise the right of withdrawal, i.e. the right to withdraw from a distance contract within fourteen days, without having to provide any justification. 

The smart contract under which an NFT is usually sold does not allow for the exercise of the right of withdrawal, as it is not possible to stop the execution for non-performance or in case of a change of heart.

The smart contract in fact uses the formula “if this/then that”, by virtue of which, upon the occurrence of a given event (this), certain effects are produced (that), which are predetermined by the parties themselves, based on strict instructions.

In application practice we therefore see numerous transactions with general contractual terms and conditions that explicitly exclude the right of withdrawal.

This exclusion is justified by making the NFT purchase hypothesis fall within the exceptions provided for in Article 59, letters a), b) i), m) and o) of Legislative Decree No. 206/2005 (Consumer Code). 

In this respect, it is recalled that the right of withdrawal is excluded (sub-para. a) in service contracts after the service has been fully performed if performance has begun with the consumer’s express agreement and acceptance of the loss of the right of withdrawal following the full performance of the contract by the trader and (sub-para. b) where the price is linked to fluctuations in the financial market which the trader is unable to control and which may occur during the withdrawal period.

Furthermore, the right of withdrawal is excluded (sub-para. i) with respect to the supply of sealed audio or video recordings or sealed computer software which have been opened after delivery, or (sub-para. m) with respect to contracts concluded at a public auction.

Another exception (sub-para. o) is for the supply of digital content (such as NFT) by means of a non-material medium (such as a private key for an NFT or other NFT redemption code) if performance has begun and, if the contract imposes an obligation on the consumer to pay, if three cumulative conditions are fulfilled: 

• the consumer has given his prior express consent to commence the performance during the right of withdrawal period;
• the consumer recognised that he thus lost his right of withdrawal;
• the trader has provided confirmation of the conclusion of the contract in accordance with the terms of Directive 2011/83/EU for distance contracts.

A possible solution to allow consumers to exercise their right of cooling-off could be found in the new NFT standard, which would guarantee their purchases against scams (better known as ‘rug-pulls’) as well as the possibility to ask for a refund in case of withdrawal before the deadline.

The term ‘rug-pull’ refers to a type of scam that generally occurs when the developers of a project, after creating the cryptographic token, increase its value in order to attract as many investors as possible, and then withdraw all funds and abandon the fraudulent project.

When speaking of a standard for NFT instead, one is reminded that it refers to the unique identification of a token with respect to others of the same smart contract, called ‘ERC-721’, introduced, as is well known, in 2017, by Ethereum, as the first protocol for the creation of NFTs and to date the most widely used, representing a unique and infungible asset.

The publication of a new anti rug-pull standard, ERC-721R, officially released on 11 April 2022 and aimed, among other things, at countering fraudulent NFT projects, could give the user a right to reconsider their purchase and, thus, be refunded the price paid for the minted NFT.

In particular, this mechanism takes place through a lien on the deposit of the sums placed as collateral by the smart contract. These funds can only be withdrawn, by the creators, after the lapse of a period of time (such as the 14 days for the right of withdrawal in off-premises purchases) that allows buyers to return their NFT and receive a refund from the signed smart contract.

This new standard represents a possibility both in terms of openness towards innovative solutions concerning the user’s right to rethink and the consequent exercise of the right of withdrawal, and in terms of a guarantee against certain fraudulent practices: although the purchase of NFT is irreversible, if during this period the creators decide to rug-pull, buyers will be able to request a refund of their funds by the end of the waiting period, losing only the gas fees incurred for transaction costs.

The use of such a new protocol for the generation of NFTs, besides being more advantageous for buyers, as it would limit possible losses to only the fees for processing and validating transactions on the blockchain, presents a real opportunity for commercial service providers to promote their businesses also in the cryptocurrency world, creating trust in the market and attracting more investors.