All good points. I want to make note of two other cases that seem relevant, both related to Youtube. In 2010, a judge in the US threw out Viacom's lawsuit against Youtube/Google, ruling that they were protected by the Digital Millenium Copyright Act when users posted copyrighted material[1]. In Lenz vs. Universal Music Corp.[2], a judge ruled that rightsholders have to consider if a piece of content is protected by fair use before filing DMCA takedown notices.
Let's say an annotation platform allowed users to post snippets of material as freely as Youtube, along with annotations and commentary. And let's use A Perfect Day for Bananafish again as the source of these snippets of text. Imagine the following sequence.
Alice posts the first paragraph of the story, along with extensive notes. Bob posts the second paragraph of the story, along with extensive notes. Carol adds an annotation to the first paragraph with a link to the second paragraph. Dave, Eve, and a few dozen other people jump in the mix, and pretty soon you have the entirety of A Perfect Day for Bananafish on the annotation site, and it's incredibly easy to read the paragraphs in full and in their original order. Maybe the annotation site even has an algorithm that detects related pieces of content, and creates the links automatically. (This is certainly the case for Youtube.)
Where should the takedown notice be directed? Each person in the chain only posted a small part of the work, and each post includes annotations and commentary that would seem to grant it fair use protections. Taken as a whole, though, the entire work has been recreated in full. Can the rightsholder demand that the website remove links users make between posts? If so, under what section of the DMCA? And what happens if the links are made algorithmically?
Does a rightsholder have to issue takedown notices for each piece of the chain individually? If the people who made the posts file appeals, does the rightsholder have to take each and every one of them to court in separate cases? And if they do, would they get demolished by counterclaims?
This isn't an idle question, when you think about the annotations for The Great Gatsby[3] that the founders of Rap Genius have been mentioning in their recent interviews. It seems like this sort of scenario is inevitable, and I don't know if copyright holders have any way of actually dealing with it.
[1] http://www.google.com/hostednews/afp/article/ALeqM5h_AfErLSM...
[2] http://en.wikipedia.org/wiki/Lenz_v._Universal_Music_Corp.
[3] http://rapgenius.com/search?q=the+great+gatsby
Edit: It's important to keep in mind that, in this scenario, all of the potentially infringing content is being posted by people with no commercial motive, which makes it different from the Shepard Fairey case. The annotation site itself is making money, but is protected by the DMCA under current understanding of the law.
Edit x2: I love how deeply annotated this discussion of annotations is. Quick, someone link to this thread from Rap Genius and close the loop!