Since a lot of commenters seem to be hung up on the notion of fair use, let's examine it a bit more closely. It helps if we really understand what we're talking about.

Under US law, the determination of fair use would require the examination of our factors:

1. the purpose and character of the use, including whether it was done for a commercial purpose

The image in question is part of a commercial album release, thus the use is clearly commercial. Moreover, the image was evidently created to facilitate strong visual identification of Baio's album with the Miles Davis classic. The purpose of the use is commercial and promotional.

2. the nature of the copyrighted work

Maisel's photo was a commercial work done for the same purpose as Baio's transformation - promoting an album. Given the iconic status of the album, Maisel's photograph is also iconic and is one of a fairly small number of classic, music-related images. There's nothing here to indicate that the work specifically encourages reuse, but rather a lot that indicates that Maisel's photo is a valuable piece of intellectual property.

3. the amount and substantiality of the portion used in relation to the copyrighted work as a whole

Baio's transformation, despite using a completely different medium, reproduces Maisel's photo in its entirety. Baio's image is instantly identifiable as based on Maisel's photo and might even be mistaken for it from a distance. Baio's sole contribution to his image is changing the medium (using pixellation), without introducing any original content or altering the form.

4. the effect of the use upon the potential market for or value of the copyrighted work

This is the part that people have a problem understanding. We can assume that Baio used a transformed version of the image to reflect the character of his album, but at the same time assumed that since he wasn't using the actual image itself, he did not have to secure licensing for it.
As we've already seen, the image is a valuable piece of intellectual property and it's value derives from the fact that those who would wish to use it - for promotional purposes, like Baio, or for visual products, such as posters, T-shirts, mugs or whatever - must license it from the creator.
If we were to acknowledge that any form of transformation that retains the visual characteristics of the image, but introudces small changes in detail (as Baio did), then anyone who sought to use the work, but did not wish to pay for licensing, could simply make such minute transformations and be set. With current technology, its a cinch - load it into Photoshop, press a button and you are done.
If such transformations were to be considered fair use, the market value of the rights to this image would plummet, simply because it would be easier and cheaper to make small, insignificant transformations than license the image.

Since the case was settled out of court, we can only speculate on what the ruling might have been. However, in light of all of the above, it is highly unlikely that it would have in fact been considered fair use.

70+ rooms!!!!!!!!!!  Wow. Sounds like a office building. The property tax on that location is probably in the millions. Smart aquisition.

First, Maisel encourages this sort of art on the walls of his building, so I doubt he's all that pissed. It's the kind of free speech he might get a kick out of.

Second, So now we're calling the corner of Spring and Bowery as SoHo??? How far east is this neighborhood going? When I moved to the neighborhood Broadway was not considered to be in SoHo, then it was Lafeyette, now Bowery. Sorry but that's just too much of a geographical stretch. What's next, Allen Street is the new Soho???

Why didn't this guy either 1. Take his own photo or, 2. Check with Maisel that it was ok to use?  Even though he altered the photo, it's still unwise to assume that it's fair use when the original belongs to someone else.  Didn't Shepard Fairey have this same problem?  

And, Maisel's building has been a haven for graffiti for years - it's not like his pristine 'mansion' has been destroyed.

Because he tried to make an end run with fair use as an excuse because he knew Maisel would never have ok'd it in the first place.

Fair use does not equal stealing. Just want to correct the indignant posters above this.

By "correct" you mean "express my disagreement with." You are begging the question; we don't think it was fair use. 

Despite my admiration for your correct usage of "begging the question", I still think you're an idiot, and this parodic cover is clearly fair use. 

Way to stick up for the rights of all the poor downtrodden millionaires who own everything in this country though, very brave stance you're taking there.

Actually, YOU'RE begging the question, your statement that Baio got what he deserved is based on the fallacious assumption that he "ripped off Maisel".

Title should be: "Hipster Mob Gangs Up on Elderly Artist Who Stuck Up for Himself". 

Man, Jay Maisel sure has a lot of clueless friends.

It's quite disturbing that Gothamist cheers on the thugs who are vandalizing the home of an 80 year old man and his family. Plenty of folks believe that Baio, who ripped off Maisel's photograph in order to promote a commercial product, got what he deserved. But we're probably not going over to Baio's house to give physical expression to our opinion:

http://lee-phillips.org/music/...

If you seriously don't see how Baio's pixelated artwork qualifies as fair use then you're an idiot.

"... licensing all the cover songs from Miles Davis's publisher..."
Photographer's work has been ripped off since the beginning and now even
more so in the age of the Internet. If he had licensed the music then why not the photography?

ooooh ooh ooh...I stand corrected....please insert "acting on behalf of the petulant little dork"

You just love corporate ownership of everything, don't you, bootlicker?

This is a really stupid form of retaliation. First, Baio used his pic without permission. Second, Maisel has allowed street artists to put up wheatpastes and graffiti all over his building without complaints. Now you're biting the hand that feeds.

Baio doesn't need permission - the whole point of fair use in copyright is to protect transformative works. It's why parody is legal, for example.

I understand what fair use is but I don't think it falls within fair use (although admittedly it is not the easiest to distinguish what is and isn't fair use). I don't find pixelating a version of a well known photo to be used as a cover of an album being sold to be fair use.

If you admit it isn't easy to distinguish, I'd be curious what your rationale is in this case. It's plainly not the photo, anyone with eyes can see it is not the same.