Not allowed anywhere as stated by TOS which supersedes anything stated in-game.
However Tupper pointed out a issue with the system on discord. They can only moderate / action content based off of reports, if nobody reports anything then nobody gets banned. This is where a lot of confusion comes from, because 2 “partners” in a private world are unlikely to report each other and thus nothing happens to them, and this leads them to believe that VRChat doesn’t care about NSFW content when that isn’t actually the case.
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in short, the flag in the sdk is a trap.
The “sexually suggestive” tag is not a trap, it’s for content that is sexually suggestive (like latex kink suits, other fetish/kink gear, or overtly revealing/sexually appealing) not for explicit content like full nudity and features.
The keyword here is “sexually suggestive” NOT “sexually explicit” the creator guidelines go more into detail about it:
Sexually suggestive - Avatars or worlds that display, imply, or promote sexually provocative poses, clothing, or activities. This includes but is not limited to overly revealing attire, sexually suggestive or provocative animations, or sexually-themed environments and avatars.
Content labeled “sexually suggestive” might be an avatar wearing revealing lingerie or an adult-themed dance club.
I also recommend that you read this part of the community guidelines as well this part regarding private instances.
Edit: I just realized this post was 2 years old lmao 
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