Charitable Contribution Guidelines in Federal Tax Law for Donors of Virtual Currency Valued at Greater than $5,000

September 14, 2021

Mike Batts, CPA
Michele Wales, CPA

Whatever you may think about virtual currencies, one reality is that a significant number of people have invested in them. A sizable portion of those investors have seen their investments increase in value dramatically (despite extreme volatility). And a growing number of investors holding virtual currencies that have appreciated in value are considering donating some of their holdings to their church or their favorite charitable organization.

Virtual currencies are noncash property for federal income tax purposes

The Internal Revenue Service considers digital currencies to be noncash property. So, if a taxpayer buys units of a digital currency and later sells them at a gain, the taxpayer will be subject to tax on the gain…pursuant to the rules for taxing capital gains.

The advantage of donating rather than selling and donating the sales proceeds

But if a taxpayer donates the appreciated digital currency directly to a qualified charity, he/she will not be taxed on the appreciation in value. And the even better news…neither will the charity! That is because capital gains of U.S. 501(c)(3) public charities (which include churches) are not typically subject to federal income tax. The amount deductible by the donor will vary depending on the facts, but if the donor holds the digital currency for more than a year prior to donating it, he/she may be entitled to a deduction of the full fair market value of the digital currency contributed, with no tax on the gain!

The rules for substantiating a charitable contribution deduction of virtual currency valued by the donor at more than $5,000

The IRS is a stickler

Federal income tax law requirements for substantiating charitable contribution deductions are strict, especially for noncash contributions. A donor who plans to take a charitable contribution deduction on his or her tax return should carefully follow the substantiation requirements. The IRS frequently limits charitable deductions or denies them altogether where it finds that the donor (and his/her tax preparer) have not closely followed the law. Courts generally back the IRS in strictly applying the charitable contribution substantiation rules to donors.

The $5,000 threshold

While our focus in this article is on contributions of virtual currency, the rules described herein generally apply to contributions of noncash items (other than publicly traded securities) valued by the donor at more than $5,000, for which a charitable contribution deduction will be claimed. The $5,000 threshold can be met if a single noncash item valued by the donor at more than $5,000 is donated, or if a group of similar items (for example, books) with a combined value of more than $5,000 is donated during the year. The similar items do not all have to be donated at the same time, or even to the same organization, for the $5,000 threshold to be triggered. Special rules apply to contributions of automobiles, boats, and airplanes – a subject outside the scope of this article.

Substantiation requirements

In order to properly substantiate the deduction on the donor’s tax return of a noncash contribution in excess of the $5,000 threshold, the donor must:

1. Obtain a qualified appraisal
2. Obtain a contemporaneous written acknowledgment from the donee organization
3. Prepare and submit Form 8283 with his/her tax return, and
4. Maintain specific records.

Each of these requirements is described further below.

1. Obtain a qualified appraisal

The donor is responsible for obtaining a qualified written appraisal prepared by a qualified appraiser. A qualified appraiser for this purpose is an individual who has earned an appraisal designation from a recognized professional appraiser organization for demonstrated competency in valuing the type of property being appraised, or that has met certain minimum education and experience requirements. Further, the appraiser generally cannot be the donor, the charity receiving the donation, or an employee or agent of the donor or charity.

A qualified appraisal must be prepared in accordance with generally accepted appraisal standards and must include certain information, including: a description of the type and condition of the property; the valuation effective date; the fair market value of the contributed property on the valuation date; the method and basis of valuation; the terms of any agreement between the donor and the charity regarding the future use or sale of the donated property; identifying information regarding the qualified appraiser and the appraiser’s qualifications; and a statement that the appraisal was prepared for income tax purposes.

The qualified appraisal must be made, signed, and dated no earlier than 60 days prior to the date the appraised property was donated, and no later than the due date of the taxpayer’s return (including extensions) for the year of the donation. Further, the appraisal fee generally cannot be based on a percentage of the appraised value of the property.

In a recent letter to the IRS, a bipartisan group of members of Congress challenged the IRS to simplify the substantiation requirements related to virtual currencies. In an IRS FAQ document addressing virtual currencies, the IRS allows taxpayers to provide evidence of the fair market value of virtual currency for most tax purposes at the time of sale or receipt by citing prices on an exchange, or in worldwide indices provided by various blockchain explorers. However, for purposes of determining the fair market value of virtual currency donated to a charitable organization and valued by the donor at more than $5,000, the IRS continues to require donors to obtain a written qualified appraisal. The Congressional members who authored the letter suggested that the IRS could remedy this discrepancy by treating donations of virtual currency in the same way as the donation of publicly traded securities, thereby eliminating the qualified appraisal requirement.

2. Contemporaneous written acknowledgment

It is important to note that a donor must obtain a written acknowledgment from the charity for all cash and property contributions of $250 or more, including those for which an appraisal must also be obtained. The acknowledgment must be obtained by the earlier of the date on which the donor files his/her income tax return for the year in which the contribution was made or the due date (including extensions) of the return. The acknowledgment should include the legal name of the charity, the name of the donor, the date and amount of the contribution, a description (but not the value) of any noncash contributions, and a statement (if true) that no goods or services were received by the donor in exchange for the donation. If the donor received anything from the charity in return for the donation (other than certain de minimis items), the acknowledgment must include a “good faith estimate” of the value of the goods and services the donor received and a disclosure indicating that the donor may only deduct as a charitable contribution the excess of the amount donated over the fair market value of the items or services received in exchange for the donation.

3. Prepare and submit Form 8283 with the donor’s tax return

In addition to the above requirements, a donor of noncash property valued at over $5,000 must complete Section B of Form 8283 and submit it with the donor’s income tax return for the year in which the contribution was made. Section B of the Form 8283 must be signed by both the qualified appraiser and the charitable organization that received the donation. Both the appraiser and the charitable organization must also provide their address and tax identification number. Additionally, the following information must be reported in Section B of the Form 8283: a description of the donated property; a brief summary of the overall physical condition of the property (if the donated property is tangible personal property); the appraised fair market value of the property; the date and manner of acquisition by the donor of the property; the cost or adjusted basis of the donated property; the amount claimed by the donor as a charitable contribution deduction; and the date of the contribution. Generally, the qualified appraisal itself is not required to be submitted with the donor’s tax return unless the value of the property contributed exceeds $500,000.

4. Maintain records

The donor is required to maintain certain records in connection with the charitable contribution deduction taken on the return. Generally, these records must include the contemporaneous written acknowledgment obtained from the charity, as well as the information included in Section B of Form 8283 outlined above. A copy of the qualified appraisal should also be retained by the donor.

Conclusion
Charitable donations of virtual currency are on the rise. Until and unless the IRS or Congress simplifies the substantiation rules for such donations, strict substantiation and documentation requirements apply for charitable deductions related to such donations…particularly those valued at greater than $5,000. Donors and their tax preparers must carefully follow the rules in order to avoid challenges by the IRS of deductions for charitable donations of virtual currency.

 

The contents of this publication do not constitute legal, financial, accounting, tax, or any other type of professional advice. For professional advice regarding the subject matter addressed herein, the services of a competent professional should be obtained.