Tax considerations for digital asset donations

| 12/16/2021
Tax considerations for digital asset donations

As part of year-end tax planning, many taxpayers consider making charitable contributions of cash or noncash property. If certain requirements are met, a charitable contribution of noncash property can provide the donor an opportunity to receive a fair market value tax deduction without being taxed on the built-in gain of the contributed assets. Over the past few years, more taxpayers have been considering donating virtual currencies and other digital assets. However, navigating the tax treatment of digital asset contributions can be tricky.

Digital assets generally are more volatile than other types of appreciated assets, and significant uncertainty exists about how the charitable deduction rules apply to digital assets. IRS guidance on these transactions has been limited to virtual currency, which is treated as property, but even that guidance has left numerous questions unanswered.

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Following are four things to consider regarding donating digital assets to charities:

  1. How does the IRS treat a gift of digital assets? The IRS has stated that gifts of virtual currency are treated as gifts of noncash property, so the donor does not recognize gain or loss on the contribution of virtual currency. There is no tax guidance addressing donations of other digital assets. Donors should consult with their tax adviser regarding the tax treatment of donations of other digital assets.
  2. Will a charity accept a gift of digital assets? Digital assets are diverse, and charitable organizations might not be willing or able to accept every type of these assets. Certain types of digital assets might require a specific technology to be accepted, and the value of digital assets can fluctuate significantly. To address these issues, some charitable organizations have established programs to accept only certain digital assets. But if an anticipated contribution is sizable, most charitable organizations likely will work with donors to figure out how to accept the gift.
  3. How is the amount of the deduction determined? It can be complicated to determine the amount of the deduction in the case of donated digital assets. For virtual currency held for more than one year, the IRS has said that the amount of the deduction generally is equal to the virtual currency’s fair market value. For virtual currency held for one year or less, the deduction is the lesser of the basis in the virtual currency or the virtual currency’s fair market value at the time of the contribution. No tax guidance addressing donations of other digital assets currently exists. Donors should consult with their tax adviser regarding the tax treatment of donations of other digital assets.
  4. What substantiation and documentation rules apply? The following charitable deduction substantiation and documentation requirements apply to donations of noncash property
    • Donors must have written acknowledgment from the charitable organization for any charitable deduction claimed with respect to cash and noncash property of $250 or more.
    • Donors must file Form 8283, “Noncash Charitable Contributions,” with their income tax return claiming a deduction for any contribution of noncash property of more than $500.
    • Generally, donors are required to obtain a written qualified appraisal for contribution of noncash property if the charitable deduction claimed is more than $5,000. Certain property, such as publicly traded securities, is excepted from this requirement.
      • If the charitable deduction claimed is more than $500,000, the qualified appraisal must be attached to the donor’s income tax return. Lower thresholds and additional documentation requirements may apply to certain property. For instance, the threshold for attaching a qualified appraisal for donated art is $20,000.
      • Several requirements for a qualified appraisal exist, including that it be conducted by a qualified appraiser. Among the requirements for a qualified appraiser is that “the individual demonstrates verifiable education and experience in valuing the type of property subject to the appraisal.”
    It is unclear how these substantiation and documentation rules apply to charitable deductions claimed for donations of digital assets. For instance, are nonfungible tokens (NFTs) art for purposes of determining whether a qualified appraisal is required to be attached to the return? How does an appraiser demonstrate verifiable education and experience in valuing the type of digital asset being appraised? Are there situations where digital assets can be treated as publicly traded securities so that an appraisal is not required?

Looking forward

The tax treatment of digital asset contributions is complex. Some of the most complicated issues involve substantiation and documentation, especially in the case of larger donations. Taxpayers should consider consulting their tax adviser before donating digital assets to understand how the donation will be treated for federal tax purposes and how to meet the substantiation and documentation requirements.

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