The Internal Revenue Service (“IRS”) defines virtual currency as “a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value.” Virtual currency is not backed by a government-issued legal tender. Convertible virtual currency such as Bitcoin—by far the most popular—may be used to pay for goods or services, and purchased for, or exchanged into, U.S. dollars or other currency backed by a government. Several for-profit retailers (including Microsoft and Overstock.com, Inc.) now accept Bitcoin payments, and a growing number of public charities (including the American Red Cross, United Way, and Save the Children) have begun accepting Bitcoin donations, typically through companies that process Bitcoin transactions.
The most recent IRS guidance on the federal tax consequences of transactions that use convertible virtual currency (Notice 2014-21, the “Notice,” found here) provides that virtual currency is treated as “property” for federal income tax purposes, and not as money. For nonprofits and donors, this means that substantiation rules and other tax principles applicable to “in-kind” donations of personal property apply to contributions of virtual currency. The value of a contribution of virtual currency is the fair market value of the currency (measured in U.S. dollars) as of the date it was received by the charity. As virtual currencies are not legal tender in the United States and are highly volatile in value, charities that choose to accept virtual currency donations are generally advised to convert them to U.S. dollars as soon as possible to preserve the value at the time of donation. Donors may deduct the fair market value of donated virtual currency as of the time of contribution from their taxes as a charitable contribution (up to certain limits that are not unique to contributions of virtual currency). Because individuals must pay tax on any gain realized on the sale of virtual currency but contributions of virtual currency are tax-deductible, donors have an incentive to donate appreciated virtual currency directly to a charity instead of first selling the virtual currency, paying tax on any gain, and then donating the after-tax cash proceeds.
The Notice, issued in April 2014, requests comments from the public regarding other types or aspects of virtual currency transactions that should be addressed in future IRS guidance. However, two years later, in September 2016, a report of the Treasury Inspector General for Tax Administration (the “Report”) found that no action had been taken to address the comments received. The Report recommends that, among other things, the IRS (a) develop a virtual currency strategy including outcome goals, a description of how the agency intends to achieve those goals, and an action plan; and (b) provide updated guidance regarding the documentation requirements and tax treatments for the various uses of virtual currencies. To date, no further guidance has been issued, but in March 2018, the IRS did issue a reminder to taxpayers that income from virtual currency transactions must be reported just like transactions in any other property (see here). Most recently, on May 16, 2019, in response to a request from several U.S. Congressmen for additional guidance regarding the tax consequences of virtual currency transactions, IRS Commissioner Charles Rettig indicated that the IRS intends to publish guidance regarding such issues “soon” (read Commissioner Rettig’s response here). We continue to monitor developments in this area.