A version of this article previously ran in MarketWatch in December 2021.
The new year brings many questions for taxpayers looking to reduce their tax liability. Charitable giving is a popular tool as federal tax law offers favorable benefits for doing so and there are many ways to donate.
As more taxpayers seek to make charitable contributions through cryptocurrency, however, there are major tax implications to consider. The #CryptoGivingTuesday initiative saw a five-fold increase in cryptocurrency donations on Giving Tuesday in November 2021 compared to the previous year, with $2.4 million raised, according to The Giving Block.
Before making charitable contributions, it’s important to weigh your options to avoid less favorable tax treatment. Below, we outline key cryptocurrency factors taxpayers should assess ahead of making donations.
Donating cash directly to a qualified charity is the most basic way to make a charitable gift and receive a tax deduction. This can, however, be less tax efficient for larger donations.
When donating appreciated assets, a taxpayer can potentially deduct the fair market value of the asset and avoid paying any realized capital gains on the asset.
Long-term held, publicly traded stock is one of the most common types of appreciated assets for taxpayers to donate, but many taxpayers now look to donate cryptocurrency.
The IRS doesn’t consider virtual currencies the equivalent of cash. They’re instead considered property, similar to stock investments.
If you invest in cryptocurrency, the amount invested becomes your cost basis. It’s considered a capital gain when you sell at greater than your cost basis. Holding it for longer than one year results in a long-term capital gain, subject to preferential tax rates.
Selling less than a year from acquisition results in a short-term capital gain, which is subject to the highest marginal tax rate.
Donating a virtual currency is also treated similar to other types of appreciated assets. The deduction a taxpayer would receive is equal to the fair market value of the asset on date of donation.
The IRS requires a qualified appraisal on any appreciated property, other than publicly traded stock, if the value for that item or group of similar items is greater than $5,000.
Obtaining a valuation on the cryptocurrency can be costly. It’s important to consider whether your charitable deduction will be worth the fees of obtaining a qualified appraisal.
A qualified appraisal isn’t needed for a deduction of less than $5,000.
To obtain a deduction at the fair market value of the virtual currency, the property needs to be held long-term, or longer than one year. If held less than one year, the charitable deduction is limited to cost basis, or original purchase price.
This can be significant given the large swings in cryptocurrency value. Many taxpayers have limited records of their cost basis and length of their holdings in the virtual currency, so it’s important to have a good tracking of the investment.
Donor Advised Funds
Taxpayers making larger donations may be wise to consider a donor advised fund.
Donor advised funds allow the taxpayer to receive a deduction in the current year, but allows funds to be distributed over several years—providing time to determine to which organizations the funds will go.
Limitations of Large Donations
Taxpayers should be aware of limitations on large donations. Large donations of appreciated assets, such as cryptocurrency, are typically limited to 30% of their total adjusted gross income for the year.
The excess donation is carried forward for five years. Taxpayers that have large donations in a given year, while generating lower income, are often subject to these limits.
Limitations of Small Donations
Taxpayers that make smaller donations, for example under $25,000, may not receive much benefit, if any. This is due to the large standard deduction—$12,950 for single filers and $25,100 for married couples filing jointly in 2021.
Taxpayers can choose to take the standard deduction or itemize their deductions. Itemized deductions include state and local taxes—limited to $10,000, mortgage interest, charitable contributions, and a few other items.
Taxpayers will understandably typically elect the larger of the standard or itemized deductions. Therefore, if someone donates cryptocurrency and obtains a qualified appraisal, they should ensure overall net benefit exists before making the donation.
We’re Here to Help
To learn more about the potential impacts of cryptocurrency donations, contact your Moss Adams professional.