In keeping with the IRS’s previous rulings in the area of cryptocurrency, the IRS issued Office of Chief Counsel Memorandum 202302012 last week addressing the substantiation requirements for charitable contributions of cryptocurrency. The Memorandum reiterates the fact that the IRS views cryptocurrency (convertible virtual currency) as property rather than cash or readily valued property, such as publicly traded securities, and as such, failure to obtain an appraisal when required will result in disallowance of a charitable deduction for its donation.
Background. At issue in the Memorandum is a charitable donation of cryptocurrency worth $10,000 to a public charity. The donor valued the cryptocurrency for the purposes of supporting their charitable donation deduction using the trading price of the currency on the currency’s exchange on the date of the donation and did not obtain a qualified appraisal.
Section 170(f)(11)(C) of the Internal Revenue Code requires that a taxpayer obtain a qualified appraisal for the donation of property valued over $5,000 in order to substantiate their claim for a charitable deduction for the donation. An exception for the requirement of obtaining an appraisal is for cash and “readily valued property.” Included in this category are types of property that are easy to determine a value for such as publicly traded securities. Section 165(g)(2) defines a security as “share of stock in a corporation; a right to subscribe for, or to receive, a share of stock in a corporation; or a bond, debenture, note, or certificate, or other evidence of indebtedness, issued by a corporation or a government or political subdivision thereof, with interest coupons or in registered form.” When publicly traded, securities are considered readily valued property, and as such, a taxpayer may rely on an exchange that trades the security in order to value the donated property even if over $5,000.
Holding. Cryptocurrency lies in what many believe is a grey area between readily valued property such as publicly traded securities, and other types of property. Cryptocurrency, which is traded on its own exchange, would appear to be easily valued in the same manner as a publicly traded security. However, according to the IRS it does not satisfy the Code’s definition of a security given the nature of the property, which is not issued by a corporation or government and which is not evidenced by a stock or a bond, but instead is digitally recorded on a distributed ledger or blockchain. Unlike a stock or bond, which a taxpayer continues to own even absent holding a certificate, with a virtual currency, if the owner loses their key to access their digital wallet, the asset may be lost to the void. Click here to read the story of computer engineer James Howells who threw away approximately $150 million in Bitcoin and his hedge fund backed plan to dig through a landfill for a year to find it.
The upshot of the Memorandum is that the IRS has again made known its position that cryptocurrency does not qualify as readily valued property, despite the fact that it is traded on an exchange. Further, taxpayers who fail to comply with Section 170 substantiation requirements for charitable donations of property, in this case failing to have the property appraised, will not be entitled to relief under the reasonable cause exception.
Click here for more information about the tax implications of holding and trading cryptocurrency.
Click here for information on accounting rules application to cryptocurrency.