Cryptocurrency is a digital, virtual currency that uses cryptography for security. The first cryptocurrency to capture the public’s attention was Bitcoin, which was launched in 2009 by an individual or group known under the pseudonym, Satoshi Nakamoto. Now, many nonprofits accept cryptocurrencies like Bitcoin, BitPay, or Ethereum, including The United Way, American Red Cross, and Save the Children. In 2013, the BitGive Foundation became the first nonprofit organization to specialize in using Bitcoin to fund its charitable works.
While there are a variety of methods for receiving cryptocurrency donations, the right approach for a nonprofit will depend on the type and amount of cryptocurrency being donated and the organization’s ability to manage the complexity and risk. When accepting cryptocurrency, an organization must 1.) establish an account, 2.) share its account number or “public address” with potential donors, 3.) choose an appropriate third-party medium to process the payment. A gift’s value can be determined in one of several ways, including: a.) utilizing the actual price at the date and time of the contribution, b.) using the closing price on the day of the contribution, or c.) applying the volume weighted average price (i.e., the average of the high and low market price on the day of the donation).
Cryptocurrency donations have both pros and cons:
Cryptocurrency is difficult to counterfeit due to its security features, and boasts that its platform runs exactly as programmed without any chance of fraud, censorship, or third-party interference.
Cryptocurrencies provide donors with ways to enforce their restricted donations. Donor-imposed conditions associated with certain forms of cryptocurrency allow the donor to use blockchain technology to create “smart contracts,” which automatically impose and monitor compliance with the donor’s restrictions. This could include a requirement that key performance indicators must be met before the donation will be released, or that the donation can be spent only on specific budget lines.
Cryptocurrency can be difficult to manage, and a third-party medium is necessary to process payments.
In addition to problems with rapid value fluctuation and digital currency exchanges, there are potential problems with hackers attacking the virtual currency security system, fewer protections for cryptocurrency transactions than a traditional bank, and potential scams caused by little regulation.
Lack of fulsome regulation may result in more frequent clawbacks. A clawback is an action whereby an employer or benefactor takes back money that has already been disbursed, possibly with an added penalty.
Regulations on cryptocurrency are complex and controversial, varying widely from country to country. For example, China banned cryptocurrency exchanges and initial coin offerings (ICOs), South Korea banned anonymous crypto-trading, and Japan blocked the trade of certain “privacy-rich coins.” Meanwhile, Venezuela launched a state cryptocurrency in October 2018 and central banks in Norway and Sweden are also considering this approach. In the E.U. and U.S., regulations are still developing. New York opted to create its own BitLicense system to regulate in-state crypto-businesses, and this platform includes a $5,000 non-refundable application fee.
The Internal Revenue Service (IRS) recognizes cryptocurrency and its taxable consequences. See IRS Notice 2014-21:
The Internal Revenue Service is aware that ‘virtual currency’ may be used to pay for goods or services, or held for investment. Virtual currency is a digital representation of value that functions as a medium of exchange, a unit of account, and/or a store of value. In some environments, it operates like “real” currency -- i.e., the coin and paper money of the United States or of any other country that is designated as legal tender, circulates, and is customarily used and accepted as a medium of exchange in the country of issuance -- but it does not have legal tender status in any jurisdiction.
Virtual currency that has an equivalent value in real currency, or that acts as a substitute for real currency, is referred to as ‘convertible’ virtual currency. Bitcoin is one example of a convertible virtual currency. Bitcoin can be digitally traded between users and can be purchased for, or exchanged into, U.S. dollars, Euros, and other real or virtual currencies.
In general, the sale or exchange of cryptocurrency, or the use of cryptocurrency to pay for goods or services in real-world economy transactions, has tax consequences that likely result in tax liability. For federal tax purposes, cryptocurrency is treated as property. General tax principles applying to property transactions similarly apply to cryptocurrency transactions. If property is valued at $5,000 or more, a charity must sign a donor’s Form 8283 for the gift to be deductible. For gifts over $5,000 that are not publicly traded securities, fair market value must be substantiated. IRS Notice 2014-21 provides guidelines for determining the value of Bitcoin. Other types of digital assets that use the same “blockchain” technology may or may not be contemplated by the IRS notice.