Well it DOES work with gif. Even in upload mode. You should see to it it being 80 x 80 (or maybe 79 x 79 as someone said) pixel then unless you want a REALLY ugly blur, and not expect transparency to work. Dont know if animation will. It all works fine though with an (offsite?) linked avatar. (mine is linked from my LD5 ftp as you can see).
As far as I understood so far, on has set 'enable avatar', select the file, then update, then save, and then hope.
And maybe wait quite a while to see the result.