Those Composition settings apply to the format of the sent message. Check that the composition format is HTML in Account Settings, Composition & Addressing, otherwise any pasted content will be plain text. Still, it's generally recommended to Paste without formatting (Ctrl+Shift+V) into TB from other apps, even if the composition format is HTML. Use the HTML message composer in TB to add additional formatting if desired.

Yes, it is set to HTML in Account Settings. However, it pastes as plain text. Any idea where I might look for why?

In the attached picture, you can see that the html content I copied from your notification and pasted into an html message does not appear as plain text. So I don't know why your example pastes as plain text. Is html the default format for all accounts?

This is so weird – there seems to be something specific to Thunderbird on the Mac that causes this. I played around with it some more. When I paste from Microsoft Word, it actually does paste with formatting (I missed this when posting the original question, my apologies). But when I paste from any of the Mac ecosystem programs such as TextEdit or Pages, in Thunderbird it strips the formatting. The weird thing is that pasting from Word to Pages or from Pages to Word, there is no issue, formatting is always retained. Only pasting to Thunderbird it loses its formatting ... I have no idea what's going on.

I just tested this myself and I must agree with you. I will file a bug.

I Filed https://bugzilla.mozilla.org/show_bug.cgi?id=1983212

Oh great, thanks for confirming this. Unfortunate that it's a bug but glad it's not just on my end something wrong ...