Ponzi Scheme Theft Loss Frequently Asked Questions

Question 1:    Ponzi Scheme victims may be entitled to a theft loss deduction.  What is considered a theft loss?

Answer:    For purposes of theft loss deduction, the term “theft” shall be deemed to include, but shall not necessarily be limited to, larceny, embezzlement, and robbery.  Whether “theft “occurs for federal tax purposes can also depend on the law of the jurisdiction where the loss was sustained.  A taxpayer claiming a theft loss must prove that the loss resulted from a taking of property that was illegal under the law of the jurisdiction in which it occurred, and was done with a criminal intent.  The IRS ruled that, if the perpetrator of the Ponzi scheme violated a state criminal law, the Ponzi scheme losses are theft losses for federal tax purposes because the perpetrator intended to, and did, deprive the investor of money by criminal acts.

Question 2.    How much can be claimed if there is a Ponzi Scheme Theft loss?

Answer:   The amount of the theft loss that is deductible is calculated as the tax basis of the lost asset reduced by insurance proceeds recoverable and other claims for which there is a reasonable prospect of recovery.

Question 3.    When should a theft loss be claimed as a deduction?

Answer:    A theft deduction is allowed for ay theft loss sustained during the taxable year and not compensated by insurance or otherwise.  A theft loss is treated as sustained during the taxable year in which the taxpayer discovers the loss.  However, a theft loss is not deductible in the taxable year in which the theft was discovered to the extent that a claim for reimbursement exists and there is a reasonable prospect of recovery of the loss.  If a theft loss cannot be deducted in the year of discovery because a reasonable prospect of recovery of the loss exists, then it cannot be deducted until the year in which it can be ascertained with reasonable certainty that no reasonable prospect of recovery exists.

Questions 4.    Is there an IRS procedure that expedites the deduction of theft losses from a Ponzi scheme?

Answer:    Yes.  In 2009, two important documents were issued by the IRS regarding the taxation OF Ponzi schemes.  In Rev. Rul. 2009-9, the IRS clarified much of the previously unsettleld law in this area.  The IRS provided a “safe harbor” that offers thousands of Ponzi scheme victims a badly needed uncomplicated shortcut cash refunds form tax losses.

Richard S. Lehman Answers Current Ponzi Scheme Theft Loss Tax Questions

QUESTION:

How many years may a theft loss be carried back from the year the loss is reported?

ANSWER:  The investment theft loss forms part of the taxpayer's operating loss that may be carried back or forward under normal net operating loss rules.  Generally these rules provide for a three year loss carryback and 20 year loss carryforward (or "carryover") limitation.

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QUESTION:

Is a theft loss deductible as a capital gains or ordinary income?

ANSWER: The investor is entitled to an ordinary loss rather than just a capital loss.  The IRS considered a Ponzi scheme theft loss to be a loss that is incurred in a transaction entered into for profit.

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QUESTION: 

Can a taxpayer claim a theft loss for income that was reported for tax purposes and not distributed to the victim.

ANSWER:  A taxpayer will receive basis for taxes paid on "phantom income" that was credited to the investor's account, whether or not it was paid to that account by the Ponzi scheme.

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