Assuming the proceeds from the court case reported to you on Form 1099-MISC are solely for the loss in the value of your investment, it does not need to be reported on your tax return. Instead, it reduces your "basis" (net investment) in the investment you made.
Report the disposition of your remaining investment by following these steps:
Federal>>Income & Expenses>>Stocks, Mutual Funds, Bonds, Other.
When you add the "sale", it will ask you if you did or will receive a Form 1099-B. When you answer "No", TurboTax will walk you through the entry of the disposition of your asset. Report "zero" for the "Proceeds", and report your net investment (after the court payment) in the "Cost or Other Basis". Use the date of the court ruling as the "Date sold or disposed".
If the Form 1099-MISC reports payments for something other than loss in the value of your investment, it may be taxable. Refer to IRS Publication 4345 for guidance on whether the payment is taxable.
More information from IRS Tax Relief Legal Encyclopedia for guidance:
Under the IRS rules, an investor in a Ponzi scheme is entitled to deduct his or her losses as a theft loss, instead of a capital loss from an investment. This is good for the investors because the deduction for capital losses from investments is normally limited to a maximum of $3,000 per year. There is no such limit for theft losses. In addition, investment theft losses are not subject to the limitations applicable to personal casualty and theft losses. The loss is deductible as an itemized deduction. It is not subject to the 10% of adjusted gross income reduction or the $100 reduction that applies to many personal casualty and theft loss deductions. A theft loss deduction that creates a net operating loss for the taxpayer can be carried back three years and forward 20 years. This enables a victim to get a refund on prior taxes paid for those prior years.
The theft loss is deductible in the year the fraud is discovered, except to the extent the investor has a claim against the Ponzi schemer with a reasonable prospect of recovery. The IRS says that determining the year of discovery and applying the “reasonable prospect of recovery” test to any particular theft is highly fact-intensive and can be the source of controversy.
To help Ponzi scheme victims, the IRS has created a special “safe-harbor rule” under which it will automatically accept Ponzi-type theft losses. Under this rule, the IRS will deem the loss to be the result of theft if: (1) the scheme’s promoter was charged under state or federal law with fraud, embezzlement, or a similar crime; or (2) the promoter was the subject of a state or federal criminal complaint alleging commission of such a crime, and (3) either there was some evidence of an admission of guilt by the promoter or a trustee was appointed to freeze the assets of the scheme.
The amount of the theft loss includes the investor's unrecovered investment, including income as reported in past years. Defrauded investors generally can claim a theft loss deduction not only for the net amount invested, but also for the so-called “fictitious income” that the scheme’s promoter credited to the investor’s account and which the investor reported as income on his or her tax returns for years prior to discovery of the scheme.
