I am sorry to hear that your assets have been lost. Depending on the specifics of your situation, how this can be treated will depend on various circumstances regarding the loss and type of assets held. Losses on investments due to fraud may be treated as a casualty loss, as a capital loss, or as a return of capital. Normally, worthlessness of investments or the loss on their disposal would be a capital loss. For individuals, capital losses are offset against capital gains in the year a security is sold or becomes totally worthless (Sec. 165(g)). If a net capital loss results, up to $3,000 of net capital losses can offset ordinary income (Sec. 1211), and the rest are carried forward to future years. Large capital losses can take several years to recoup, but theft losses are deductible immediately, perhaps creating a net operating loss. In some cases, a loss is split between capital and theft loss. Investment and other theft losses are covered by IRS (IRS Section 165 of tax code). If you wish to claim a deduction for any losses due to investment fraud, you must complete a theft loss report. Theft loss reports should be submitted using Form 4684 and Form 1040 Schedule A. However, casualty or theft losses are not the currently preferred methods of reporting a transaction, however, because under the 2017 tax act, for tax years 2018 through 2025, an individual's personal casualty and theft losses generally are deductible only to the extent that they are attributable to a federally declared disaster. A federally declared disaster is one declared as such by the President under section 401 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act. I.R.C. § 165(h)(5)(A). Personal casualty losses that are not attributable to a federally declared disaster can be deducted, but only to the extent that the individual has personal casualty gains. Practically, casualty or theft losses are no longer deductible for most individuals until after 2025 when the old rules will resume.
Ponzi-scheme victims, however, have additional tools: They can avail themselves of Rev. Rul. 2009-9 and Rev. Proc. 2009-20. In Rev. Rul. 2009-9 the IRS ruled that taxpayer-investors that are victims of fraud or embezzlement schemes may take a theft loss. Rev. Proc. 2009-20 outlines safe-harbor rules for qualified investors with (specifically) Ponzi-scheme losses beginning for tax year 2008. httphttps://www.irs.gov/newsroom/help-for-victims-of-ponzi-investment-schemes
Cryptocurrency is treated as “property” under IRS Notice 2014-21. When an individual holds cryptocurrency outside of his or her trade or business, it generally will be classified as a capital asset. See Notice 2014-21, Q&A 7; I.R.C. § 1221.
How you treat your lost or stolen cryptocurrency for tax purposes requires complex, fact-intensive analysis. Generally, there are three potential reporting options by individuals, and because of the 2017 tax act, classifying these losses as an abandonment loss is likely to result in the most favorable taxpayer treatment. A taxpayer who abandons property held for use in a trade or business or in a transaction undertaken for profit is entitled to a loss based on the property's adjusted tax basis. An abandonment does not require the relinquishment of possession or legal title; however, the taxpayer must establish his or her intent that the abandoned property will not be used again by him or her and will not be retrieved by him for sale for other disposition.
Will cryptocurrency that is stolen or lost satisfy the “sale or exchange” requirement necessary to claim an investment loss? Because cryptocurrency losses incurred in a transaction entered into for profit are considered capital assets, there must be a sale or exchange of the cryptocurrency to generate an investment loss that can be utilized as a deduction in determining a taxpayer's adjusted gross income. I.R.C. §§ 165(f); 1211(b); 62(a)(3); Treas. Reg. 1.62-1T(c)(4). The Tax Code does not define the phrase “sale or exchange,” or its separate components – sales, exchanges. Although I.R.C. § 1001(a) uses “sales or other disposition,” the phrase “other disposition” has been interpreted to be broader than “exchange.” Helvering v. William Flaccus Oak Leather Co., 313 U.S. 247 (1941). Accordingly, it may be that cryptocurrency that is lost or stolen will satisfy “other disposition” as used in section 1001, but still not be deductible because it does not rise to the level of an exchange. Although neither the IRS, nor a court has addressed whether lost or stolen cryptocurrency will constitute a sale, it will likely be difficult to obtain such treatment. The transferor unwillingly transferred the cryptocurrency in a theft, and has not received money or its equivalent or a promise to pay money or its equivalent, and where cryptocurrency has been lost. Unless a taxpayer can establish that cryptocurrency lost or stolen constitutes a sale, he or she will be unable to claim an investment or capital loss.
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