What is the correct procedure to write off a Ponzi-Scheme investment lost in our personal income tax?

[eel168]

My husband is a victim of the Ponzi-Scheme investment. He invested 500K in 2022 which created a huge tax burden on Federal and MA state income taxes. He could not get a penny out of his investment account to pay for the huge amount of tax a few weeks ago. That was the time he realized that it was a scam. The investment group/company is registered in UK but operated in Hong Kong.

Questions:
What is the correct procedure to write off a Ponzi-Scheme investment lost in our personal income tax?
Do we need to report the scam to any agencies before submitting Form 4684 to the IRS to claim the scam lost?

If we do, what are the correct agencies we need to report to? In Federal and MA state?

Please advise. Many Thanks!

[Mike9241]

follow the 4684 instructions. Turbotax does not handle Ponzi scheme losses so your options are to do the form manually and paper file or find a tax pro.

file a police report

Reporting a Ponzi Scheme
The SEC and FBI provide resources for individuals who suspect Ponzi schemes to report the misconduct.

FEDERAL BUREAU OF INVESTIGATION (FBI)
The FBI provides an electronic tip form to individuals wishing to report federal law violations. Additionally, for internet-based crimes, the FBI offers another way to submit a tip. Because many Ponzi schemes begin and operate online, this might be the best place to report a Ponzi scheme.

SECURITIES AND EXCHANGE COMMISSION (SEC)
The SEC also provides defrauded investors an avenue to report suspected Ponzi schemes and other fraudulent activities. SEC Ponzi scheme tips can be submitted online directly through the SEC website.

Contact an Investment Loss Attorney Today
Losing your valuable and hard-earned money in a fraudulent Ponzi scheme is never easy. If this has happened to you,

[GeorgeM777 · Accepted solution]

To provide at least some background information, a loss incurred in connection with a Ponzi scheme is an itemized deduction and thus, after being entered on Form 4684, it will appear on Schedule A, Itemized Deductions.  TurboTax does not support Form 4684, at least in the Step-by-Step section. Thus, assuming you feel confident that you can claim such a loss, you will need to go into Forms mode in TurboTax.  Forms mode is only supported if you are using TurboTax CD/download versions.  To go into Form mode, select Form in the upper right of your screen.  You will have to enter Form 4684 in the search bar and select the Casualty & Theft Worksheet.  Enter a description.  Click on Add Form.  

Then follow these steps:

1. You will now see the Casualty & Theft Worksheet.  The description you previously entered will appear on Line 1.  
2. On line 2, enter the date.   Then go to line 5(c) and check the box. 
3. Go back to Open Forms (upper left of screen), enter 4684, and from the drop-down list, select Form 4684 p3: Casualty & Thefts.  
4. You will now see Form 4684, p3, Section C.  Enter your information on lines 40 – 51.  
5. On line 46, when you enter the appropriate percentage, TurboTax will calculate the amount of your deductible theft loss. 
6. You will also need to complete Part II, of Section C, Form 4684. 

Lastly, we strongly encourage you to review IRS Rev. Rul. 2009-9, and Rev. Proc. 2009-20--as to the proper treatment of losses from certain investment arrangements later discovered to be fraudulent. The former addresses the tax treatment of losses from Ponzi schemes in the light of section 165 of the Internal Revenue Code. The latter provides an optional safe harbor under which qualified investors may treat a loss as a theft loss deduction when certain conditions are met.

@eel168 

[eel168]

Thank you for the step-by-step detail info.
How do we claim the Ponzi Investment Schemes losses in Massachusetts income tax in Turbo Tax software? Please advice. Thank you!

[PJC4]

I followed the procedure provided by GeorgeM777 and have the following question:

After completing form 4684 Section C, Part I and Part II I noticed that Turbotax completed 4684 Section B Part II and assumed ALL THE LOSSES were from "Casualty or Theft Property Held One Year of Less"

and entered the loss on line 29. The losses are actually all from Property held more that one year.... Why does Turbotax make this assumption and how to I get it to report the loss accurately?

Thanks for any advice you can provide....

[Hanna20]

I have followed your helpful instruction to claim the Ponzi Scheme Loss last year 2023 as safe harbor: 95% deductible from total investment loss and can be carryover for the next 20 years; in 4684 form - Section C (Casualty & Theft Loss: I invested the cryptocurrency as individual investor to a scam platform, then lost all the money. The scam platform blocked me and disappeared after when I tried to withdraw the money).

As for the tax return this year 2024, where can I claim the Carryforward/over loss?

• Will the Carryover loss continue be claimed as business Net Operating Loss (NOL) as unlimited or it should be claimed as individual Capital loss limit to only $3000 per year in schedule D? I invested myself as an individual investor and lost all the money, NOT that I invested on behalf of or from my business (company, LLC, INC…)

The confusion of IRS law is the Ponzi Scheme Loss is considered as the business investment loss, but not sure if it allows the Carryover Loss for the next 20 years continue to be claimed as NOL unlimited;
or it must be back to individual to be able claiming only $3000 per year infinitely in time (similar to stock loss)?

Thanks so much!

[Hanna20]

I guess you have to manually open form 4684 in Turbo tax and enter your investment loss in section C (Casualty & Theft Loss). Soon you done that, it will link carrying information over to your MA state tax.

Hope, this helps

[Taxpayer_8888]

I need P3 of form4684 but there is NO "add form" button for me to click, I can only OPEN an existing form,  I am using MacBook Desktop Business Edition.

Please help,  thank you so much

[DaveF1006]

You have to click on the worksheet in that screen. Once your worksheet is displayed, you need to navigate to part 1 line 5C and click on QuickZoom to get to page 3.

[Taxpayer_8888]

Thank you Dave, you are really the expert.

Page 3 shows up after I checked 5c as "Ponzi" and Quickzoom, it's simple yet I could not figure out by myself😅

[hatchness]

Hi,

First, thank you for the step-by-step instructions, it's very helpful. One clarifying question. For the date of the theft event, is that the date the lead figure was indicted for fraud? Thanks!

[JotikaT2]

The theft date would be the later of either the date of the indictment being filed or the date when the complaint is filed per the IRS instructions for Form 4684.  

@hatchness 

[hatchness]

Thank you so much for clarifying. 🙂

[Sandra370]

I've been looking into this for a few weeks now, as I'm helping a friend of mine deal with Ponzi Scam Losses confined entirely to 2023. (I'm a CPA, but Ponzi Schemes are not my specialty.) She invested $450,000 in a scam, lost all of it, little chance she will get any of it back.  Her taxable earnings from her day job were about $250,000.  She had paid in about $40,000 in withholding during 2023.  As I see it--unless she can convince the IRS this is a NOL from her investing business (a sole proprietorship that would only have been created in 2023, since for the 10 years before 2023 she traded legitimate securities and reported gains and losses on Schedule D, etc. )   I did a trial run of this on TurboTax and I found that, unless she can claim an NOL for an investment business, she will basically be able to get her $40,000 paid-in taxes for 2023 back.  And that's it!  She would get no carryforward of the remaining loss, which amounted to about $175,000.  So for a $450,000 scam loss she would lose all but about $40K.  Now, if she can defend the idea of sustaining this loss thru her for-profit "investment business." she can do much better and get a substantial return of the loss she sustained by carrying it forward.  Am I understanding this correctly?  I sure hope not.  Am I missing something?

[Mike9241]

ponzi losses are taken on for 4684. read the instructions for the form

if she is a trader and the loss was part of her trading it would be a business loss 

if she not a trader she's an investor and the loss would be a non-business loss

Traders
Special rules apply if you're a trader in securities, in the business of buying and selling securities for your own account. The law considers this to be a business, even though a trader doesn't maintain an inventory and doesn't have customers. To be engaged in business as a trader in securities, you must meet all of the following conditions:

You must seek to profit from daily market movements in the prices of securities and not from dividends, interest, or capital appreciation.
Your activity must be substantial; and
You must carry on the activity with continuity and regularity.
The following facts and circumstances should be considered in determining if your activity is a securities trading business:

Typical holding periods for securities bought and sold;
The frequency and dollar amount of your trades during the year;
The extent to which you pursue the activity to produce income for a livelihood; and
The amount of time you devote to the activity.
If the nature of your trading activities doesn't qualify as a business, you're considered an investor and not a trader. It doesn't matter whether you call yourself a trader or a day trader, you're an investor. A taxpayer may be a trader in some securities and may hold other securities for investment. The special rules for traders don't apply to those securities held for investment. A trader must keep detailed records to distinguish the securities held for investment from the securities in the trading business. The securities held for investment must be identified as such in the trader's records on the day he or she acquires them (for example, by holding them in a separate brokerage account).

Traders report their business expenses on Schedule C (Form 1040 or 1040-SR), Profit or Loss from Business (Sole Proprietorship). Commissions and other costs of acquiring or disposing of securities aren't deductible but must be used to figure gain or loss upon disposition of the securities. See Topic No. 703, Basis of Assets. Gains and losses from selling securities from being a trader aren't subject to self-employment tax.