Crypto exchange went bankrupt. Anything to claim for 2023?

[Gohard777]

My crypto exchange with Block Fi went bankrupt and I lost over $50,000. Can I claim anything on this?

[Bsch4477 · Accepted solution]

That issue is discussed here. 

https://blog.turbotax.intuit.com/cryptocurrency/can-i-get-a-tax-break-when-my-crypto-platform-files-...

[Mike9241 · Accepted solution]

SEE BOLD

from multiple websites remarks similar to the following 

However, given that FTX and BlockFi investors don’t currently know whether they will receive their investment back, or to what extent, it’s unclear what portion of their investment is completely and permanently ‘lost’. You should consult a crypto tax professional with questions on the specifics of your situation. in other words, the IRS doesn't like write-offs unless the security is totally worthless which seems to be unknown at this point.

Another option is to treat cryptocurrency lost to exchange bankruptcy as a casualty loss. However, these types of losses are considered non-deductible after the Tax Cuts & Jobs Act of 2017. 

[Opus 17 · Accepted solution]

Generally, you can deduct an investment loss as a capital loss on schedule D. However, losses are not deductible until they are realized.  That means that the investment is either declared worthless, or you sell it to someone else for a fraction of its original value.  Speculative losses are not deductible until they are realized.

The amount of the loss depends on the cost basis, not the value of the property at the time that it was lost or destroyed. So if you paid $1000 for this investment, and it was theoretically worth $50,000 at one time, but is now worthless, the amount of your loss is $1000.

So the question is with respect to this particular investment, is it absolutely proven worthless, or is there a possibility that some part of the investment could be returned to you in a court proceeding, bankruptcy proceeding, or some other form of restitution? If some type of restitution is pending, then you can’t deduct a loss now. If you receive some restitution in the future, you would report the transaction is if you sold the investment for the amount of the restitution, and the remaining loss is a capital deduction. 

Lastly, I want to point out that when cryptocurrency first became a thing, the IRS rule that it would be treated as personal property, in other words, similar to trading cards.  Losses on personal property are never deductible. This means that somebody who had a few hundred dollars of cryptocurrency in their wallet and used it to buy and sell things, would owe capital gains tax if the cryptocurrency was worth more when they cashed it in than when they bought it, but they could not deduct a loss if the cryptocurrency was worth less when they cashed it than when they bought it.  The IRS seems to allow a differentiation between cryptocurrency held for personal use, and cryptocurrency held for investments, and the idea that you can deduct your loss is based on the idea that this was held as an investment and not as personal property. However, for the amount involved, you may want to pay for an opinion from your own professional tax advisor. 

[Opus 17 · Accepted solution]

@Mike9241 

It would not be a casualty loss, it would be a theft loss.  Theft losses are also not deductible for tax years 2018 through 2025 unless that occurred due to a federally declared disaster. 

I once read a very interesting Tax court case on the concept of theft loss versus investment loss.  The gist of the case was that the taxpayer owned a painting which he purchased as an expensive master work, but which later turned out to be a forgery. He wanted to deduct the loss as a theft loss, because that allows immediate deduction of 90% of the loss, instead of taking it as an investment loss, where the deduction is limited to the amount of your capital gains for the year plus $3000.  In other words, in this particular case, the theft loss allowed a bigger and more immediate deduction. The tax court ruled that in order to have a theft, you must have a thief who benefits from the theft.  The court found that in this case, both the previous owner and the art gallery that sold the painting to the taxpayer believed in good faith that the painting was authentic, and any forgery or misrepresentation had occurred so long ago that there was no identifiable thief, and therefore, there was no deductible theft loss. 

@Gohard777 

applying this logic to cryptocurrency, it would appear that if someone is the victim of a pump and dump scheme, where they invest in cryptocurrency, and the founder disappears with all the money a few days later, that would be a theft loss that is non-deductible under current law. But if the investment firm is legitimate and just badly run, then it can be treated as an investment loss. 

But as I said above, your investment is not worthless until the bankruptcy proceedings are concluded, and the court determines whether you get any restitution. When the case is closed, and the restitution is final, whatever it is, then you will have a declarable investment loss.