@cstanley2010-gma wrote:
I should probably give more details, though I don't know if it would change the answer. We moved out of a house. A person agreed to do a lease to buy of our home. He defaulted. On purpose it seems as it was later discovered he was a criminal. He sued us for breach of contract. We counter-sued. We won and the judge made him pay for missed rent, attorney fees,etc. A collection firm attempted to collect the debt for the last 10 years. He would pay $100 every now and then. There is still the majority of it owed. The collection firm notified that after 10 years, we can renew the collection efforts. I'm trying to figure out if it's worth it to keep trying to collect, or if there is something I could do on my taxes, now that this has essentially become a worthless bad debt loss. Non-business.
Well, the first question is what are your damages, and whether you are actually out of pocket in any way. For example, if the person promised to pay a deposit and never did, and after the deal fell apart you sold the house to someone else, and a judge ruled you were still owed the deposit, that's not a bad debt because it was never money you paid out, even though you were owed it. Or, if you had a deal too sell the house for $200K that fell through and you sold it to someone else for $150K, the $50K is not a "loss" (bad debt or theft) because you never realized it, even though a judge might rule you are owed it. Missed rent is rent you never received, so you never paid tax on it. It would not be deductible now under any theory, and it would be taxable income if the person paid the judgement. Other items are more complicated to consider, and I'm going to skip that for now to talk about theft losses.
The second problem is that theft losses and casualty losses are not deductible for 2018-2025 unless associated with a federally declared disaster zone. In the past, the IRS was picky about the difference between a theft loss and a bad debt, because theft losses had more favorable deductions. There was a tax court case that went something like this. John's father bought a painting for $50,000. After his death, John had it appraised and discovered it was a forgery, worth no more than $5000. John tried to deduct $45,000 as a theft loss. The IRS disallowed it, because for there to be a theft, there had to be a thief, and no one could identify in the known history of that painting who the thief might have been. (There was no evidence that any specific person in the ownership chain knowingly sold a forgery.) So the IRS said that's a capital loss, if and when you sell it.
So now that thefts aren’t deductible but bad debts are, the IRS may turn the equation around. If there is a thief, you have a theft loss, that might have been deductible when it occurred, but is not deductible now as a theft and is not considered a non-business bad debt.
If you make the argument this was a bad business deal, you might have a non-business bad debt, but it's not clear to me which parts of the judgement would qualify. Someone would have to analyze your case and your original damages. (rent that was never paid is not a deductible bad debt because it was never income, but other out of pocket expenses might be).
You may want professional assistance.
