Is Ponzi Scheme loss deductible?

[zhoul888]

What is considered a business theft? Is Ponzi Scheme loss deductible?

[rschule1]

Hi There:

It would be related to an established business proven by prior year business tax returns, business licenses, police reports, etc. The location of the theft and its relation to an established business address would likely be a major factor. 

[JoeD_CPA_CFP]

Hi zhoul888,

On the Ponzi Scheme question:

Here is a website for Help for Victims of Ponzi Investment Schemes .

In Revenue Procedure 2009-20, the IRS stated that you can choose not to use its Ponzi scheme tax relief safe harbor, but then you face the general rules for deducting a theft loss.

Under the general theft rules, you need to establish:

-that the loss was from theft;

-that you claimed the theft-loss deduction in the year you discovered the theft 

-the dollar amount of the theft, through sufficient documentation; and

-that no claim for reimbursement of any portion of the loss exists for which there is a reasonable prospect of recovery in the taxable year you claim the theft-loss deduction.

SAFE HARBOR

The IRS will not challenge a Ponzi scheme victim who uses the IRS tax relief safe harbor as to the following treatments of the loss:

1. The Ponzi scheme loss is deductible as a theft loss.

2. The loss is deductible in the year of discovery, which (under this tax relief safe harbor) is the year a lead figure in the Ponzi scheme is:

• charged by indictment with the commission of fraud, embezzlement, or a similar crime;
• the subject of a state or federal criminal complaint and either (a) admits guilt, or (b) has his, her, or its assets frozen by a court-appointed receiver or trustee; or
• the subject of the fraudulent arrangement but (due to his or her death) faces no charge by indictment, information, or criminal complaint (this condition also requires either that a receiver or trustee was appointed with respect to the arrangement or that assets of the arrangement were frozen).

3. The loss amount is computed using the safe-harbor formula, which allows either 95 percent or 75 percent of the loss in the year the Ponzi scheme victim files the safe harbor. 

The tax relief safe harbor truly simplifies the Ponzi scheme theft-loss deduction for the victim.

Establishing the Safe-Harbor Ponzi Scheme Loss in Your Tax Return

To use the safe harbor, you need to comply with its requirements. These include required statements and declarations you make under penalties of perjury on IRS Form 4684, where you:

• name the Ponzi scheme perpetrator;
• state that you have written documentation that supports the amounts you are claiming for deduction;
• declare Ponzi scheme victim status as a qualified defrauded investor; and
• abide by other terms of the declaration.

Hope this helps.

[Hanna20]

I’ve claimed 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)?

Thank you so much and I appreciate your helps and time!

Truly,
Hanna

[RobertB4444]

If you had entered the investment loss into schedule D then it would have been classified as a long term capital loss and would have been carried over as a long term loss to be written off against other investment income or at $3000 a year until it is used up.

Since you entered it as a casualty and theft loss the amount that you received credit for is carried forward as an NOL for up to 20 years.  

In order to enter it into this year's return just type "NOL" into the search bar and then click 'jump to' and it will take you to the section to enter the prior year's unused loss.

@Hanna20 

[Hanna20]

@RobertB4444 

Thanks so much for the very helpful info Robert!

Since I will enter the Negative amount of the unused loss from the prior year in NOL. Should I still have to complete the 4684 form - Section C by filling out the same data (original Casualty & Theft Loss) as I did for the prior year tax return? Or I can just file the NOL?

The reason I'm asking because I try to understand how do we refer the unused loss carryover from the prior year to the IRS if we don't complete the 4684 for this year? how does IRS figure out the carryover number of this year? would they have to go back to your prior year tax return to see or IRS system would automatically figure it out since your tax return info has been stored in IRS system?

Thanks so much for your valuable helps!

[RobertB4444 · Accepted solution]

You're just entering the NOL.  Your 2022 tax return shows the loss and if the IRS is trying to see where it came from they will look at that.  You only fill out the 4684 in the year of the loss.

@Hanna20 

[zhoul888]

Hi Robert,

Thank you so much for answering the question related to the NOL. When you jump in NOL section, how do you determine the NOL carryover? Should that be your [(initial investment + subsequent investments - withdrawals)*0.75 - federal tax refund from 2022]? Please advise.

Thanks again. Li

[RobertB4444]

No, the carryover is whatever remains of the NOL after deducting your AGI from it in the year it is created.  Then, the AGI is deducted from it in each subsequent year until it is used up or 20 years have passed, whichever comes first.

@zhoul888 

[zhoul888]

Thanks Robert. Should I just take the carryover number from 2022 return, enter into the box when I jump to NOL, then the turbo tax will deduct that amount from my 2023 AGI, give me another NOL for next year? Or do I have to follow the IRS Pub form 563 to determine/ calculate the NOL?

Please advise and also please advise if you will provide a personal service for tax return?

Thank you! Li

[RobertB4444]

TurboTax should provide you with the NOL carryover each year as it is available.  That should be all that you need.

And I'm afraid we don't hire out from here but TurboTax does offer professional help with your return if you're looking for it.  You can have an expert prepare your taxes for you through Full Service!  Just click here.

@zhoul888 

[Sandra370]

I'm just not sure how you are getting that interpretation of an NOL going forward.  The way I read this is that in order to carry anything forward as an NOL you must justify that you operate an investment business.  If you've been buying & selling (trading) for years and did not consider it a business, I'm not sure how the IRS would look upon your sudden investment "business" popping up in 2023 the years you got scammed. On the other hand, if you can't  claim a business NOL then I don't think you can carry forward ANY ponzi scheme losses if the losses exceed your income!    Most folks probably don't qualify as an investment business, and would be considered traders.  My friend had taxable income of $250,000 in 2023, and her Ponzi scheme loss for 2023 was $451,000.  When I plugged in the numbers all that happened is that she would get refunded the $37,000 in taxes she had paid in for 2023.  And she didn't get to carry the remaining loss forward.  Am I missing something here?  I sure hope so.  But it was a disappointment to see she would only get to get back $37,000 of $451,000 scam losses.  PLEASE TELL ME A BETTER WAY TO DO THIS IF THERE IS ONE!