In December, the Washington Post reported on a retired environmental scientist with many years of distinguished service in the Federal Government who was defrauded of $655,000 in life savings through a so-called “tech support” scam. Former White House scientist. Her anguish was compounded on learning that as the stolen funds had been withdrawn from a tax-deferred account, the IRS considered it a taxable distribution, saddling her with a bill in the six figures.
The story also highlights a dramatic alteration contained in the Tax Cuts and Jobs Act of 2017 (TCJA): the suspension of the theft-loss deduction from 2018 through 2025. Under prior law, the scientist could have at least claimed such a deduction. And this change in the law was no rushed unintended consequence either but a deliberate act by Congress as part of an effort to make the tax system “simpler and fairer for all families and individuals” and to “offset the cost of lowering tax rates for everyone.” (The TCJA also suspended casualty-loss deductions outside of Federally declared disaster areas, leaving one to suspect a certain Darwinian impulse.)
The scientist has now been advised to seek relief under the procedures established by the IRS in the wake of the Bernie Madoff Ponzi scheme. Help for victims of Ponzi schemes. And according to the Washington Post article, the number of victimized taxpayers claiming such relief has increased dramatically in recent years. Under Revenue Procedure 2009-20, the IRS will provide safe harbor treatment for qualifying taxpayers that enable them to deduct either 95 percent or 75 percent of their losses, depending on whether they pursue recovery. So, could this mean a partially happy ending for the scientist?
Here is where we are reminded not to rely too much on newspaper reporting of complex tax situations. The revenue procedure is aimed at taxpayers who experience losses in “certain investment arrangements discovered to be criminally fraudulent,” for example, the paradigm Ponzi schemes. The taxpayer, that is, the “qualified investor,” must identify a “lead figure” who is either (1) charged under Federal or state law or (2) is the subject of a Federal or state criminal complaint where either (a) an admission is alleged or an affidavit of admission is executed, or (b) a receiver or trustee has been appointed with respect to the arrangement or the assets of the arrangement were frozen.
The Ponzi scheme procedures fall outside of the TCJA’s suspension as “Other Itemized Deductions” in Schedule A, requiring the completion of a Form 4684. https://www.irs.gov/