Please note: We DO NOT offer free tax advice for TurboTax users or self-preparers.

Steve Shapiro, EA CTRC

Mastering Tax Deductions for Scam Losses

Understanding the tax deductions available for losses incurred from scams is intricate, especially with legislative shifts that restrict casualty and theft deductions primarily to disaster-related incidents. However, victims of scams still have crucial tax deductions they can explore.

Traditionally, tax law enabled deductions for theft losses not covered by insurance. Although recent changes have tightened the criteria, primarily focusing on disaster-related losses, there remains an avenue for relief. Specifically, the tax code stipulates that losses from scams involving a profit motive can qualify for deductions, providing a valuable tax consideration in these circumstances.

Image 1

Key Criteria for Profit-Driven Loss Deductions: To qualify a theft loss under the profit-driven category, several essential requirements must be satisfied:

  1. Profit Motive: The transaction must be primarily driven by an intention to achieve financial gain. Documented evidence demonstrating a genuine expectation of profit is crucial to meet IRS standards, often requiring substantial records.

  2. Transaction Type: Qualifying transactions typically involve conventional investment vehicles like securities or real estate. Transactions without a profit intent, like personal loans, are generally disqualified from deductions.

  3. Loss Nature: The causal link between the scam and the investment should be clear, demonstrated through meticulous financial records. Investment scams targeting financial investments, for instance, can meet these criteria.

IRS Guidelines Application: Proper application often requires examining IRS guidance and memoranda to identify deductible scenarios. The IRS Chief Counsel Memorandum (CCM 202511015) provides insight into eligibility:

  • Investment Scams: These scenarios typically illustrate deductible losses if the original investment intention was profit-oriented. Taxpayer documentation such as proof of funds transfer and communications with the scammer can substantiate claims.

  • Theft Losses: These require that the transaction was initiated for profit, not personal reasons.

In situations like being scammed from IRA or tax-deferred funds, the tax consequences are substantial, contingent on whether the account is a traditional or Roth type.

For traditional IRAs, early withdrawals due to scams are typically taxed as income, and may additionally trigger a 10% early withdrawal penalty if the account holder is below 59½. In cases of Roth accounts, while contributions can often be recovered tax-free, early earnings withdrawals can trigger both taxes and penalties unless qualifying circumstances apply.

Case Studies: These examples demonstrate eligibility:

Example 1: Impersonator Scam - Qualifying Loss

Taxpayer 1, deceived by an impersonator claiming to secure their compromised accounts, transferred funds with intent to protect and reinvest them. This profit-oriented motive makes the scam loss deductible as a theft loss.

Tax Implications:

a. Deductible on Schedule A if itemizing deductions.

b. Subject to taxation on IRA withdrawals, with possible early withdrawal penalties.

c. If possible, rolling funds back into the IRA within 60 days can alleviate some tax impacts.

Image 2

Example 2: Romance Scam - Non-Qualifying Loss

Taxpayer 2, involved in a romance scam and driven by personal reasons, lacks a profit motive, rendering the loss non-deductible as it doesn't meet profit-driven criteria.

Example 3: Kidnapping Scam - Non-Qualifying Loss

Similar to the romance scam, Taxpayer 3 was induced under duress with no intent to profit, hence the loss is non-deductible.

Conclusion: These case studies emphasize the importance of professional advice when faced with dubious solicitations and underscore the necessity for thorough documentation to affirm profit motive for tax deductions.

Share this article...
Facebook
Twitter LinkedIn Pinterest Pocket Reddit Email

Want our best tax and accounting tips and insights delivered to your inbox?

Sign up for our newsletter.

I confirm this is a service inquiry and not an advertising message or solicitation. By clicking “Submit”, I acknowledge and agree to the creation of an account and to the and .
Have a question? Check out the frequently asked questions below.
Hi there! Welcome to Steve Shapiro, EA website. For any questions not listed here, use the Ask Me A Question form and one of our staff will reach out to you.
Please fill out the form and our team will get back to you shortly The form was sent successfully
Why choose an Enrolled Agent?