IRS Clarifies Theft and Fraud Loss Deductions

What Are Theft and Fraud Loss Deductions?

Theft and fraud loss deductions are ways for taxpayers to recover some of the financial impact from stolen property, fraud, or scams. Essentially, the IRS recognizes these losses as legitimate and allows taxpayers to deduct them under certain conditions.

For example, if you were a victim of identity theft, a Ponzi scheme, or property theft, you might be eligible for a deduction. However, not all losses qualify, so it’s important to understand what the IRS considers deductible.

What Qualifies as “Theft”?

Under IRS guidelines, theft is defined as the taking of money or property with criminal intent. This includes crimes like burglary, larceny, embezzlement, and fraud. However, theft does not include accidental losses, misplacement of property, or losses due to market downturns or poor investments (unless tied to specific fraudulent schemes).

Common examples of deductible theft-related losses include:

• Stolen property
• Fraudulent schemes like Ponzi schemes or phishing scams
• Identity theft leading to financial loss

What About Fraud Losses?

Fraud losses occur when you're deceived into parting with your money or assets. These may not involve physical theft but still fall under the IRS rules for deductions if fraud can be proven. Scams targeting older adults, phishing-related bank account thefts, or fraudulent investment schemes can all qualify under the category of fraud loss.

Key IRS Clarifications

To clear up any gray areas, the IRS has made some important updates to theft and fraud loss deductions. Below are the most notable points to consider.

Must Meet "Casualty Loss" Requirements

To claim a theft or fraud loss deduction, the loss must meet the definition of a "casualty loss." This typically means the damage is sudden, unexpected, and unusual. For example, slow property depreciation cannot be deducted, but sudden theft involving police documentation could meet the criteria.

Only Certain Losses Apply After the 2018 Tax Reform

The Tax Cuts and Jobs Act (TCJA) of 2018 made significant changes to theft and fraud loss deductions. Under current law, deductions for personal theft losses are only available if the loss is attributable to a federally declared disaster. However, losses related to work-related theft or investment fraud may still qualify, even outside disaster situations.

Limitations Apply

Taxpayers can only deduct the losses that exceed 10% of their adjusted gross income (AGI). Additionally, the first $100 of any loss is not deductible.

For example, if your AGI is $50,000 and you experience a $10,000 theft loss, you can only deduct $4,900, calculated as follows:

• Total loss = $10,000
• Subtract $100 = $9,900
• Subtract 10% of AGI ($5,000) = $4,900

Documentation Is Crucial

To claim a theft tax deduction, you need extensive documentation. This includes police reports, receipts for lost items, and any other evidence to substantiate your claim.

Special Rules for Ponzi Scheme Victims

If you've been the victim of a Ponzi scheme, the IRS has specific rules to help affected taxpayers. The Revenue Procedure 2009-20 outlines a safe-harbor formula for calculating losses from a Ponzi scheme, making it easier to claim fraud loss deductions.

How to Claim Theft and Fraud Loss Deductions

Not sure where to start with claiming these deductions? Follow these steps to simplify the process.

Step 1. Identify the Loss

Determine whether your loss falls under the IRS's definition of theft or fraud. Be sure the case meets the conditions outlined earlier, such as being related to a criminal act or federally declared disaster.

Step 2. Document Everything

Gather all relevant evidence, including police reports, receipts, bank records, and any correspondence related to the fraud or theft. The more documentation you have, the stronger your case will be.

Step 3. Calculate the Deductible Amount

Subtract $100 from the total amount of your loss. Then subtract 10% of your AGI to calculate the amount you can actually deduct.

Step 4. Use Form 4684

File Form 4684, "Casualties and Thefts," with your federal tax return. Be sure to follow the instructions carefully and provide all required information.

Step 5. Seek Expert Help

If calculating deductions seems overwhelming, work with a tax professional. They have the expertise to maximize your deductions while ensuring compliance with IRS regulations.

Why You Shouldn't Ignore Theft Tax Deductions

Failing to claim theft or fraud losses can mean leaving significant money on the table. If you're a victim of a qualifying loss, these deductions aren't just an opportunity to recover financially; they're also a way to ensure your tax return reflects your true situation.

Businesses and individuals alike can benefit greatly from understanding and leveraging these deductions, especially as fraudulent schemes become more sophisticated.

What This Means for You

The IRS's clarified rules aim to make deductions for theft and fraud losses more accessible and straightforward. For taxpayers, this means an opportunity to better weather the financial storm of unforeseen events.

At SD Mayer & Associates, we specialize in simplifying complex tax situations. If you've experienced a loss and are unsure whether it qualifies for a scam tax deduction, we're here to help. Our team of seasoned advisors can review your case and guide you through maximizing your deductions.

Don't attempt to tackle the maze of deductions alone. Contact SD Mayer today, and let's turn complexity into clarity.