The IRS recently released a Chief Counsel Advice (CCA) memorandum dealing with the proper timing for deducting Ponzi scheme losses.

According to the facts of the CCA, the taxpayer wrote checks to figures involved with a Ponzi scheme in years two and three. In year four, one of the lead figures of the Ponzi scheme died. Also in year four, the IRS filed a civil complaint against the lead figures of the Ponzi scheme – including the estate of the deceased individual – and the Service petitioned the court for the appointment of a receiver that the court appointed in the same year. In year five, criminal charges were filed against another lead figure of the scheme. The taxpayer claimed a theft loss in year four.

Section 165(e) of the Internal Revenue Code states that a theft loss is deductible in the taxable year the taxpayer discovers the loss. Revenue Procedure 2009-20, which provides guidance on deducting Ponzi scheme losses, generally defines a qualified loss as a loss resulting from an arrangement in which the lead figure was charged with a crime whose elements meet the definition of theft under IRC § 165. The Rev. Proc. defines discovery year as the year in which the indictment, information or complaint involving the loss is filed. Rev. Proc. 2011-58 modified Rev. Proc. 2009-20’s definition of qualified loss to include situations in which lead figures died before the government could file a criminal charge. The new definition of qualified loss includes losses stemming from arrangements in which the lead figure was the subject of at least one civil complaint filed by a government entity in a court or administrative action. Additionally, the civil complaint must allege facts that include all of the elements of a fraudulent arrangement, the lead figure’s death precludes the filing of a criminal charge against the lead figure and a receiver or trustee must have been appointed with respect to the arrangement. The Rev. Proc. also modifies the definition of discovery year as the later of the year in which the civil complaint is filed or the year in which the lead figure dies.

The IRS held that the year of discovery is year four because in year four the civil complaint was filed, the lead figure died and a receiver was appointed with respect to the arrangement.

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