Americans lost over $10 billion in 2023 due to theft and fraud, much of it occurring online. Victims often turn to tax professionals for advice on claiming a theft loss deduction, but the Tax Cuts and Jobs Act of 2017 (TCJA) has added complexities to the process. Prior to the TCJA, theft losses were more straightforward, with specific criteria for claiming a deduction. However, the TCJA introduced limitations on theft losses from 2018 through 2025.
Under the TCJA, Section 165 of the IRS Code outlines the limitations on claiming theft losses for individuals. The TCJA did not change the overall structure of Section 165, but it added restrictions on theft losses, particularly those falling under Section 165(c)(3), which includes losses from theft. This limitation states that theft losses cannot be claimed unless they are attributable to a federally declared disaster. This poses a challenge for victims of online fraud, as very few theft losses qualify under this provision.
While the TCJA may limit theft loss deductions, previous IRS guidance offers some hope for victims of theft and fraud. The IRS has indicated that theft losses may be claimed under Sections 165(c)(1) or (c)(2), which cover losses incurred in a trade or business or transactions entered for profit. For example, victims of Ponzi schemes have successfully claimed theft loss deductions under Section 165(c)(2). This allows victims of certain types of fraud to potentially claim a deduction for their losses.
In cases of modern internet fraud schemes, victims face challenges in claiming theft loss deductions. Victims who enter into transactions based on romantic connections are unlikely to qualify under Section 165(c)(2) as they did not enter the transactions with the primary intent of making a profit. However, victims of investment scams may have a stronger argument for claiming a theft loss deduction under Section 165(c)(2). The specific circumstances of the fraudulent scheme play a significant role in determining whether a theft loss deduction may be claimed under the current tax laws.
Overall, theft losses under the TCJA remain a complex and uncertain area of tax law. Victims of online fraud and theft should consult with tax professionals to assess their eligibility for claiming a theft loss deduction based on the particular facts and circumstances of their situation. With the limitations imposed by the TCJA, it is essential for victims to seek expert guidance to navigate the complexities of claiming a theft loss deduction and potentially recover some of their stolen funds.
