Source: https://www.colemanlaw.com/category/uncategorized/securities-litigation-blog/
Timestamp: 2019-09-20 08:33:21
Document Index: 795945664

Matched Legal Cases: ['§ 165', '§ 7491', '§ 1221', '§ 165', '§165', '§ 67', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 6662', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', 'in casu', '§ 165', '§ 165', '§ 7491', '§ 7491', '§ 7491', '§ 1', '§ 1', '§ 4', '§8', '§ 1', '§ 7463', '§165', '§ 6662', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 165', '§ 6662', '§ 165', '§ 165', '§ 165', '§ 165', '§165', '§ 67', '§ 4', '§8']

Securities Litigation Blog Archives - Coleman Law Firm
February 20, 2017 /in Securities Litigation Blog /by Excalibur Technology
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Excalibur Technology https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Excalibur Technology2017-02-20 13:29:422017-02-20 13:29:42Investment Advisor Shaun P. Golden
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Excalibur Technology https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Excalibur Technology2017-02-20 13:14:492017-02-20 13:20:49Wall Street Wrongdoing
January 20, 2017 /in Securities Litigation Blog /by Brian
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Brian https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Brian2017-01-20 14:25:242017-02-10 02:38:30How Do I Protect Myself From Wrong-Doing By An Financial Advisor?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2016-02-05 15:04:482018-06-02 21:44:35What Do Diversification And Asset Allocation Mean?
My broker sold me a product and it does not show up on my statement. Is that acceptable?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2016-02-05 15:02:412016-02-05 15:02:41My broker sold me a product and it does not show up on my statement. Is that acceptable?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2016-02-05 14:54:142016-02-05 14:54:14I asked my broker to do something and it did not get done. What should I do?
Five Challenges Firms Should Address Highlighted in 10th Anniversary Letter
January 9, 2015 /in Securities Litigation Blog /by Jeff Coleman
FINRA Releases (January 6, 2015) Regulatory A EXAM PRIORITIES LETTER
Richard G. Ketchum, FINRA’s Chairman and CEO admitted that in the decade since publishing the first exam priorities letter, there have been tremendous changes in broker-dealer operations, the markets and the regulatory landscape. Mr. Ketchum acknowledged that some firms have made great progress in keeping up with these changes, but more attention has to be paid to addressing specific challenges that have been pinpointed as their areas of concern.
A Clearwater Securities Litigation Attorney comments: What is most concerning to us is what those â€œareas of concernâ€ are by FINRA. The Release goes on to specify five key areas of broker-dealer activity:
Alignment of firms’ interests with those of this customers;
Isn’t this exactly what the crux of the securities industry is all about? When you think of a business that is built totally on the trust of it’s customers, what relationship could be more based on trust than the broker/client relationship? Ordinary people bring their irreplaceable life savings or retirement funds and entrust it to their broker already believing they are DOING the exact things that FINRA has highlighted in their 10th Anniversary letter as needing improvement.
A Securities Litigation Attorney in Clearwater Warns:
The letter goes on to say that FINRA â€œalso notes its focus on high risk brokers and removing bad actors who prey on vulnerable investors from the securities industry in an expeditious manner. What that sentence doesn’t say that it’s usually those rogue brokers that bring in the largest commissions and bonuses for their supervisor, or, in other words, in most cases, the fox is left to watch the chicken coop. Without a customer complaint to spark an investigation, many of these â€œbad actorsâ€ and their supervisors are most likely not aligning their firms’ interest with those of their customers.
Senior Clients Are The Most Victimized by Rogue Brokers
Sometimes, those rogue brokers aren’t caught until they have fully taken advantage of their senior clients. I have been hired by the families of their deceased relatives that wondered where their loved one’s money went? They didn’t realize they were victims of high frequency trading or the purchase of investments that weren’t suitable for them.
It’s a sad day when FINRA announces they are continuing to observe shortcomings in one of the most trusted business relationships most people have with a single person.
If you want to read the entire News Release: Click Here
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2015-01-09 21:03:252015-01-09 21:03:25Five Challenges Firms Should Address Highlighted in 10th Anniversary Letter
Is it worth it to file an action in FINRA if youâ€™ve been wronged?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2014-11-06 07:14:392014-11-06 07:14:39Is it worth it to file an action in FINRA if youâ€™ve been wronged?
Do you qualify for simplified arbitration?
October 16, 2014 /in Securities Litigation Blog /by Jeff Coleman
Have you lost $50,000 or less and been turned away by other securities litigation attorneys? Did you know that FINRA has a rule change that would allow those customers with losses up to $50,000 or less to file a Simplified Arbitration.
Did your broker make a trade without your permission, and you lost money? Did your broker fail to execute a trade you ordered and it ended up with you losing the profit you would have made if the broker had done his or her job.
Yes, brokers are people too, and they make mistakes. But, that doesn’t mean that you have to suffer losses just because your broker mishandled your account unintentionally. There are rules and protections in place to protect you from such unintentional mistakes.
The simplified process is streamlined, and in some cases there is no actual hearing. You tell your story of whatever alleged wrongdoing has occurred in written form and it is provided to a single arbitrator and to the legal department of the firm you believe has wronged you. The brokerage firm will respond to your claim. There will be a request to provide certain documents by each party. This is the option to have a single arbitrator, and a decision can be rendered based solely on the pleadings and materials provided. There is always an option to have a hearing, if desired, but our experienced has demonstrated to us that most people would rather NOT go to a hearing, which is why they do nothing.
We at the Coleman Law Firm believe that every investor should have the assistance and experience of a proven law firm behind them. We have assisted individuals in the preparation of their simplified claims.
For more information on this proposed Simplified Arbitrations, you can check with FINRA.org, or contact our offices at (727) 461-7474.
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2014-10-16 15:18:062014-10-16 15:18:06Do you qualify for simplified arbitration?
I was sold a promissory note that is now in default. What should I do?
https://www.colemanlaw.com/wp-content/uploads/2011/06/attorney-book-e1418771237155.jpg 62 62 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:41:082011-06-22 09:41:08I was sold a promissory note that is now in default. What should I do?
It seems like the investments I was sold were not right for me. What should I do?
https://www.colemanlaw.com/wp-content/uploads/2011/06/gavel-courtroom-1-e1412869678478.jpg 50 60 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:40:452011-06-22 09:40:45It seems like the investments I was sold were not right for me. What should I do?
My broker bought or sold something without talking to me first. Is that allowed?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:40:232011-06-22 09:40:23My broker bought or sold something without talking to me first. Is that allowed?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:39:002011-06-22 09:39:00My broker sold me a product and it does not show up on my statement. Is that acceptable?
My broker told me that the mutual fund was rated triple A or five star. What does that mean?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:38:392011-06-22 09:38:39My broker told me that the mutual fund was rated triple A or five star. What does that mean?
What about financial advisors that do not tell me the whole story?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:38:052011-06-22 09:38:05What about financial advisors that do not tell me the whole story?
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-06-22 09:35:562011-06-22 09:35:56What do diversification and asset allocation mean?
May 28, 2011 /in Securities Litigation Blog /by Jeff Coleman
Securities Litigation: How to Protect Your Self From Wrong-Doing By An Financial Adviser.
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-05-28 09:42:132011-05-28 09:42:13How do I Protect Myself From Wrong-Doing By An Financial Advisor?
Why are the account documents so important?
May 25, 2011 /in Securities Litigation Blog /by Jeff Coleman
Please see video below why account documents are so important.
https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png 0 0 Jeff Coleman https://www.colemanlaw.com/wp-content/uploads/2015/12/logo.png Jeff Coleman2011-05-25 19:15:052011-05-25 19:15:05Why are the account documents so important?
It is well known that real estate values have dwindled in America over the past few years. Regardless, many banks and brokerage firms have continued to encourage their clients to invest in real estate products to diversify their portfolios or to generate income. Many brokers led investors to these risky products with attractive yield percentages and misled investors by selling these products as â€œCD alternatives,â€ â€œpreferred stocks,â€ or even â€œbonds.â€ Unfortunately, the true risks associated with these products were not disclosed, and investors have lost all or a significant amount of their investments, have not received the yield percentages that were touted, or are unable to access the money they invested.
1). Non-Traded REITs â€“ Non-traded (or private) REITs are securities offered by your bank or brokerage firm that are not listed or traded on a public exchange. These products often offer attractive yields; however, many have reduced the advertised distribution amounts, have stopped making distributions to investors, or have forbidden investors from accessing their money. In other words, many investors in non-traded REITs are finding that they are receiving much less income than anticipated, no income at all, or that they cannot access any of their investment dollars.
2). Traded REITs â€“ Traded REITs are securities sold by your bank or brokerage firm that are listed and traded on a public exchange. These securities often offer attractive yields and trade similarly to common stocks; however, traded REITs share the downside risks of common stocks. Your broker may have told you that you were purchasing a â€œbondâ€ or â€œpreferred stockâ€ when you actually purchased a REIT. Many investors in traded REITs have suffered significant losses due to decreases in share price or have been unable to find buyers for their now worthless shares due to financial problems of the underlying real estate company.
3). Other Real Estate Projects â€“ Many investors have been approached by representatives of banks and brokerage firms to invest in or make loans to real estate projects organized by that representative or a business partner or friend of that representative. Investors are often approached despite not having a relationship with the particular bank or brokerage firm. The projects often promise attractive returns or yields much greater than what is offered by the bank or brokerage firm. The investments are not offered by the bank or brokerage firm and often involve condominium and commercial real estate developments and oil/gas exploration. Unfortunately, investors often lose all or a significant portion of their investments in these projects and find that the projects were scams or were poorly managed. The bank or brokerage firm, however, still may be liable for investor losses in these projects.
For years, investment salespeople have pitched preferred stocks and Fannie Mae and Freddie Mac investment products to elderly clients, retirees, and clients nearing retirement. The products are often pitched and misrepresented as â€œsafe,â€ â€œno risk,â€ â€œsecure,â€ â€œinsured,â€ and â€œCD alternatives.â€ In addition to claims that clients cannot lose money or investment principal, Fannie Mae and Freddie Mac products are often pitched with the added assurance that the Fannie Mae and Freddie Mac are â€œimplicitly backedâ€ or â€œguaranteedâ€ by the federal government, or, gasp, that Fannie Mae and Freddie Mac are the federal government.
It was well known in the securities industry as early as 2006 that the mortgage industry was in turmoil in America. Unfortunately, in 2007 and 2008, numerous brokerage firms and banks ignored the warning signs, including widespread reports regarding the financial instability of Fannie Mae and Freddie Mac, and continued to sell Fannie Mae and Freddie Mac preferred stocks as â€œsafeâ€ investments. In some instances, investors were never warned of the true risks associated with the products or they were told that the products were protected with some sort of governmental backing.
You should be particularly careful when considering transferring your money from one annuity to another. This procedure is often referred to as a â€œ1035â€ or â€œtax freeâ€ exchange and is different from simply transferring money from one investment choice to another within the same annuity. Here, you actually exchange an existing variable annuity contract for a new annuity contract. There are legitimate reasons for a 1035 exchange; however, there are several potential downsides that your annuity salesperson may or may not know or remember to mention, including: 1) surrender charges for surrendering the first annuity; 2) possible subjection to a new and potentially longer surrender charge schedule for the new annuity; 3) ineligibility for a tax free transfer; 4) or higher fees for the new annuity.
In addition to the foregoing, numerous annuity beneficiaries have suffered tremendous losses at the hands of annuity salespeople who knowingly or negligently failed to address the potential detrimental effects of 1035 exchanges on the value of the initial annuity contract’s death benefit. Death benefits come in various forms, but most variable annuity contracts â€œguaranteeâ€ that the beneficiaries of the contract will receive, upon the annuitant’s death, the original amount invested in the annuity contract, adjusted for withdrawals. This provides peace of mind in that the beneficiaries will receive at least what was invested in the contract, regardless of investment performance. Some contracts offer beneficiaries a death benefit guaranteeing beneficiaries the higher of the original invested amount or the highest appreciated value of the annuity, determined at certain prescribed future dates. Regardless, fees are assessed for the death benefit feature, and the death benefit guarantee can be very important and powerful in the event of decreased investment values.
Many investors are filing claims against UBS Financial Services and other major brokerage firms alleging that they were deceived as to the risks of investing in Lehman Brothers structured notes. Brokers pitched the notes, including notes with a â€œprincipal protection feature,â€ as conservative and safe investments with â€œno riskâ€ and sold them to conservative investors seeking yield and preservation of investment principal. The true risks associated with these products were not disclosed by the brokers selling them, and investors were actually subject to significant amounts of risk. In fact, investors in the notes may lose all or a majority of their principal investments in the notes, as Lehman Brothers filed for bankruptcy protection on September 15, 2008.
The Definition of â€œTheftâ€. 3
Examples of Conduct Giving Rise to â€œTheftâ€ for Purposes of IRC § 165. 4
The Use of Judicial Estoppel to Support a â€œTheftâ€ Characterization. 7
The Use of the Service’s Safe Harbor for â€œTheft Lossâ€ Treatment for Losses Resulting From Ponzi Schemes. 9
1. Establishing the Loss as a â€œQualified Loss.â€. 9
III. THE PRIVITY REQUIREMENT AND THE CORRESPONDING DENIAL OF â€œTHEFT LOSSâ€ TREATMENT FOR OPEN-MARKET TRANSACTIONS. 14
The Totality of the Facts and Circumstances Govern â€œReasonable Prospect of Recoveryâ€ and â€œReasonable Certaintyâ€ Tests. 28
Shifting the Burden of Proof on the Issue of â€œTimingâ€ of the Theft Loss Deduction to the Service Under IRC § 7491. 34
The classic Ponzi scheme may soon be renamed the â€œMadoff scheme,â€ simply by virtue of the massive amounts of monies, an estimated $50 billion, invested with Madoff. It is now known that Bernie Madoff, like his famous predecessor, Charles Ponzi, used monies given to him by new investors to pay prior investors promised returns on their earlier investments. Madoff, like Ponzi, and also allegedly like Arthur Nadel and others, robbed Peter to pay Paul. Their massive scams wrongfully deprived thousands of investors of billions of dollars.
For individual investors, the Internal Revenue Code (â€œIRCâ€) generally treats investment losses as capital losses, deductible only to the extent of $3000 in excess of the capital gain experienced by the taxpayer for the year in question.[3] Even though the excess capital loss may be carried forward to later tax years, the deductibility of these losses is still subject to the same limitations. [4] In addition, because a capital gain is only experienced upon the sale or exchange of property (see IRC § 1221), capital gains are less likely to be recurring income. Thus, there is the potential that a significant loss suffered by a defrauded investor may never be utilized in the investor’s lifetime.
Theft losses, on the other hand, are not limited in the same manner that capital losses are limited. More importantly, a theft loss can be used by individuals as a deduction against ordinary income such as wages or interest income to the extent that the theft loss is not covered by insurance or otherwise.[5] In addition, in Revenue Ruling 2009-9, 2009-14 I.R.B. 735, issued March 17, 2009, the Internal Revenue Service (â€œServiceâ€) announced that â€œtheft lossesâ€ resulting from investment transactions are deductible under IRC § 165(c)(2) rather than (c)(3). As such, they are not subject to the limitations of IRC §165(h), limiting certain losses to the excess of $100 and 10% of adjusted gross income. Nor, announced the Service, are â€œtheft lossesâ€ resulting from investments subject to the limitations on itemized deductions found in IRC §§ 67 and 68.
Ordinary income, of course, is more likely to be recurring, substantial, and taxed at higher marginal rates. Thus, a theft loss deduction that can be deducted against ordinary income can give the victim of a fraudulent investment scheme greater, more immediate relief than can a deduction for a capital loss. But, is it proper under federal income tax law, to treat an investment loss as a theft loss? The answer for victims of Ponzi schemes is often â€œyes.â€ For victims of other kinds of investment loss caused by securities fraud or other wrongdoing, â€œtheft lossâ€ treatment might be available under certain circumstances.
The Definition of â€œTheftâ€
The court in Edwards v. Bromberg, 232 F. 2d 107 (5th Cir. 1956) provided what is the most often-cited definition of â€œtheftâ€ for purposes of IRC § 165, as follows:
[T]he word â€˜theft’ is not . . . a technical word of art with a narrowly defined meaning but is . . . a word of general and broad connotation, intended to cover . . . any criminal appropriation of another’s property to the use of the taker, particularly including theft by swindling, false pretenses, and any other form of guile. . . [T]he exact nature of the crime, . . . is of little importance so long as it amounts to theft.[6]
The broad approach of the Bromberg court to the definition of â€œtheftâ€ is reflected in the Treasury Regulations promulgated under IRC § 165, deeming â€œtheftâ€ to include, but â€œnot be limited to, larceny, embezzlement, and robbery.â€[7]
Whether a â€œtheftâ€ has occurred depends upon the law of the jurisdiction where the loss was sustained.[8] Either state or federal law can provide the requisite basis for establishing a theft loss to the extent applicable to the conduct at issue in the jurisdiction where the theft occurred.
And the record before us establishes that Livingstone’s fraud in obtaining money from petitioners brings this case within the applicable Florida criminal statute in respect of obtaining money by â€˜false representations or pretense, Fla. Stat., sec. 811.021(s), as well as within the provisions of the United States Code which makes it a crime to use the mails to defraud, 18 U.S.C., sec. 1341. The crime under either Florida or Federal law was a â€˜theft’ within section 165 of the Internal Revenue Code.[9]
Furthermore, it is unnecessary that the perpetrator of the â€œtheftâ€ be convicted or even charged with theft.[10]
Examples of Conduct Giving Rise to â€œTheftâ€ for Purposes of IRC § 165.
The Bromberg Court’s inclusion of â€œany other form of guileâ€ within the ambit of â€œtheftâ€ for purposes of § 165 is certainly broad enough to include the Ponzis, the Madoffs, and the Nadels. The court’s emphasis, in particular, on â€œswindling, false pretenses, and any other form of guileâ€ potentially includes securities fraud within its scope. The Service acknowledged this possibility in Chief Counsel Advice 200811016.[11]
Chief Counsel’s Office opined that â€œthese facts establish that a theft occurred,â€ notwithstanding the structure of the transactions.
In Revenue Ruling 77-18, 1977-1 C.B. 46, the Service similarly concluded that a theft loss occurred under circumstances in which a taxpayer received shares of stock in a company (â€œX Companyâ€) in exchange for his shares of stock in another company (â€œG Companyâ€) pursuant to a merger agreement between the two companies. Soon thereafter, X Company filed for bankruptcy. The bankruptcy trustee reported that the â€œprimary goal of the fraud participants was to inflate . . . the market price of X’s stock . . . by reporting nonexistent income and assets on the corporate books and failing to record liabilities.â€[15]
The law of the state in which the taxpayer in Revenue Ruling 77-18 resided included within its definition of â€œtheft,â€ the obtaining of property by false pretenses. Thus, the Service concluded as follows:
A number of states include the obtaining of property by false pretenses within their definition of theft.[17] Thus, circumstances that give rise (or would give rise) to a charge of theft by false pretenses are favorable to a characterization of â€œtheftâ€ under IRC § 165.
Circumstances resulting in criminal charges for the sale of unregistered securities can also give rise to a â€œtheftâ€ characterization under IRC § 165. In Vietzke v. Commissioner, 37 T.C. 504 (1961), the Tax Court upheld the taxpayer’s â€œtheft lossâ€ treatment for funds invested in what was purported to be an insurance company directly through the company principals. Contrary to the representations in the prospectus, the stock and the company were not properly registered. The company principals were criminally indicted on charges of violating Indiana Securities Law by selling unregistered securities through an unregistered agent. The Tax Court rejected the Service’s claim that the company principals lacked criminal intent, finding as follows:
Interestingly, the Tax Court in Vietzke did not rely on the elements of the crime with which the principals were charged (i.e., the sale of unregistered securities) in concluding that the taxpayer had suffered a theft loss. Nor did the Tax Court rely on the statutory crime of theft under Indiana law, having found none denoted â€œtheftâ€ per se. Instead, the Tax Court pointed to the broad definition of â€œtheftâ€ established by the Bromberg Court.â€[19] The court was simply satisfied that, based on the facts, the principals acted with a criminal intent to deprive the taxpayer/investor of his funds.
The Service agreed that churning of, and unauthorized transactions in, the taxpayer’s brokerage account by his broker constituted â€œtheftâ€ under the applicable state law for purposes of IRC § 165 in Jeppsen v. Commissioner, 70 T.C.M. (CCH) 199 (1995).[20] There, the taxpayer, a carpet installer, invested monies he was saving with a nationally-recognized brokerage firm. The broker (i) falsified the taxpayer’s new account documents, labeling him an experienced investor, (ii) engaged in unauthorized transactions, including purchasing stocks on margin, and (iii) churned the taxpayer’s account. Although finding the conduct constituted â€œtheft,â€ the court nonetheless denied the â€œtheft lossâ€ deduction for the year in which the taxpayer claimed it as, in that year, the taxpayer was exploring the possibility of filing a lawsuit against the brokerage firms involved. Thus, the taxpayer’s claim of a â€œtheft lossâ€ was premature, as he retained, and was pursuing, a reasonable prospect of recovering his loss.[21]
The Use of Judicial Estoppel to Support a â€œTheftâ€ Characterization.
The test for â€œtheftâ€ characterization under IRC § 165, as previously explained, is not dependent upon a criminal indictment or conviction. Rather, the test depends upon whether the conduct evidences a criminal appropriation of another’s property â€œby theft, false pretenses, and any other form of guile . . . without regard to the exact nature of the crime . . . .â€[22] Thus, there have been cases in which the Service and courts have allowed â€œtheft lossâ€ treatment even in the absence of a criminal indictment or conviction of the perpetrators.[23] Nonetheless, a criminal charge or conviction is helpful in supporting the specific intent required of the perpetrator.[24]
When there is a criminal conviction of, or a guilty plea from, the perpetrator of the fraud, the defrauded investor should be able to assert that the Service is judicially estopped from contesting the characterization of the investment loss as a â€œtheft lossâ€ if the federal government has successfully prosecuted the perpetrator for the conduct at issue. â€œJudicial estoppel â€˜prevents a party from asserting a position in a legal proceeding that is contrary to a position previously taken in the same or earlier proceeding.’â€[25] The doctrine of judicial estoppel is similar to the doctrines of res judicata and collateral estoppel, which prevent parties from relitigating issues decided in prior proceedings by a court of competent jurisdiction.[26] However, â€œ[j]udicial estoppel focuses [only] on the relationship between a party and the courts and seeks to protect the integrity of the judicial process by preventing a party from successfully asserting one position before a court and then asserting a contradictory position before the same or another court merely because it is now in that party’s favor to do so.â€[27]
The Use of the Service’s Safe Harbor for â€œTheft Lossâ€ Treatment for Losses Resulting From Ponzi Schemes.
On March 17, 2009, the Service issued Revenue Procedure 2009-20,[30] creating an optional â€œsafe harborâ€ for treatment of certain investment losses as â€œtheft lossesâ€ (think Madoff). Under this Procedure, if the taxpayer elects the safe harbor, a â€œtheft lossâ€ is deemed to occur. The deemed theft loss, called a â€œqualified loss,â€ occurs when a taxpayer has invested in a â€œspecified fraudulent arrangementâ€ and one or more of the perpetrators has been criminally charged with one or more crimes that would meet the definition of â€œtheftâ€ for purposes of IRC § 165, provided certain other conditions are satisfied. This safe-harbor treatment is available to losses for which the â€œdiscovery year,â€ as specifically defined in the Procedure, is 2008 or later.[31]
1. Establishing the Loss as a â€œQualified Loss.â€
First, to utilize the safe harbor, the taxpayer must have invested in a â€œspecified fraudulent arrangement.â€ A specified fraudulent arrangement is, generally speaking, a Ponzi scheme.[32]
Second, to utilize the safe harbor, one or more of the perpetrators must have been charged, criminally, by indictment, information, or complaint (not withdrawn or dismissed) under state or federal law. The criminal charges, as previously mentioned, must constitute â€œtheftâ€ under the law of the jurisdiction in which the theft occurred, consistent with the existing case law governing this issue.[33]
It is worth noting that there are a number of reasons criminal charges may not be filed against the perpetrator, such as death of the perpetrator, a disinclination to prosecute while SEC civil investigations are ongoing, or the small size of the fraudulent scheme in comparison to other schemes given limited prosecutorial resources. The conduct of the perpetrator may nonetheless constitute theft under the law of the applicable jurisdiction, and the victims may still qualify for â€œtheft lossâ€ treatment for their investment losses, just not under the safe harbor of Revenue Procedure 2009-20.
The third requirement of a â€œqualified lossâ€ under the safe harbor applies only if the criminal charges are by complaint versus indictment or information. If the charges are by complaint (versus indictment or information), then one of the following three factors must also be present: (i) the complaint must allege an â€œadmission by the lead figure,â€ or, (ii)a receiver or trustee must have been appointed for the specified fraudulent arrangement or, (iii) the assets of the specified fraudulent arrangement must have been frozen.[34] The reason for this added requirement for criminal charges by complaint versus indictment or information is the lesser standard of probable cause generally applicable to criminal charges by complaint.
In addition, the taxpayer must have â€œclean hands.â€ If the taxpayer had actual knowledge of the fraudulent nature of the arrangement prior to its â€œpublic outing,â€ the taxpayer cannot utilize the safe harbor. Nor is the safe harbor available to investors in tax shelters (as defined in IRC § 6662(d)(2)(C)(ii)) or to those who invested in the fraudulent arrangement through a fund or other entity.[35] This latter restriction retains the Service’s historic hostility to granting â€œtheft lossâ€ treatment to defrauded investors who were not in privity with the perpetrator of the fraud.
Under IRC § 165(e), all theft losses are treated as sustained during the taxable year in which the taxpayer discovers the loss.[36] Discovery of the theft, whether from a fraud, embezzlement, or other kind of misappropriation of the taxpayer’s property, has not, however, ended the query. Taxpayers also have had to grapple with the general limitation applicable to all losses subject to IRC § 165(a). That general limitation has required consideration of whether there exists a â€œreasonable prospect of recoveryâ€ from insurance or otherwise.[37]
If a reasonable prospect of recovery exists as to part of a theft loss, then a deduction as to that part of the loss is unavailable until the year in which it can be determined, with reasonable certainty, that no recovery or reimbursement will be received.[38] These two issues – – whether a â€œreasonable prospect of recoveryâ€ exists and whether it can be â€œascertained with reasonable certaintyâ€ that no recovery or reimbursement will be received â€“ have generated much litigation, because they have are based upon the facts and circumstances of each case.
For victims of Ponzi schemes who choose the safe harbor provisions of Revenue Procedure 2009-20, the uncertainty concerning the timing of the deduction is eliminated. Under the Procedure, the year of discovery of the loss of a â€œqualified investment,â€ is also the year that the â€œamount to be deductedâ€ can be deducted. The â€œdiscovery yearâ€ is the year in which occurs the previously-described criminal indictment, information, or complaint. [39]
The amount deductible in the discovery year is determined by simply applying one of two fixed percentages to the â€œqualified investment.â€ Subject to certain exclusions, â€œqualified investmentâ€ generally means all amounts (cash or basis of property) invested in the fraudulent arrangement, plus income from the arrangement previously included in income for federal tax purposes over amounts of cash or other property withdrawn from the arrangement, whether designated principal or income.[40]
If recovery is not pursued against â€œpotential third parties,â€[41] ninety-five percent (95%) of the qualified investment is considered in the year of discovery. If recovery is being, or intended to be, pursued from â€œpotential third parties,â€[42] then seventy-five percent (75%) of the â€œqualified investmentâ€ is considered in the year of discovery. The product of whichever of the foregoing formulas applies is then reduced by the following: (i) any actual recovery, (ii) any actual or potential claim for reimbursement under the qualified investor’s insurance policy, (iii) any actual or potential claim for reimbursement under contractual arrangements (other than insurance), and (iv) any actual or potential insurance recovery from SIPC.[43] The resulting amount is then available as a deduction in the year of discovery.[44]
If a taxpayer electing safe-harbor treatment later recovers amounts in excess of the amount of qualified investment deducted under the safe harbor, that excess amount is includible in income under the tax benefit rule. Likewise, an additional deduction may be available in a later year provided that the additional deduction has been determined, with reasonable certainty, to be non-recoverable.[45] Unfortunately, as previously mentioned and as discussed further below, the application of the â€œdetermined with reasonable certaintyâ€ test is fact-intensive and troublesome. Fortunately, under the safe harbor, the taxpayer escapes this troublesome query for much of the theft loss.
In summary, investment fraud has dire consequences for those defrauded. It can mean the loss of a lifetime of savings, the burden of unpaid bills, and the prospect of working well beyond an age of physical capability. Whether it occurs through the unauthorized churning of an investor’s account, the presentation of fraudulent financial statements, or the â€œstealing from Peter to pay Paulâ€ found in the classic Ponzi scheme, it is right for the Service to provide investors robbed in this fashion the same relief provided other victims of theft. Unfortunately, many more situations fall outside of the safe harbor of Revenue Procedure 2009-20 than fall within it. It is incumbent upon the taxpayer taking a â€œtheft lossâ€ resulting from an investment arrangement, whether within or without the safe harbor, to be sure that the â€œtheft lossâ€ deduction is well supported.
III. THE PRIVITY REQUIREMENT AND THE CORRESPONDING DENIAL OF â€œTHEFT LOSSâ€ TREATMENT FOR OPEN-MARKET TRANSACTIONS.
The court in Edwards v. Bromberg, 232 F. 2d 107, articulated the most frequently cited definition of â€œtheftâ€ for purposes of § 165. The Bromberg court’s broad definition of theft, â€œintended to cover and covering any criminal appropriation of another’s propertyâ€ is still cited.[47] Even the Service continues to cite the broad Bromberg definition of â€œtheft.â€[48] Yet, in application, there are seemingly illogical inconsistencies that suggest a hostility to providing a theft loss deduction to investors who have been victimized by fraud committed by the principals of companies in which they invested, but with whom they did not deal directly.
The taxpayer, however, purchased only a small percentage of his Equity Funding stock through the Company’s employee stock option plan. The bulk of his Equity Funding stock was purchased on the open market. As to this stock, the Tax Court upheld the Service’s denial of â€œtheft lossâ€ treatment, reasoning that the state’s criminal theft statute required that there â€œbe an appropriation by the defrauder of the victim’s property.â€[51] This misappropriation by the defrauder of the victim’s property could only occur, concluded the Tax Court, if there was privity between the taxpayer and the defrauder as to the stock purchased. Finding no privity between the Equity Funding officers and the taxpayer with respect to the stock the taxpayer purchased on the open market, the Tax Court refused to find a â€œtheft,â€ notwithstanding that the taxpayer relied on the same fraudulent representations of the Equity Funding officers with respect to both the stock acquired through the Company’s employee stock option plan and the stock acquired on the open market.
The imposition of a privity requirement originates from the Service’s and the courts’ interpretation of the â€œspecific intentâ€ prerequisite for criminal theft, appropriation of another’s property by false pretenses, and other conduct amounting to theft under the law of many states. If there is no privity between the defrauded investor and the defrauder, reason the courts, then the defrauder could not have specifically intended to defraud the investor.[52] This constrained approach is illogical when the investor can show reliance on fraudulent representations and omissions of the issuer of the securities in purchasing the securities, even though the securities are purchased on the open market.
In fact, in some cases, it is clear that the court denied â€œtheftâ€ characterization only after analyzing whether the evidences supported the taxpayer’s reliance on the criminal conduct of the defrauders in purchasing the securities. In Paine v. Commissioner, 63 T.C. 736 (1975), the Tax Court denied theft loss treatment for shares in Westec Corp. purchased by the taxpayer on the open market. Subsequent to the taxpayer’s purchase, the principal officers and employees of Westec were indicted for violations of federal securities and mail fraud statutes for falsely representing acquisitions, transactions, and revenue growth with respect to the company. Bankruptcy followed. The taxpayer argued that Westec’s fraud caused him to purchase the Westec stock at artificially-inflated prices, thereby constituting a theft to that extent.[53]
The Tax Court in DeFusco recognized that the taxpayer suffered â€œa financial disaster.â€ The Equity Funding losses nearly wiped out the taxpayer’s entire life savings.[56] The Court was willing to consider â€œdisasterâ€ treatment, i.e., treatment as a theft under IRC § 165(c), only for those losses resulting from the stock acquired through the employee stock option program. Yet, the same fraudulent representations were made as to both the â€œstock optionâ€ stock and the â€œopen marketâ€ stock. The same losses were incurred for both the â€œstock optionâ€ stock and the â€œopen marketâ€ stock. The only difference was in the form taken by the taxpayer’s purchase of the Equity Funding stock.
The result in DeFusco is at odds with the directive found in the Treasury Regulations promulgated under IRC § 165 which provides that â€œ[s]ubstance and not mere form shall govern in determining a deductible loss.â€[57] While a â€œsubstance over formâ€ doctrine as to the tax treatment of transactions has been used against taxpayers by the Service and recognized by the courts since the Supreme Court’s decision in Gregory v. Helvering, 293 U.S. 465 (1935), taxpayers have not been as fortunate in their attempted use of this doctrine. Instead, taxpayers, once having chosen the form of their transaction, are generally stuck with the tax consequences of the chosen form.[58] Nonetheless, there are instances in which the taxpayer has prevailed by using a substance-over-form argument.
For example, in Estate of Durkin v. Commissioner, 99 T.C. 561, 575 (1992), the Tax Court stated that â€œ[r]esort to substance is not a right reserved for the Commissioner’s exclusive benefit, to use or not use â€“ depending on the amount of tax to be realized.â€[59] Courts have recognized taxpayers’ right to use substance over form in the absence of dishonesty, inconsistency in tax treatment, and unjust enrichment.[60] In the context of theft losses, there is no taxpayer dishonesty, no unjust enrichment (theft losses are not deductible if they are reimbursed through insurance or otherwise), and little opportunity for inconsistent tax treatment. There are only individuals who suffer some calamity as the result of someone else’s criminal conduct.
The Tax Court in Vietzke v. Commissioner, 37 T.C. 504 (1961), looked at the substance of what occurred and found a â€œtheftâ€ of monies invested by the taxpayer in a company established by perpetrators of a fraud. The perpetrators, also the principals of the company, proceeded to use the company’s funds for their own personal use. Rejecting the Service’s contention that the theft was actually from the company and not the taxpayer, the Tax Court found as follows:
While the parties disagree as to whether . . . [the company] ever came into existence as a corporate entity, whether it did or not is unimportant in this case. . . Respondent’s regulations under section 165 provide, in part: â€˜Substance and not mere form shall govern in determining a deductible loss.’ Sec. 1.165-1(b), Income Tax Regs. The shell of the corporation cannot cast a shadow so deep that the true purposes of . . . [the perpetrators] are hidden from the light of judicial scrutiny. The corporate entity was the device . . . [the perpetrators] used to route the subscribers’ money into their pockets.[61]
The Service’s position, in Vietzke was, in effect, a â€œprivityâ€ argument. The Service argued that the theft did not occur directly from the taxpayer but, instead, through the corporation. The Tax Court rightfully declined to elevate the form of the transactions above what occurred in substance, i.e., the monies invested in the company by the taxpayers were wrongfully used to enrich the principals of the company.
The Tax Court, in Vietzke, recognized that a company can be wrongfully used to enrich its principals and that such use constitutes a â€œtheftâ€ from investors. Despite this recognition, neither the Service nor the Tax Court has applied this principle to investments purchased on the open market, even when the companies’ principals or executives have intentionally misrepresented the companies’ financial conditions for the purpose of maintaining an inflated stock value and enriching themselves. The reasoning for precluding a â€œtheftâ€ characterization in all cases in which the investor purchases the security on the open market is weak.
The Service’s position on the use of a â€œtheftâ€ characterization for open market transactions is unambiguously articulated in IRS Notice 2004-27, 2004-16 IRB (March 25, 2004). The holding of that Notice reads as follows:
In short, if a company’s principals or executives, through fraudulent or other wrongful conduct, may have caused a decrease in the value of stock purchased on the open market, the purchaser cannot characterize the decrease in value as a â€œtheftâ€ under Section 165.
To get to its seemingly blanket prohibition on â€œtheft lossâ€ characterization for investments purchased on the open market, the Service, in Notice 2004-27, simply concludes that the â€œcourts have consistently disallowed theft loss deductions relating to a decline in the value of the stock that was attributable to corporate officers misrepresenting the financial condition of the corporation, even when the officers were indicted for securities fraud or other criminal violations.â€[65] Yet, even the Paine v. Commissioner[66] case cited by the Service in Notice 2004-27, a case that involved criminal misrepresentations of the financial condition of a publicly-traded company by its principals, fails to support the Service’s conclusion.
Initially, the Paine Court pointed to the difficulty the taxpayer had in satisfying the â€œspecific intentâ€ requirement of the applicable state law’s concept of â€œtheft,â€ requiring that the perpetrator have the specific intent to appropriate the victim’s property. Presumably, if the taxpayer could have proven that the perpetrators’ specifically intended to enrich themselves at the expense of the investors in their publicly-traded company, the taxpayer would have been able to satisfy this element. Thus, it was not the existence of the transaction on the open market, per se, which precluded a â€œtheftâ€ characterization, but the inability to prove that the taxpayer was among the perpetrator’s intended victims.[67]
Finally, the deduction must also be denied because the petitioner has failed to produce any evidence regarding the amount of the loss. . . Even if the decline in value were known, it would be impossible on the record of this case to estimate the specific portion of the decline attributable to the illegal activities of the corporate officers petitioner describes as â€˜theft,’ as opposed to the decline that might be attributable to business risks, market decline, poor or derelict management . . . .[68]
What is missing from both the holding and the analysis of the Tax Court in Paine is any hint of a per se prohibition on characterizing the loss of money invested by purchasing stock on the open market as a â€œtheftâ€ regardless of the circumstances.
Similarly, in MTS International, Inc. v. Commissioner, 169 F. 3d 1018 (6th Cir. 1999), the other significant case cited by the Service as support for its position, there is neither a holding nor an analysis concluding with a per se ban on â€œtheftâ€ characterizations for stock purchased on the open market. Instead, as in Paine, the court pointed to the lack of evidence establishing the taxpayer’s reliance on the fraudulent misrepresentations in denying a â€œtheftâ€ characterization, stating as follows:
The court’s denial of theft loss treatment, then, was not based on the existence of a purchase on the open market; rather, the court’s denial was based on the taxpayer’s inability to satisfy the â€œrelianceâ€ element of the law of the jurisdiction’s concept of â€œtheft.â€
As the foregoing cases and cited Treasury Regulation illustrate, open market purchases of stock in companies whose principals criminally misrepresent the companies’ financial condition or otherwise criminally use the companies to enrich themselves, create problems of proof with respect to intent, reliance, and causation. They, however, do not logically support a per se ban on â€œtheft lossâ€ treatment for investments purchased on the open market based on the lack of privity between the investors and the investment or fraud perpetrators. In the context of open market transactions, issues of intent, reliance, and causation should not bar a theft loss deduction provided the taxpayer has established some causal connection between the securities fraud and the loss in value of his investment.[72] Difficulties in proof surely will exist. These difficulties, however, should not deny the taxpayer the right to a lawful ordinary, â€œtheft lossâ€ deduction for a loss caused by the criminal wrongdoing of another.
IRC Section 165(a) articulates the general rule for the timing of a deduction for losses allowable under Section 165, permitting a deduction for â€œany loss sustained during the taxable year and not compensated for by insurance or otherwise.â€ Under the general rule applicable to all losses deductible under Section 165 (i.e., certain business losses, certain investment losses, and certain casualty and theft losses), a loss is â€œsustainedâ€ when it is evidenced by closed and completed transactions and when it is fixed by identifiable events.[73] For example, the dousing of a fire pretty much fixes the event of a casualty loss resulting from a fire. However, in the case of theft losses resulting, for example, from fraud or embezzlement, often the loss is not discovered until long after the perpetrator has successfully misappropriated the victim’s property.
Because a loss allowable as a deduction under Section 165 is allowable â€œonly for the taxable year in which . . . [the loss] is sustained,â€ accurately determining the year in which the loss is sustained is crucial.[74] For this reason, in 1954, Congress enacted IRC § 165(e) to provide that â€œany loss arising from theft shall be treated as sustained during the taxable year in which the taxpayer discovers the loss.â€[75] Prior to the enactment of IRC Section 165(e), taxpayers were denied theft loss deductions for thefts that were not discovered until years after the actual theft or embezzlement. By then, the running of the statute of limitations for amending the victim’s tax return for the year in which the theft or embezzlement or fraud occurred precluded the taxpayer from ever taking the loss.
Section 165(e), providing that a theft loss is sustained in the year it is discovered, however, does not trump the requirement under Section 165(a), â€œwhich includes consideration of prospects of recovery.â€[76] That is, the Service will not allow the deduction of a loss if the taxpayer is pursuing recovery or reimbursement of the loss from other sources. For theft losses, then, a loss is sustained when it is discovered. Even after discovery of the loss, however, it is not sustained if there is a claim for reimbursement as to which there is a reasonable prospect of recovery. If the loss (or a portion of the loss) is subject to a claim with respect to which there is a reasonable prospect of recovery, then the loss (or that portion of the loss) is not sustained â€œuntil the taxable year in which it can be ascertained with reasonable certainty whether or not such reimbursement will be received.â€[77]
If there is no claim with a reasonable prospect of recovery in the year of discovery of the theft loss, then the year of discovery is the year of the deduction. If, however, there is a claim with a reasonable prospect of recovery, then the proper year of deduction is the year in which it can be determined with reasonable certainty that the loss is non-recoverable, a determination which can be made partially in one year and partially in another year if the â€œreasonable certainty testâ€ is not satisfied in one year as to all of the loss.[80] The questions of whether there exists a claim with a â€œreasonable prospect of recoveryâ€ and when a recovery, if any, will be forthcoming as determined â€œwith reasonable certaintyâ€ are, unfortunately, highly fact-intensive issues.[81] They are, nonetheless, very important issues to â€œget right.â€
The foregoing result may sound too harsh to occur in actuality, but this was exactly the situation in which the taxpayers in Wisnewski v. United States, 79-2 USTC (CCH) ¶ 9496 (N.D. Tex. 1979) found themselves. There the taxpayers discovered a loss deductible under IRC § 165(a) in 1968, and they filed suit against the alleged perpetrator in that same year. The litigation settled by consent decree in 1972, and the taxpayers claimed their losses, which proved uncollectable, as reasonably ascertainable, in that year, 1972. In the latter part of 1975, the Service examined the taxpayers’ 1972 return and disallowed the loss, contending that the amount of the loss was ascertainable with reasonable certainty in an earlier year, 1971, a year now time-barred by the general three-year statute of limitations for amending tax returns. The court upheld the Service’s position, noting that, by 1971, the alleged perpetrator had disposed of all of his assets that were not exempt from creditors and that the taxpayers had been advised of this fact by their attorney, thereby exemplifying the importance of getting the â€œtimingâ€ issue correct.
The Totality of the Facts and Circumstances Govern â€œReasonable Prospect of Recoveryâ€ and â€œReasonable Certaintyâ€ Tests.
At least the foregoing guidance is some guidance, even though the examples of facts giving rise to a determination â€œwith reasonable certaintyâ€ of no recovery seem fairly obvious. The settlement or adjudication of a taxpayer’s pending litigation to recover a theft loss from the perpetrator allows for a determination of the amount of the unrecoverable loss with enough certainty to allow for a deduction. A taxpayer’s release or abandonment of a pending claim does likewise.
Less obvious are those situations where a court has appointed a receiver or trustee with respect to the assets of the perpetrator of the fraudulent scheme. A case in point is Kaplan v. United States, 2007 WL 2330841 (M.D. Fla. Aug. 15, 2007), a case in which the taxpayers, a husband and wife, lost millions of dollars in a Ponzi scheme. As previously discussed, for victims of certain Ponzi schemes that elect and qualify for the safe harbor treatment of Revenue Procedure 2009-20, the â€œtiming issuesâ€ associated with determining the year in which the losses are deductible are mostly moot. The safe harbor applies fixed percentages of 75% or 95%, depending upon the existence of certain claims for recovery, to the qualifying losses to arrive at the amount deductible in the year of discovery of the loss, as defined in the Revenue Procedure. For cases falling outside the safe harbor, Kaplan illustrates the frustration associated with application of the â€œtiming issues.â€
The perpetrator in the Kaplan case ran a Ponzi scheme from 1986 until May of 2001. The taxpayers in Kaplan invested over $5 million with the perpetrator from 1992 through October of 2000. Prior to discovery of the Ponzi scheme, the Kaplans reported on their tax returns millions more in income purportedly earned (but not distributed) on the monies they had invested. Income such as that purportedly earned by the Kaplans on their monies invested is often referred to as â€œphantom incomeâ€ in the context of Ponzi schemes. In 2001, the perpetrator filed for bankruptcy. In 2002, the perpetrator pled guilty to fifteen felony counts and admitted to operating a Ponzi scheme.
Thus, after years of court and administrative proceedings, the Kaplans learned that their â€œtheft lossâ€ deduction was not quite ripe.
The Kaplans’ disappointment was not over. The court also addressed their claim for a theft loss for the income purportedly earned on their investment, i.e., the â€œphantom income.â€ This â€œincomeâ€ was reinvested and thus not distributed to them. They did, however, report the â€œincomeâ€ on their tax returns over the years, and they did pay taxes on the â€œincome.â€ The Service argued that there was no â€œincomeâ€ because the investment was a Ponzi scheme and there was thus no income to steal. The court agreed with the Service, notwithstanding that the taxpayers produced an IRS Memorandum addressing this particular Ponzi scheme that concluded that investors who reported income, dubbed â€œphantom income,â€ could take a theft loss for that â€œphantom incomeâ€ under certain circumstances.[88]
The Kaplan case underscores the benefits of the clarity recently received from the Service for victims of certain Ponzi schemes. The safe harbor of Revenue Procedure 2009-20 eliminates the guess work associated with determining when most of the theft loss is deductible. The safe harbor includes â€œphantom incomeâ€ in the calculation of the theft loss. And, even as to those taxpayers who do not elect the safe harbor treatment, the Revenue Procedure recognizes the right of taxpayers to amend prior returns to remove the â€œphantom incomeâ€ and claim refunds of associated tax paid, or, if the prior year is closed by application of the statute of limitations, to include the â€œphantom incomeâ€ in the principal amount of any theft loss allowable in a later year.[89]
Despite the poor result for the taxpayers in Kaplan, the Kaplan case and other cases are replete with language that suggests that the taxpayer need not be an â€œincorrigible optimistâ€ with respect to determining when a loss is really lost.[90]
Courts also recognize that â€œwhere the financial condition of the person against whom a claim is filed is such that no actual recovery could realistically be expected, the loss deduction need not be postponed.â€[92]
Bona fide claims for recoupment filed against third parties with a substantial possibility of success constitute a reasonable prospect of recovery, but the taxpayer is not required to be an â€œincorrigible optimist;
Even the â€œsubstantial possibility of successâ€ guideline for recovery by litigation is muddied by language in other decisions noting that â€œ[e]ven a small chance of success might make the pursuit of legal remedies objectively reasonable, especially when the stakes are high.”[95] And, this guidance is counterbalanced by the notion that â€œa theft loss deduction â€˜need not be postponed where the financial condition of the party against whom the claim is filed is such that no recovery could be expected.’â€[96]
Shifting the Burden of Proof on the Issue of â€œTimingâ€ of the Theft Loss Deduction to the Service Under IRC § 7491.
Unfortunately, outside of the safe harbor of Revenue Procedure 2009-20, there is no bright-line test for determining the correct year for deducting a theft loss, whether associated with a fraudulent investment scheme or other form of theft, larceny, embezzlement, or guile. The burden of proof is, nonetheless, on the taxpayer as to the issue of the â€œtimingâ€ of the deduction, as it is with respect to whether the investment loss qualifies for â€œtheft lossâ€ treatment.[97] If, however, the taxpayer produces credible evidence supporting the â€œtheftâ€ characterization and the year of deduction as the correct year, the burden shifts to the Service to prove otherwise under IRC § 7491.[98]
â€œCredible evidenceâ€ for purposes of IRC § 7491, is evidence of a quality such that, after critical analysis, â€œthe court would find the evidence sufficient upon which to base a decision on the issue if no contrary evidence were submitted (without regard to the judicial presumption of IRS correctness).â€[99] Application of the foregoing standard does not require the court to accept testimony the court fails to find credible. â€œ[A] tax court â€˜is not compelled to believe evidence which to it seems improbable, or to accept as true uncorroborated evidence of interested witnesses even though uncontradicted.’â€[100]
The government reads the phrase â€œno portion of the lossâ€ to mean that the regulation [Treas. Reg. § 1.165-1(d)(2)] requires that a taxpayer refrain from taking any portion of a theft loss deduction until the taxpayer had determined exactly how much of the entire loss the taxpayer will recover. . . The government’s reading . . . is not supported by the examples contained in Treas. Reg. § 1.165-1(d)(2)(ii). . . . [C]ontrary to the government’s contention, the plaintiffs were not required to wait until the total amount of recovery from every source was established to take a theft loss deduction for a portion of their loss.
An issue apparently infrequently litigated, but nonetheless pertinent, is whether a theft victim must pursue recovery from the perpetrator or other third parties prior to taking a theft loss. The answer appears to be â€œno.â€ The court in Bromberg, 232 F. 2d 107, pointedly rejected the Service’s contention that the taxpayer, a victim of swindling, could not take a theft loss until he satisfied his burden of showing that he tried, but failed, to recover his losses, stating as follows:
â€œ[T]he mere existence of a â€˜possible’ claim or pending litigation will not alone warrant postponing loss recognition;â€ instead, â€œthe inquiry should be directed to the probability of recovery as opposed to the mere possibility.â€[107]
For these investors, deducting their losses as capital losses from investing in arrangements or companies later found to have committed fraud provides little relief. And, deducting these losses as theft losses resulting from fraud, deceit, or other forms of guile as theft under the applicable local law has been fraught with ambiguity as to the correctness of the position, particularly given the highly fact-intensive nature of the â€œtheftâ€ characterization and the timing of the deduction. Fortunately, for certain victims of Ponzi schemes, the Service has issued Revenue Procedure 2009-20, sanctioning theft loss treatment for qualifying investors in a Ponzi scheme and establishing a â€œbright lineâ€ test for determining when to take most (either 95% or 75%) of the loss as an ordinary, theft loss deduction. At the same time, the Service issued Revenue Ruling 2009-9, putting to rest the question whether theft losses in the context of investment transactions were subject to the limitations on other kinds of casualty losses.
[9] Nichols v. Commissioner, 43 T.C. 842, 884-885 (1965)(emphasis added). See also Vincentini v. Commissioner, 96 T.C.M. 400 (CCH), 2008 WL 5137345, at *4 -5(Dec. 8, 2008)(â€œA violation of a Federal criminal statute may also establish that a theft occurred for purposes of section 165.â€)
[29] Id. The taxpayer in Vincentini, 2008 WL 5137345 lost on the issue of the timing of his â€œtheft lossâ€ deduction. He failed to establish that, in the year that he took his deduction, he was without a reasonable prospect of recovery.
[33] See Rev. Rul. 2009-9, 2009-14 I.R.B. 735 (citing Bromberg‘s broad definition of â€œtheftâ€).
[36] This â€œdiscovery ruleâ€ puts theft losses on par with casualty losses, as a theft loss from, for example, fraud, might not be discovered until years after the actual wrongdoing. See Ramsay Scarlett & Co. v. Commissioner, 61 T.C. 795, 808-812 (March 25, 1974).
[41] Excluded from the definition of â€œpotential third-party recovery,â€ are actual or potential claims against various sources of recovery, including (i) the investor’s insurance company, (ii) the Securities Investor Protection Corporation (â€œSIPCâ€), (iii) other entities or parties contractually bound to cover the loss, (iv) the perpetrators of the fraud, and (vi) receiverships or similar arrangements established with respect to the perpetrators of the fraud. Id. at § 4.10. Thus it is possible to pursue claims against the foregoing excluded sources and still deduct 95% of the qualified investment, subject to reductions for actual recovery and potential insurance or SIPC recovery.
[46] One â€œgiftâ€ from the Service to defrauded investors who either do not elect or qualify for safe harbor treatment is the Service’s newly pronounced position on â€œphantom income.â€ â€œPhantom incomeâ€ is income reported as income by the fraudulent arrangement, but not income in reality because the monies labeled â€œincomeâ€ were derived from other investors and not from a return on the investment. If a defrauded taxpayer included the phantom income in income for purposes of federal taxes, the amount included will increase the taxpayer’s basis in the amount allowable as a theft loss. Id. at §8.02.
[48] See, e.g., Revenue Ruling 2009-9(â€œFor federal income tax purposes, â€˜theft’ is a word of general and broad connotation, covering any criminal appropriation of another’s property to the use of the taker, including theft by swindling, false pretenses and any other form of guile.â€); Treas. Reg. § 1.165-8(d)(providing that â€œthe term â€˜theft’ shall be deemed to include, but shall not necessarily be limited to, larceny, embezzlement, and robberyâ€).
[52] See, e.g., Paine v. Commissioner, 63 T.C. 736 (1975)(finding applicable state law to require fraudulent misrepresentations to have been made with specific intent of appropriating taxpayer’s property); Singerman v. Commissioner, T.C. Summ. Op. 2005-4 (Jan. 5, 2005)[decided under IRC § 7463(b) and thus not precedential](finding applicable state law to require intent of defrauder to obtain victim’s property for himself and, thereby, to implicitly require â€œa relationship of privityâ€).
[58] See Shepherd v. Commissioner, 283 F.3d 1258, 1261 (11th Cir. 2002). The reluctance to allow the use of â€œsubstance over formâ€ by taxpayers in the context of transactions stems from concerns that taxpayers will be unjustly enriched and the Service will be â€œwhipsawed between one party claiming taxation based on the form, and the opposite party claiming taxation based on the substance.â€ Estate of Durkin v. Commissioner, 99 T.C. 561, 575 (1992).
[62] Report of Investigation by the Special Investigative Committee of the Board of Directors of WorldCom, Inc., dated March 31, 2003 (â€œInvestigative Committee Reportâ€), at 1, 5, & 6 (emphasis added).
[72] See Rev. Rul. 2009-9 (March 17, 2009)(noting losses from stock purchased on open market are capital losses rather than theft losses â€œbecause the officers or directors did not have the specific intent to deprive the shareholder of money or property).
[106] Id. at 111. See also Vietzke v. Commissioner, 37 T.C. 504, 510 (1961)(refusing to find requirement that taxpayer â€œmove against the thiefâ€ in order to obtain benefits under IRC §165).
The classic Ponzi scheme may soon be renamed the â€œMadoff scheme,â€ simply by virtue of the massive amount of money invested with Madoff. It is now known that Madoff, like his famous predecessor, Charles Ponzi, used monies given to him by new investors to pay prior investors promised returns on their earlier investments. Madoff, like Ponzi, and also allegedly like Arthur Nadel and others, robbed Peter to pay Paul. Their massive scams wrongfully deprived thousands of investors of billions of dollars.
This column addresses the characterization of an investment loss as a â€œtheftâ€ for federal income tax purposes under existing case law and under Revenue Procedure 2009-20, issued March 17, 2009, creating a â€œsafe harborâ€ for treatment of certain losses from Ponzi schemes as theft losses for federal income tax purposes. Additional issues that are beyond the scope of this article include (but are not limited to) the privity requirement, effect of an open-market transaction, and timing of the deduction. In addition, determinations outside of the â€œsafe harborâ€ are highly dependent upon the facts and circumstances and subject to challenge by the IRS. Thus, if proceeding outside of the â€œsafe harbor,â€ consideration should be given to the advisability of disclosure of the theft loss under §§ 6662 and 6664 of Internal Revenue Code of 1986, as amended (â€œIRCâ€), for the purpose of minimizing exposure to certain tax penalties in the event the position does not survive a challenge by the IRS.
Theft losses, on the other hand, are not limited in the same manner that capital losses are limited. More importantly, a theft loss can be used by individuals as a deduction against ordinary income to the extent that the theft loss is not covered by insurance or otherwise.[3] Ordinary income, of course, is more likely to be recurring, substantial, and taxed at higher marginal rates. Thus, a theft loss deduction can give the victim of a fraudulent investment scheme greater, more immediate relief than can a capital loss deduction. But, is it proper under federal income tax law, to treat an investment loss as a theft loss? The answer for victims of Ponzi schemes is often â€œyes.â€ For victims of other kinds of investment loss caused by securities fraud or other wrongdoing, â€œtheft lossâ€ treatment, though possible, is more difficult.
[T]he word â€˜theft’ is not . . . a technical word of art with a narrowly defined meaning but is . . . a word of general and broad connotation, intended to cover . . . any criminal appropriation of another’s property to the use of the taker, particularly including theft by swindling, false pretenses, and any other form of guile. . . [T]he exact nature of the crime, . . . is of little importance so long as it amounts to theft.[4]
The broad approach of the Bromberg court to the definition of â€œtheftâ€ is reflected in the Treasury Regulations promulgated under IRC § 165, deeming â€œtheftâ€ to include, but â€œnot be limited to, larceny, embezzlement, and robbery.â€[5]
Whether a â€œtheftâ€ has occurred depends upon the law of the jurisdiction where the loss was sustained.[6] Either state or federal law can provide the requisite basis for establishing a theft loss to the extent applicable to the conduct at issue in the jurisdiction where the theft occurred.
And the record before us establishes that Livingstone’s fraud in obtaining money from petitioners brings this case within the applicable Florida criminal statute in respect of obtaining money by â€˜false representations or pretense, Fla. Stat., sec. 811.021(s), as well as within the provisions of the United States Code which makes it a crime to use the mails to defraud, 18 U.S.C., sec. 1341. The crime under either Florida or Federal law was a â€˜theft’ within section 165 of the Internal Revenue Code.[7]
Furthermore, it is unnecessary that the perpetrator of the â€œtheftâ€ be convicted or charged with theft.[8]
The Bromberg Court’s inclusion of â€œany other form of guileâ€ within the ambit of â€œtheftâ€ for purposes of § 165 is certainly broad enough to include the Ponzis, the Madoffs, and, allegedly, the Nadels. The court’s emphasis, in particular, on â€œswindling, false pretenses, and any other form of guileâ€ potentially includes securities fraud within its scope. The Service acknowledged this possibility in Chief Counsel Advice 200811016.[9]
In Revenue Ruling 77-18, 1977-1 C.B. 46, the Service similarly concluded that a theft loss occurred under circumstances in which a taxpayer received shares of stock in a company (â€œX Companyâ€) in exchange for his shares of stock in another company (â€œG Companyâ€) pursuant to a merger agreement between the two companies. Soon thereafter, X Company filed for bankruptcy. The bankruptcy trustee reported that the â€œprimary goal of the fraud participants was to inflate . . . the market price of X’s stock . . . by reporting nonexistent income and assets on the corporate books and failing to record liabilities.â€[13]
A number of states include the obtaining of property by false pretenses within their definition of theft.[15] Thus, in those states, circumstances that give rise (or would give rise) to a charge of theft by false pretenses would be favorable to a characterization of â€œtheftâ€ under IRC § 165.
In Vietzke v. Commissioner, 37 T.C. 504 (1961), the Tax Court upheld the taxpayer’s â€œtheft lossâ€ treatment for funds invested in what was purported to be an insurance company directly through the company principals. Contrary to the representations in the prospectus, the stock and the company were not properly registered. The company principals were criminally indicted on charges of violating Indiana Securities Law by selling unregistered securities through an unregistered agent. The Tax Court rejected the Service’s claim that the company principals lacked criminal intent, finding as follows:
Interestingly, the Tax Court in Vietzke did not rely on the elements of the crime with which the principals were charged (i.e., the sale of unregistered securities) in concluding that the taxpayer had suffered a theft loss. Nor did the Tax Court rely on the statutory crime of theft under Indiana law, having found none denoted â€œtheftâ€ per se. Instead, the Tax Court pointed to the broad definition of â€œtheftâ€ established by the Bromberg Court.â€[17] The court was simply satisfied that, based on the facts, the principals acted with a criminal intent to deprive the taxpayer/investor of his funds.
The Service agreed that churning of, and unauthorized transactions in, the taxpayer’s brokerage account by his broker constituted â€œtheftâ€ under the applicable state law for purposes of IRC § 165 in Jeppsen v. Commissioner, 70 T.C.M. (CCH) 199, 1995 WL 440435 (1995).[18] There, the taxpayer, a carpet installer, invested monies he was saving with a nationally-recognized brokerage firm. The broker (i) falsified the taxpayer’s new account documents, labeling him an experienced investor, (ii) engaged in unauthorized transactions, including purchasing stocks on margin, and (iii) churned the taxpayer’s account. Although finding the conduct constituted â€œtheft,â€ the court nonetheless denied the â€œtheft lossâ€ deduction for the year in which the taxpayer claimed it as, in that year, the taxpayer was exploring the possibility of filing a lawsuit against the brokerage firms involved. Thus, the taxpayer’s claim of a â€œtheft lossâ€ was premature, as he retained, and was pursuing, a reasonable prospect of recovering his loss.[19]
The test for â€œtheftâ€ characterization under IRC § 165, as previously explained, is not dependent upon a criminal indictment or conviction. Rather, the test depends upon whether the conduct evidences a criminal appropriation of another’s property â€œby theft, false pretenses, and any other form of guile . . . without regard to the exact nature of the crime . . . .â€[20] Thus, there have been cases in which the Service and courts have allowed â€œtheft lossâ€ treatment even in the absence of a criminal indictment or conviction of the perpetrators.[21] Nonetheless, a criminal charge or conviction is helpful in supporting the specific intent required of the perpetrator.[22]
When there is a criminal conviction of, or a guilty plea from, the perpetrator of the fraud, the defrauded investor should be able to assert that the Service is judicially estopped from contesting the characterization of the investment loss as a â€œtheft lossâ€ if the federal government has successfully prosecuted the perpetrator for the conduct at issue. â€œJudicial estoppel â€˜prevents a party from asserting a position in a legal proceeding that is contrary to a position previously taken in the same or earlier proceeding.’â€[23] The doctrine of judicial estoppel is similar to the doctrines of res judicata and collateral estoppel, which prevent parties from relitigating issues decided in prior proceedings by a court of competent jurisdiction.[24] However, â€œ[j]udicial estoppel focuses [only] on the relationship between a party and the courts and seeks to protect the integrity of the judicial process by preventing a party from successfully asserting one position before a court and then asserting a contradictory position before the same or another court merely because it is now in that party’s favor to do so.â€[25]
On March 17, 2009, the Service issued Revenue Procedure 2009-20,[28] creating an optional â€œsafe harborâ€ for treatment of certain investment losses as â€œtheft lossesâ€ (think Madoff). Under this Procedure, if the taxpayer elects the safe harbor, a â€œtheft lossâ€ is deemed to occur. The deemed theft loss, called a â€œqualified loss,â€ occurs when a taxpayer has invested in a â€œspecified fraudulent arrangementâ€ and one or more of the perpetrators has been criminally charged with one or more crimes that would meet the definition of â€œtheftâ€ for purposes of IRC § 165, provided certain other conditions are satisfied. This safe-harbor treatment is available to losses for which the â€œdiscovery year,â€ as specifically defined in the Procedure, is 2008 or later.
First, to utilize the safe harbor, the taxpayer must have invested in a â€œspecified fraudulent arrangement.â€ A specified fraudulent arrangement is, generally speaking, a Ponzi scheme.[29]
Second, to utilize the safe harbor, one or more of the perpetrators must have been charged, criminally, by indictment, information, or complaint (not withdrawn or dismissed) under state or federal law. The criminal charges, as previously mentioned, must constitute â€œtheftâ€ under the law of the jurisdiction in which the theft occurred, consistent with the existing case law governing this issue.[30] Third, if the charges are by complaint (versus indictment or information), then one of the following three factors must also be present: (i) the complaint must allege an â€œadmission by the lead figure,â€ or, (ii)a receiver or trustee must have been appointed for the specified fraudulent arrangement or, (iii) the assets of the specified fraudulent arrangement must have been frozen.[31]
In addition, the taxpayer must have â€œclean hands.â€ If the taxpayer had actual knowledge of the fraudulent nature of the arrangement prior to its â€œpublic outing,â€ the taxpayer cannot utilize the safe harbor. Nor is the safe harbor available to investors in tax shelters (as defined in IRC § 6662(d)(2)(C)(ii)) or to those who invested in the fraudulent arrangement through a fund or other entity.[32] This latter restriction retains the Service’s historic hostility to granting â€œtheft lossâ€ treatment to defrauded investors who were not in privity with the perpetrator of the fraud.
Under IRC § 165(e), all theft losses are treated as sustained during the taxable year in which the taxpayer discovers the loss.[33] Discovery of the theft, whether from a fraud, embezzlement, or other kind of misappropriation of the taxpayer’s property, has not, however, ended the query. Taxpayers also have had to grapple with the general limitation applicable to all losses subject to IRC § 165(a). That general limitation has required consideration of whether there exists a â€œreasonable prospect of recoveryâ€ from insurance or otherwise.[34]
If a reasonable prospect of recovery exists as to part of a theft loss, then a deduction as to that part of the loss is unavailable until the year in which it can be determined, with reasonable certainty, that no recovery or reimbursement will be received.[35] These two issues – – whether a â€œreasonable prospect of recoveryâ€ exists and whether it can be â€œascertained with reasonable certaintyâ€ that no recovery or reimbursement will be received â€“ have generated much litigation, because they are based upon the facts and circumstances of each case.
For victims of Ponzi schemes who choose the safe harbor provisions of Revenue Procedure 2009-20, the uncertainty concerning the timing of the deduction is eliminated. Under the Procedure, the year of discovery of the loss of a â€œqualified investment,â€ is also the year that the â€œamount to be deductedâ€ can be deducted. The â€œdiscovery yearâ€ is the year in which occurs the previously-described criminal indictment, information, or complaint. [36]
The amount deductible in the discovery year is determined by simply applying one of two fixed percentages to the â€œqualified investment.â€ Subject to certain exclusions, â€œqualified investmentâ€ generally means all amounts (cash or basis of property) invested in the fraudulent arrangement, plus income from the arrangement previously included in income for federal tax purposes over amounts of cash or other property withdrawn from the arrangement, whether designated principal or income.[37]
If recovery is not pursued against â€œpotential third parties,â€[38] ninety-five percent (95%) of the qualified investment is considered in the year of discovery. If recovery is being, or intended to be, pursued from â€œpotential third parties,â€[39] then seventy-five percent (75%) of the â€œqualified investmentâ€ is considered in the year of discovery. The product of whichever of the foregoing formulas applies is then reduced by the following: (i) any actual recovery, (ii) any actual or potential claim for reimbursement under the qualified investor’s insurance policy, (iii) any actual or potential claim for reimbursement under contractual arrangements (other than insurance), and (iv) any actual or potential insurance recovery from SIPC.[40] The resulting amount is then available as a deduction in the year of discovery.[41]
If a taxpayer electing safe-harbor treatment later recovers amounts in excess of the amount of qualified investment deducted under the safe harbor, that excess amount is includible in income under the tax benefit rule. Likewise, an additional deduction may be available in a later year provided that the additional deduction has been determined, with reasonable certainty, to be non-recoverable.[42] Unfortunately, as previously mentioned, the application of the â€œdetermined with reasonable certaintyâ€ test is fact-intensive and troublesome. Fortunately, under the safe harbor, the taxpayer escapes this troublesome query for much of the theft loss.
Investment fraud has dire consequences for those defrauded. It can mean the loss of a lifetime of savings, the burden of unpaid bills, and the prospect of working well beyond an age of physical capability. Whether it occurs through the unauthorized churning of an investor’s account, the presentation of fraudulent financial statements, or the â€œstealing from Peter to pay Paulâ€ found in the classic Ponzi scheme, it is right for the Service to provide investors robbed in this fashion the same relief provided other victims of theft. Unfortunately, many more situations fall outside of the safe harbor of Revenue Procedure 2009-20 than fall within it. It is incumbent upon the taxpayer taking a â€œtheft lossâ€ resulting from an investment arrangement, whether within or without the safe harbor, to be sure that the â€œtheft lossâ€ deduction is well supported.
[3] IRC § 165(a),(c). In addition, in Revenue Ruling 2009-9, issued March 17, 2009, the Internal Revenue Service (â€œServiceâ€) announced its position that â€œtheft lossesâ€ resulting from investment transactions are deductible under IRC § 165(c)(2) rather than (c)(3) and thus not subject to the limitations of IRC §165(h), limiting certain losses to the excess of $100 and 10% of adjusted gross income. The Service also took the position that â€œtheft lossesâ€ resulting from investments are not subject to the limitations on itemized deductions found in IRC §§ 67 and 68.
[7] Nichols v. Commissioner, 43 T.C. 842, 884-885 (1965)(emphasis added). See also Vincentini v. Commissioner, 96 T.C.M. 400 (CCH), 2008 WL 5137345, at *4 -5(Dec. 8, 2008)(â€œA violation of a Federal criminal statute may also establish that a theft occurred for purposes of section 165.â€)
[27] Id. The taxpayer in Vincentini, 2008 WL 5137345 lost on the issue of the timing of his â€œtheft lossâ€ deduction. He failed to establish that, in the year that he took his deduction, he was without a reasonable prospect of recovery.
[30] See Rev. Rul. 2009-9 (citing Bromberg‘s broad definition of â€œtheftâ€).
[33] This â€œdiscovery ruleâ€ puts theft losses on par with casualty losses, as a theft loss from, for example, fraud, might not be discovered until years after the actual wrongdoing. See Ramsay Scarlett & Co. v. Commissioner, 61 T.C. 795, 808-812 (March 25, 1974).
[38] Excluded from the definition of â€œpotential third-party recovery,â€ are actual or potential claims against various sources of recovery, including (i) the investor’s insurance company, (ii) the Securities Investor Protection Corporation (â€œSIPCâ€), (iii) other entities or parties contractually bound to cover the loss, (iv) the perpetrators of the fraud, and (vi) receiverships or similar arrangements established with respect to the perpetrators of the fraud. Id. at § 4.10. Thus it is possible to pursue claims against the foregoing excluded sources and still deduct 95% of the qualified investment, subject to reductions for actual recovery and potential insurance or SIPC recovery.
[43] One â€œgiftâ€ from the Service to defrauded investors who either do not elect or qualify for safe harbor treatment is the Service’s newly pronounced position on â€œphantom income.â€ â€œPhantom incomeâ€ is income reported as income by the fraudulent arrangement, but not income in reality because the monies labeled â€œincomeâ€ were derived from other investors and not from a return on the investment. If a defrauded taxpayer included the phantom income in income for purposes of federal taxes, the amount included will increase the taxpayer’s basis in the amount allowable as a theft loss. Id. at §8.02.