In a case of first impression the tax court has broadened when an estate can claim a theft loss.
If the property of an estate is stolen, then the estate can report it as a “theft loss” and not pay estate taxes on the value of the asset. That is not a controversial issue. However, a recent case required the tax court to determine what it really means for property to be stolen from the estate.
In that particular case the deceased owned 99% of the shares in an LLC. All of the assets in that LLC were stolen through a Ponzi scheme. The estate sought to claim this as a theft loss, which the IRS disallowed on the grounds that it was the LLC's loss and not the estate's.
As Forbes reports in "Tax Court Allows Estate a Theft Loss Deduction for Property Held by LLC," the tax court disagreed with the IRS.
The court reasoned that since the Ponzi scheme reduced the value of the LLC to nothing, that it was a loss to the estate. It ruled that the relevant law just requires that there be a sufficient nexus between the estate's loss and the theft.
In this case since the deceased owned 99% of the LLC, it was appropriate to include the loss in the estate.
This was a case of “first impression” and it is unclear how the ruling will apply in other cases. It is also not known if the ruling will be extended to other entities and not just LLCs.
If you have questions about allowable estate losses, consult with an estate attorney.
Reference: Forbes (Sept. 27, 2016) "Tax Court Allows Estate a Theft Loss Deduction for Property Held by LLC."