Economic forecasts are growing increasingly pessimistic, with experts now estimating a 47% chance of recession, up from 25% in February. Growth projections for 2025 have plummeted from 1.7% to 0.8%, with some economists predicting a mild downturn in the second half of the year. This changing economic landscape creates fertile ground for previously hidden Ponzi schemes to collapse.
Jeffrey Schneider, managing partner at Levine Kellogg Lehman Schneider + Grossman, explains the connection: "Ponzi schemes don't collapse when the markets are booming. They collapse when the music stops." During recessions, new investor capital typically dries up while withdrawal demands increase, creating what Schneider calls "a perfect storm that often reveals the unsustainable foundation of a Ponzi scheme."
The potential for widespread fraud exposure shouldn't be underestimated. In 2023 alone, 66 Ponzi schemes were uncovered, involving nearly $2 billion in potential losses according to Ponzitracker. Many more schemes may still be operating and could be exposed as economic conditions deteriorate.
For tax practitioners, understanding the tax treatment options for fraud victims is essential. Despite the Tax Cuts and Jobs Act generally suspending personal casualty and theft loss deductions for tax years 2018-2025, theft losses incurred in transactions entered into for profit may still be deductible. The deduction amount can include both the investor's unrecovered investment and amounts reported as income in prior years that were reinvested in the fraudulent scheme.
Miami CPA Carrie Baron of Carrie Baron & Associates notes that "the defrauded investor can take an ordinary loss of 95% of the loss if they are not seeking recovery. The IRS says if you use the safe harbor they won't challenge the Ponzi deduction." This safe harbor allows taxpayers to deduct 95% of their net investment in the year of discovery, less any actual recovery and any recovery expected from private insurance or SIPC protection.
When advising clients on investment decisions during this economic uncertainty, tax practitioners should help them identify warning signs of potential fraud. These include consistently high returns unaffected by market conditions, lack of transparency about investment operations, difficulty withdrawing funds, and unregistered investment products or individuals not registered with the SEC or FINRA.
Clients who suspect they've been defrauded should maintain thorough documentation of all investment transactions, communications with the investment firm, reports and statements received, and the timing of fraud discovery. These records will be crucial for substantiating theft loss deductions and pursuing any potential recovery.
As economic indicators continue to flash warning signs, tax practitioners should prepare for an increase in investment fraud cases by proactively discussing fraud prevention with clients who have significant investments, reviewing client portfolios for investments showing warning signs, and developing a thorough understanding of the tax treatment options available to fraud victims.
Christine Gervais is a licensed CPA, using her skills to help businesses grow and achieve their fullest potential. Christine has a Master’s degree in accounting from Southern New Hampshire University in addition to holding her CPA license for over a decade. Notably, Christine is a nationally recognized speaker providing education to other CPAs on how to best serve clients as well as instruction on a wide variety of topics for business owners on how to maximize success. Christine prides herself on the value she can bring to clients with her extensive tax knowledge and provides strategic, forward-thinking financial strategies to help clients grow. When not behind her desk, you can find Christine spending quality time with her daughter and stepson or tending to the family’s excessively loved farm animals.
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