The short version
For an individual, IRC 165 does not treat every stolen dollar the same way. A theft loss connected to a trade or business has one path. A personal theft loss has another, narrower path. Many scam-loss questions turn on the middle category: a loss from a transaction entered into for profit, even if it was not connected with a trade or business.
That phrase does not mean “I hoped not to lose money.” It means the transaction had a real profit motive. The strongest files usually show an investment, reinvestment, income-producing property, or stolen investment account. The weakest files usually show a personal transfer, romance transfer, family-emergency transfer, or other payment made for personal reasons, even if the deception was severe.
Get a profit-motive analysis before you commit to a return position.
Why profit motive matters
26 USC 165 allows deductions for losses sustained during the tax year and not compensated by insurance or otherwise. For individuals, the statute limits the deduction to three main categories:
| Category | What it covers | Why it matters for scam losses |
|---|---|---|
| Trade or business loss | Losses incurred in a trade or business | This is not the usual route for a personal investor or consumer scam victim. |
| Transaction entered into for profit | A profit-motivated transaction not connected with a trade or business | This is the main IRC 165(c)(2) route for many investment-style scam claims. |
| Personal casualty or theft loss | Theft or casualty losses not connected with business or profit motive | This category is much more limited for individuals and is usually not where an investment-scam claim should rest. |
IRS Publication 547 summarizes the current IRS screen for financial scams: the loss must arise from theft under applicable state law, the taxpayer must have no reasonable prospect of recovery, and the loss must arise from a transaction entered into for profit. The publication also points financial-scam victims to Chief Counsel Advice 202511015, which is the IRS’s clearest recent public explanation of how profit motive applies to modern scam fact patterns.
Treat the memo as fact-pattern guidance, not as a blanket rule. The memo itself says actual scam facts may vary and the application of the advice depends on the taxpayer’s specific facts.
What does “entered into for profit” mean?
The IRS memo says there is no statutory definition of the phrase, but courts require a primary profit motive. In plain English, the tax question is not whether the taxpayer was cheated. The question is why the taxpayer transferred, held, reinvested, or lost the property.
Profit-motive evidence can include:
| Evidence | What it tends to show | Source anchor |
|---|---|---|
| Investment pitch or platform records | The taxpayer was trying to invest or reinvest, not make a personal gift or emergency payment. | CCA 202511015 |
| Brokerage, IRA, exchange, or wallet records | The stolen property was held for investment or income-producing purposes. | IRC 165; CCA 202511015 |
| Account statements, dashboards, and withdrawal records | The taxpayer treated the arrangement as an investment account or trading platform. | CCA 202511015 |
| Communications about yield, trading, appreciation, or investment strategy | The expected benefit was profit rather than personal consumption or support. | CCA 202511015 |
| Recovery and theft records | The file can separate tax classification from timing and reimbursement questions. | IRS Pub. 547 |
No single document controls the answer. A taxpayer can have a real theft and still fail the profit-motive test if the transfer was personal. A taxpayer can also have an unauthorized theft from investment property and still need to prove basis, timing, and lack of reasonable recovery.
The five IRS fact patterns
CCA 202511015 reviewed five scam situations involving 2024 losses. The examples are useful because they put similar emotional harms into different tax categories.
| IRS fact pattern | Profit-motive signal | IRS conclusion in the memo |
|---|---|---|
| Account-safeguarding and reinvestment scam | The taxpayer moved IRA and non-IRA funds to supposed new investment accounts to safeguard and reinvest them. | The loss was incurred in a transaction entered into for profit, assuming theft and no reasonable prospect of recovery. |
| Pig-butchering cryptocurrency investment scam | The taxpayer transferred funds to a platform that appeared to invest in cryptocurrency and generate profits. | The loss was incurred in a transaction entered into for profit, assuming theft and no reasonable prospect of recovery. |
| Phishing theft from investment and retirement accounts | The taxpayer did not authorize the theft, so the memo looked to the stolen property: securities held for investment and retirement income. | The loss was incurred in a transaction entered into for profit, assuming theft and no reasonable prospect of recovery. |
| Romance scam with medical-expense transfers | The taxpayer transferred funds to the scammer for a purported personal medical need. | The loss was treated as personal, not as a transaction entered into for profit. |
| Fake kidnapping or family-emergency scam | The taxpayer transferred funds under duress to protect a family member, not to invest. | The loss was treated as personal, not as a transaction entered into for profit. |
The pattern is direct. Investment intent helped Taxpayers 1 and 2. Investment property helped Taxpayer 3. Personal reasons defeated the IRC 165(c)(2) theory for Taxpayers 4 and 5.
A practical way to test your facts
Start with the reason for the transfer or the character of the stolen property.
If you sent money to what looked like a trading platform, crypto exchange, managed account, loan-investment program, or other income-producing arrangement, the file may start in IRC 165(c)(2) territory. The next questions are whether the taking was theft under state law, whether you had a reasonable prospect of recovery, how much basis you had in the stolen property, and which tax year is supportable.
If you sent money because someone claimed a medical emergency, travel emergency, family emergency, romantic need, ransom, or personal hardship, the same financial harm may not show profit motive. The transfer may still be fraud. It may still be theft under local law. But the IRC 165(c)(2) argument is weaker because the purpose of the transfer was personal.
If someone hacked or phished an investment account and moved the funds without your authorization, the analysis may focus less on your motive for the fraudulent transfer and more on the property stolen. The IRS memo looked to whether the stolen account assets were invested for profit.
Do not skip timing and recovery
Profit motive is not the only gate. Publication 547 says theft losses are generally deductible in the year the taxpayer discovers the property was stolen, but a loss is not sustained while there is a claim for reimbursement with a reasonable prospect of recovery. The taxpayer must be able to show whether reimbursement existed and when it became reasonably certain that reimbursement would not be received.
That is why a return position should not be built from the scam story alone. A stronger file separates four questions:
| Question | What the file should show |
|---|---|
| Theft | Police report, IC3 report, platform complaint, bank report, state-law theft theory, or other evidence of criminal taking. |
| Profit motive | Investment pitch, account records, trading records, emails, messages, dashboard screenshots, wallet records, or evidence that stolen property was held for investment. |
| Basis and account consequences | What was paid for the property, whether IRA distributions or asset sales created taxable income or gain, and whether unrealized gains were ever included in income. |
| Recovery prospects | Bank recall, exchange ticket, insurance claim, chargeback, legal demand, receivership, bankruptcy notice, denial letter, or closure record. |
The basis point is easy to overlook. Adjusted basis generally starts with what you paid for the property and is then adjusted under tax rules. The IRS memo states that the deductible loss is generally limited to adjusted basis, not paper profits or unrealized gains that were never taxed.
Common mistakes before filing or amending
The first mistake is using the word “investment” after the fact without evidence that the transaction was actually entered into for profit. The return file should show what the taxpayer believed they were buying, holding, trading, investing in, or reinvesting.
The second mistake is assuming that any scam involving a bank account, IRA, brokerage account, or crypto wallet is automatically deductible. Account records matter, but the tax analysis still has to address theft, profit motive, basis, recovery, timing, and reporting mechanics.
The third mistake is treating the Ponzi safe harbor as a general scam safe harbor. CCA 202511015 concluded that none of the five taxpayers could use the Ponzi safe harbor, even though some fact patterns were investment-related. The safe harbor has separate requirements.
The fourth mistake is filing too early while recovery channels are still open. A police report or platform complaint may help prove theft, but an unresolved reimbursement path can affect the year the loss is sustained.
Related reading
This article is part of the IRC 165 scam-loss series. Planned companion pages should cover the general scam-loss deduction rule, crypto scam losses, reasonable prospect of recovery, Ponzi-scheme losses, documentation, amended returns, and IRS audit response. Those pages are not linked here until they are owner-approved and live.
If the IRS has already questioned a claimed loss, the issue moves from pre-filing ST analysis into notice, audit, or appeals response.
How Sheepdog Tax can help
Sheepdog Tax can review the loss file before you file or amend, test whether the facts show a profit-motivated transaction, and identify the documents needed to support the position if the IRS asks questions later. The review focuses on classification, basis, timing, recovery prospects, account-level tax consequences, and Form 4684 support.
Get a profit-motive analysis before you commit to a return position.
Sources (primary authority first)
- 26 USC 165, Losses.
- IRS Publication 547 (2025), Casualties, Disasters, and Thefts.
- IRS Topic no. 515, Casualty, disaster, and theft losses.
- IRS Chief Counsel Advice 202511015.
Prepared by Noah Green, CPA, CFE.