It Takes a Thief

A lender sunk by subprime mortgage exposures and the financial subterfuge of a parent corporation did not give rise to a theft loss deduction by investors, despite criminal charges having been brought against an officer of the parent company, the IRS said in a Chief Counsel Advice. The legal memo, dated June 22, 2007, and released in March 2008, concluded that no evidence was presented indicating that money was stolen or obtained from investors by false pretenses. Citing authorities including Revenue Ruling 77-17, the memo stated that losses on open-market transactions are not theft losses even if the market value of the securities is inflated by fraud committed by insiders. Rather, such losses are typically treated as capital losses under IRC § 165(g). The Chief Counsel Advice, ILM 200811016, described the unnamed subprime lender as having issued floating- interest notes to investors. The company was acquired by another mortgage lender, which absorbed the company’s cash while misrepresenting its finances to investors. Ultimately, the parent company filed for bankruptcy, affecting “thousands” of investors. Criminal charges were brought against at least one officer of the parent company.