Investors in Ponzi scheme get no sympathy from IRS.(INVESTMENTS)(Brief Article)

Kiplinger Tax Letter, The, January, 2005

Investors in a Ponzi scheme get no sympathy from the IRS.

Payments on their "investments" are taxed to them as income until after the fraud is discovered, the Service privately rules. In this case, taxpayers were promised 5% on their money in six weeks. Once the scam is shut down by authorities, IRS will allow the investors to treat any subsequently recovered money as a tax-free return of capital.

The Tax Court is significantly more lenient. In a 1996 decision, it allowed innocent investors to treat all payments that they received as a return of capital. The IRS continues to disagree with that ruling.