Recent Tax Court Case and Theft-Loss Deductions

Share this Article
Facebook Icon LinkedIn Icon Twitter Icon
Fernando Juarez

Fernando Juarez



Fernando is a member of the International Tax Practice at Freeman Law. He advises on complex U.S. and international tax planning. His tax practice focuses on cross-border transactions. Beyond planning, his experience includes voluntary disclosures, FBARs and international compliance.

Fernando’s expertise in tax planning extends to Fortune 500 companies, family offices, medium & small businesses, and individuals with foreign holdings. His primary areas of expertise include inbound structures for international investors, and outbound tax planning for U.S. based companies.

Fernando received his law degree from the Escuela Libre de Derecho in Mexico City and holds a Master’s in Laws from Stanford Law School, where he served as the first Hispanic Chair of the Stanford Tax Club.

Speaking engagements include presentations at the NAEA, the Texas Association of Enrolled Agents (TXSEA), the Tax Executives Institute in Houston, the Start Up Week in San Antonio, the Hispanic Chamber of Commerce in San Antonio, the International Section of the Dallas Bar Association, the Organization for the Economic Cooperation and Development (OECD) in Paris, France, and the International Tax Symposium organized by Freeman Law, among others.

Theft-Loss Deductions

A recent Tax Court case dealt with a familiar topic: Theft losses. I.R.C. section 165 has historically allowed taxpayers to deduct three types of losses: those incurred in a trade or business, those incurred in a transaction entered into for profit, or losses arising from other causes, such as theft.  (Note, however, that due to certain changes pursuant to the Tax Cuts & Jobs Act of 2017, individuals may be prevented from taking certain theft losses.)

A theft for these purposes is defined broadly, and encompasses various criminal conduct, including larceny, embezzlement, and robbery. Treas Regs. Sec. 1.165-8 (d).  A taxpayer must prove that the theft occurred under the law of the jurisdiction where the alleged loss occurred, See Monteleone v. Commissioner, 34 T.C. 688 , 692 (1960), the amount of loss, and the date that the loss was discovered.  Taxpayers who can establish these element may be entitled to deduct a theft loss.  (Again, the TCJA may limit a taxpayer’s ability to deduct a theft loss.

Below is a summary of the Tax Court’s recent decision:

Short SummaryThe case discusses the substantiation of expenses, and the deductibility of theft losses under I.R.C. 165.

Ronnie S. Baum and Teresa K. Baum v. Comm’r, T.C. Memo 2021-46 April 27, 2021 | Kerrigan, J. | Dkt. No. 19567-19

Mr. and Mrs. Baum (the taxpayers) were self-employed during 2015 and 2016 (years at issue). Mr. Baum was a consultant for Harrington Capital Partners, LLC, for which he was the sole owner. Mrs. Baum was a realtor. During the years at issue, the taxpayers claimed multiple deductions on their Schedule C, such as meals and entertainment expenses, offices and car and truck expenses.

In 2012, Mr. Baum acquired stock of Globe Protect, Inc. a company that manufactured filters to clean saline water. It must be noted that this opportunity was presented to Mr. Baum by a third party, a Mr. Zeilinger, and the stock was acquired from Mr. Zeilinger’s mother.

Despite the promising prospective for the Globe, Mr. Zeilinger filed for bankruptcy in 2014 and some other creditors obtained judgment in their favor. Mr. Baum did not receive a favorable judgment. However, the taxpayers claimed the loss suffered from the investment on their 2015 tax return, Schedule A, as a theft deduction. Such return and the 2016 tax return were filed until 2018.

Key Issues: Whether the loss suffered by the taxpayers qualifies as a “theft loss” under Section 165.

Primary Holdings:

To be deductible as a theft loss, the loss must arise from a theft according to the laws of the jurisdiction where the loss was incurred, but also, the taxpayer must determine the amount of the loss and the year in which it was sustained. Failure to meet any of these standards translates in the rejection of the loss.

Key Points of Law:  

Schedule C deductions

I.R.C. 162 allows taxpayers to deduct ordinary and necessary expenses incurred in carrying a trade or business. Some of these deductions, to be deductible, must comply with certain substantiation rules. Here, the taxpayers did not provide any proof to support the amount, time, and business purpose of the various expenses, such as the travel expenses, meals and lodging, among others. Consequently, such expenses are disallowed, sustaining the Commissioner’s determination.

Theft loss deduction

I.R.C. 165 allows taxpayers to deduct three types of losses: those incurred in a trade or business, those incurred in a transaction entered into for profit or losses arising from other causes, such as theft.

Theft is defined broadly, and encompasses various criminal conducts including larceny, embezzlement and robbery. Treas Regs. Sec. 1.165-8 (d). Moreover, the taxpayer must prove that the theft occurred under the law of the jurisdiction wherein the alleged loss occurred, See Monteleone v. Commissioner, 34 T.C. 688 , 692 (1960), the amount of loss and the date that the loss was discovered.

The Court determined that “Theft” under California laws. Under the California Penal Code, the concept of theft consolidates various similar criminal conducts, such as larceny, theft by false pretenses and embezzlement. Cal. Penal Code sec. 484(a). Taxpayers claimed they suffered losses from “fraud in inducement”, directing the analysis to false pretenses, which includes elements on the defendant such as intent to defraud the owner of the property, making false representations and obtaining title of the owner’s property as consequence of the reliance. In this case, the Court found that the petitioners did not provided any evidence that supported that Mr. Zeilinger made false representations or with the intent to defraud. Therefore, this element was not met.

The Court also ruled that even if a theft was present, the petitioners still would not be able to claim the loss because they had failed to prove the amount of the loss and to establish the year that the loss was sustained. If the taxpayer has “reasonable prospect of recovery”, the loss is not sustained. Treas. Regs. Sec. 1.165-1 (d)(3). Here, the taxpayers did not have a reasonable prospect of recovery of their investment in 2015 because the bankruptcy proceeding for Mr. Zeilinger was still in Court.

Alternatively, the taxpayers argued that the loss was deductible as a loss incurred in a trade or business as provided by Section 165(c)(1). This argument is flawed because the involvement of the petitioners in Globe was that of an investor, and investment losses do not fall within this exception.

The second alternative argument was that the loss was deductible as a worthless security. I.R.C. 165(g). Because the taxpayers did not provide any evidence that the shares of Globe became worthless in 2015, such rule does not apply.


The penalties were sustained under I.R.C. 6651(a)(1) because the tax returns were filed after the due date, and the taxpayers failed to prove that the failure to file was due to reasonable cause.

Insight: Theft losses is an area with particular circumstances. However, it is clear that the taxpayers must provide evidence to support the three-factor test mentioned by the Court in this case. More importantly, the determination of a “theft” under State jurisdiction must be given special consideration, because failure to fall within the specific scope of a “theft” in accordance with such jurisdiction will prevent the taxpayer from moving forward under the court’s analysis.


Tax Court Litigation Attorneys 

Need assistance litigating in the U.S. Tax Court? Freeman Law’s tax attorneys are experienced litigators with trial-tested litigation skills and in-depth substantive tax knowledge, having collectively litigated hundreds of cases before the U.S. Tax Court. Our tax controversy lawyers have extensive experience in Tax Court matters involving partnership audits and litigation under both the TEFRA and BBA regimes, international tax penalties, foreign trusts, valuation, reasonable compensation disputes, unreported income, fraud penalties, other tax penalties, any many other matters. We draw on our experience and wealth of tax knowledge to advise and guide clients through the entire tax controversy process, building the right strategy to resolve tax controversies from day one. Schedule a consultation or call (214) 984-3000 to discuss your Tax Court concerns or questions.