8620. When is a taxpayer entitled to take a deduction for a theft loss?Alexis Longrcline202014-07-07T21:53:00Z2014-07-07T21:53:00Z12791596Summit Business Media1331872148620. When is a taxpayer entitled to take a deduction for a theft loss?A taxpayer who sustains a theft loss may take the deduction for the tax year in which the taxpayer discovers the loss, rather than the year in which the loss was sustained (as is the general rule for casualty losses)..IRC Sec. 165(e), Treas. Reg. §1.165-8(a)(2). The reasonable prospect of recovery doctrine (see Q 8624) applies in the case of theft losses, so that the taxpayer will not be entitled to take a deduction if there is a claim for reimbursement against a third party that may fully or partially compensate the taxpayer for the theft loss, and there is a reasonable prospect that the taxpayer will recover these amounts..Treas. Reg. §1.165-8(a)(2). These rules do not apply to a theft loss discovered through a shortage in the inventories of a business..Treas. Reg. § 1.165-8(e). The amount of the taxpayer’s theft loss deduction is determined using the same method applicable to casualty loss deductions (see Q 8621).Example: Denise purchased a watch for $15,000 in 2011. In 2012, the watch, which now has a fair market value of $13,500, is stolen. Denise does not discover that the watch is missing until 2013. Though the watch was insured against theft, the insurance company challenges its liability for the loss. Despite this challenge, Denise has a reasonable prospect of recovering from the insurance company in 2013. In 2014, Denise settles with the insurance company and receives $12,000 in insurance proceeds to cover the theft loss. Denise is not permitted to take a deduction in 2012 or 2013, but in 2014, she is permitted a theft loss deduction for $1,500. The computation is made as follows:Value of property immediately before theft$13,500Less: value of property immediately after theft$0Balance$13,500Loss to be taken into account for purposes of Section 165(a)$13,500Less: insurance received in 2014$12,000Deduction allowable for 2014$1,500