Lost Money to a Scam? You Could Still Owe the IRS: Congress Aims to Fix That

The initial blow often comes without warning. A phone call, a convincing online relationship, or a sophisticated phishing email persuades someone to transfer their life savings to criminals. When victims realise they have been deceived, many face not only significant financial losses but also emotional distress.

For thousands of fraud victims across the United States, however, another financial burden follows. Under current tax rules, money withdrawn from retirement accounts and later stolen by scammers may still be treated as taxable income by the Internal Revenue Service (IRS), leaving victims with tax bills on funds they no longer possess.

Lawmakers in Washington are now seeking to address that issue through the bipartisan Tax Relief for Fraud Victims Act (H.R. 9500), which would provide tax relief for eligible fraud victims and remove several penalties under existing law.

How the Tax Code Penalises Victims

The issue stems from changes introduced under the Tax Cuts and Jobs Act of 2017. Before 2018, taxpayers could generally claim itemised deductions for qualifying personal theft losses. The legislation limited those deductions to losses resulting from federally declared disasters, and later legislation made those restrictions permanent. As a result, many victims of scams cannot deduct their losses unless the fraud qualifies under specific investment-related tax rules.

The consequences become particularly severe when victims withdraw money from tax-deferred retirement accounts, such as traditional 401(k) plans, to send funds to scammers. Those withdrawals remain taxable income under current IRS rules. If the account holder is younger than 59½, an additional 10 per cent early withdrawal penalty may also apply.

Matthew Roberts, a tax attorney and partner at Meadows Collier in Dallas, said the current law places an unfair burden on victims. 'It's very punitive not being able to claim a theft loss deduction,' Roberts said.

Current IRS guidance allows certain victims of investment-related fraud to claim theft-loss deductions because those transactions involved a profit motive. Victims of romance scams, imposter scams, and many other forms of personal fraud generally do not qualify for the same relief.

Lindsay Lieberman, a Washington-based attorney who represents survivors of technology-facilitated crimes, said that distinction creates unequal treatment under the tax code. She recalled representing a client who lost her retirement savings in a romance scam traced by investigators to an overseas criminal syndicate. Despite losing the money, the client later received a substantial tax bill because the retirement withdrawals remained taxable.

'Our tax system is more forgiving when a victim is seeking financial gain than when a victim is seeking human connection,' Lieberman said. 'Fraud is fraud. Our tax code should judge fraud by what criminals do, not by why victims trust them.'

Fraud Losses Continue to Climb

Financial fraud has continued to rise across the United States. According to the Federal Trade Commission (FTC), consumers reported 15.9 billion dollars in fraud losses during 2025, up 27 per cent from 12.5 billion dollars in 2024, and more than four times higher than reported losses in 2020. Imposter scams accounted for approximately 3.5 billion dollars in reported losses during 2025, while investment fraud exceeded 7.9 billion dollars, according to FTC data.

Older adults remain among the most financially affected groups because retirement savings are often targeted. FTC data shows that losses exceeding 100,000 dollars are disproportionately reported by adults aged 60 and older. Clark Flynt-Barr, Government Affairs Director for Financial Security at AARP, said large losses among older Americans frequently involve retirement accounts. 'That's generally because retirement accounts are being cashed out,' Flynt-Barr said.

What the Proposed Legislation Would Do

The Tax Relief for Fraud Victims Act seeks to reverse several tax consequences currently faced by fraud victims. The House Ways and Means Committee unanimously approved the legislation in a 39-0 vote on 1 July, sending the bill to the full House of Representatives for consideration.

If enacted, H.R. 9500 would:

• Remove the disaster-related restriction on personal theft-loss deductions.
• Waive the 10 per cent early withdrawal penalty for eligible scam victims who accessed retirement accounts.
• Allow taxpayers to claim qualifying theft losses in the year the fraud occurred instead of waiting until the loss is discovered.
• Make it easier for victims to restore depleted retirement savings without additional tax penalties.

The bill now awaits consideration by the full House of Representatives. If approved by both chambers of Congress and signed into law, it would mark one of the most significant changes to federal tax treatment for fraud victims since the 2017 overhaul of the US tax code.