Expert: John Kirk, CPA - 10/15/2007

Question
1.)  Is a deduction allowable if in a Type - S Corporation partnership in which one partner embezzled $500,000.00 and found guilty in criminal court and sentenced to jail time? The non-embezzling partner owned 45% of the corporate partnership) If so, how?  2.)  Is the entire investment in a type - S corporation that went default (due to above mentioned embezzlement) also deductible?  If so, how?

Answer
Hi Cara

Thanks for the question.

The $500,000 loss is deductible in the year the loss is discovered, not when the loss occurred or when found guilty.  Also, the loss needs to be offset with any insurance claim.

You also have the situation where the partner who did the embezzlement receives 55% of that loss as a distribution on his K-1.

Another way you can look at it is that the portion that he took (55% of the $500,000) was a distribution to him, which broke the S-Corp election.  Which would result in a C-Corp termination and liquidation of the remaining assets.

You probably will need a local CPA to run the numbers to determine what is best for the 45% shareholder.

Hope this Helps

John Kirk, CPA