Ponzi-scheme remission recovery is excluded from settlement-fund income

Plain-English summary

A federal receiver administered a qualified settlement fund for investors harmed by a Ponzi scheme. A federal agency had seized money from an electronic-currency transmitter used by the scheme and later transferred a remission recovery to the receiver for investor claims. The fund represented that the recovery contained no transferor dividends, transferor-debt interest, or compensation for delayed transfers. The IRS concluded that the recovery was transferred to resolve the liabilities for which the fund was established. It therefore allowed the fund to exclude the recovery from gross income and modified gross income under Treasury Regulation section 1.468B-2(b)(1).

Ruling snapshot

• Question: Could the qualified settlement fund exclude the federal remission recovery from modified gross income?
• Outcome: approved
• Key authorities: IRC §§ 61, 468B(g); Treas. Reg. §§ 1.468B-1 and 1.468B-2(b)(1)

Full text (IRS public release)

Internal Revenue Service                                       Department of the Treasury
                                                               Washington, DC 20224

Number: 201718018                                              Third Party Communication: None
Release Date: 5/5/2017                                         Date of Communication: Not Applicable
Index Number: 468B.02-00
                                                               Person To Contact:
--------------------------------                               --------------------, ID No. -----------
-------------------------------------------                    Telephone Number:
---------------------------------------------------------      ----------------------
--------------------------------------                         Refer Reply To:
                                                               CC:ITA:B06
                                                               PLR-125577-16
                                                               Date:
                                                               February 07, 2017




LEGEND

Fund                       =        ---------------------------------------------------------
Promoter                   =        ------------------------------
Entity 1                   =        -----------------------------
Scheme                     =        ---------------------
Money Transmitter =                 -------------------------------------------------------------
Agency 1                   =        ----------------------------------------------------
Agency 2                   =        --------------------------------------------------
Court 1                    =        ---------------------------------------------------------------------------------
----------------------------------------------------------------------------------------------------------------
                                    -------------------------
Court 2                    =        ---------------------------------------------------------------------------------
----------------------------------------------------------------------------------------------------------------
                                    ------------------------
Date 1                     =        ----------------------
Date 2                     =        ----------------------
Date 3                     =        --------------
Date 4                     =        ------------------
Date 5                     =        -------------------
Date 6                     =        -----------------
Date 7                     =        ---------------------
Date 8                     =        ----------------------
Date 9                     =        -------
Date 10                    =        ---------------------------
Date 11                    =        -----------------------
Date 12                    =        ---------------------
Date 13                    =        ---------------------------
Dollar Amount A            =        ----------------
PLR-125577-16                                   2

Dollar Amount B          =   ----------------
Dollar Amount C          =   ----------------



Dear ----------------:

This letter responds to your letter dated August 17, 2016, submitted on behalf of the
Fund, requesting a private letter ruling concerning the application of § 468B of the
Internal Revenue Code to the Fund. In particular, you requested a ruling whether the
Fund may exclude from its modified gross income, under § 1.468B-2(b)(1), the amount
of certain seized funds received from Agency 2.

FACTS

The Fund is a federal receivership that arose as a result of an illegal Ponzi investment
scheme operated by Promoter through Entity 1 and other related entities (collectively
referred to as the “Entities”). By Date 1, Promoter began offering and selling
unregistered interests in a pooled investment arrangement known as the Scheme,
promising thousands of investors inflated rates of returns. Interests in the Scheme were
offered to investors primarily through the Scheme website, which the Promoter
controlled.

To invest in the Scheme, an investor completed a membership form on the Scheme
website, chose an investment option, and set up an account with an electronic currency
(“e-currency”) provider. The investor would then deposit money with the e-currency
provider via either a credit card transaction or wire transfer into their account with the e-
currency provider. The e-currency provider, in turn, transferred equivalent sums via the
internet to accounts of the e-currency provider controlled by Promoter. Promoter
maintained and controlled e-currency accounts in his name and in the names of the
Entities. The Promoter and the Entities did not maintain separate accounts for each
investor, but rather pooled the investors’ funds in the e-currency accounts that Promoter
controlled.

Almost all of the transfers of funds between investors and the Entities were made
through web-based e-currency providers. The predominant e-currency provider used in
the Scheme was Money Transmitter, which was operated by an individual unrelated to
Promoter and the Entities. Promoter and the Entities used Money Transmitter to hold,
receive and distribute funds from and to Scheme investors, and also to make
investments, the profitability and extent of which the Promoter misrepresented to
investors. By using Money Transmitter in the Scheme, Promoter and the Entities were
able to collect millions of dollars of e-currency from investors while remaining virtually
anonymous.
PLR-125577-16                                 3

From Date 1 through Date 2, Promoter raised approximately Dollar Amount A from
investors. The Scheme experienced early investment losses, and Promoter (and
certain other individuals) misappropriated investor funds for their personal use.
Beginning in Date 3, Promoter stopped returning funds to investors who sought to
withdraw from the Scheme. By Date 4, Promoter stopped accepting investor funds
through e-currency providers. By Date 5, the Scheme website was taken down.

On Date 6, Agency 1 filed a civil enforcement action in Court 1 against Promoter, the
Entities, and certain other individuals, alleging violations of federal securities laws. Also
on Date 6, Court 1 issued an Order (“Order 1”), appointing a receiver (the “Receiver”) as
receiver for the estate of Promoter and the Entities (collectively, the “Receiver Estates”).
In Order 1, Court 1 authorized the Receiver to, among other things: (1) take custody,
control and possession of any and all property under the direct and indirect control of
the Receiver Estates; (2) manage, control and maintain the Receiver Estates; and (3)
have full power to sue for and collect, recover, receive and take into possession all
types of property of the Receiver Estates. In more general terms, the Receiver was
charged by Court 1 with the duties of identifying victims of the Scheme, reviewing
investor claims for restitution of funds, recovering funds wherever the funds may be
located (whether or not the funds had been seized), and distributing recovered funds to
investors.

Soon after the Scheme started to collapse, the Money Transmitter also began to
collapse. On Date 7, the Money Transmitter website was taken down. This resulted in
money transfer customers and depositors (including the Promoter, the Entities, and
investors) being unable to access their funds held by the Money Transmitter.

On Date 8, Agency 2 filed a civil forfeiture action under 18 U.S.C. 981(a) in Court 2
against Money Transmitter’s assets, alleging multiple violations of federal laws,
including operating an unlicensed money transmitting business, wire fraud and mail
fraud (the “Forfeiture Action”). Pursuant to the foregoing action, Agency 2 seized Dollar
Amount B of Money Transmitter’s funds held in the United States, placing the funds in
the custody of Agency 2 (the “Remission Fund”). In Date 9, Agency 2 instituted a
remission process administered by a third-party (the “Remission Fund Administrator”),
to return seized funds to victims of multiple fraudulent investment schemes that used
Money Transmitter, including the Scheme. On Date 10 and Date 11, the Receiver filed
claims on behalf of the Receiver Estates and the Scheme’s investors relating to funds in
the Remission Fund, seeking to recover amounts previously held by Money Transmitter
that were deposited by the Promoter, the Entities and the Scheme’s investors.

With respect to the Forfeiture Action, on Date 12, Court 1 issued an order (“Order 2”)
which further specified the Receiver’s original powers to include the authority “to receive
and collect any remission or restoration of forfeited funds recoverable by or payable to
Scheme investors pursuant to any civil or criminal forfeiture action brought by the United
States in any federal jurisdiction.”
PLR-125577-16                                  4


Agency 2 adopted the Remission Administrator’s recommendation that the Receiver’s
claims be allowed in full. On Date 13, the Remission Fund Administrator, as agent for
Agency 2, transferred a check to the Receiver in the amount of Dollar Amount C (the
“Remission Recovery”). Receiver has used and will continue to use the funds to settle
or resolve allowable investor claims related to the Scheme. Prior to receiving the
Remission Recovery, Receiver had recovered amounts from other sources relating to
the Receiver Estates. With Court 1’s approval, Receiver has made two interim
distributions to investors in proportion to the investors’ allowed claim amounts.

REPRESENTATIONS

The Fund represents that it constitutes a qualified settlement fund under § 1.468B-1.

The Fund represents that none of the Remission Recovery represents dividends on
stock of a transferor (or a related person), interest on debt of a transferor (or a related
person), or payments in compensation for late or delayed transfers.

LAW AND ANALYSIS

The Fund requests a ruling that it may exclude the Remission Recovery from its
modified gross income under § 1.468B-2(b)(1).

Section 61(a) provides that gross income means all income from whatever source
derived.

Section 468B(g)(1) provides that “[n]othing in any provision of law shall be construed as
providing that an escrow account, settlement fund, or similar fund is not subject to
current income tax.” Section 468B(g)(1) authorizes the issuance of regulations
providing for the taxation of any such account or fund whether as a grantor trust or
otherwise. Sections 1.468B-1 through 1.468B-5 regarding qualified settlement funds
were issued pursuant to § 468B(g).

Section 1.468B-2(a) provides that a qualified settlement fund is a United States person
and is subject to tax on its modified gross income for any taxable year at a rate equal to
the maximum rate in effect for that taxable year under § 1(e).

Section 1.468B-2(b) provides that the term "modified gross income" of a qualified
settlement fund means gross income, as defined in § 61, computed with certain
modifications.

Section 1.468B-2(b)(1) provides that, in general, amounts transferred to the qualified
settlement fund by, or on behalf of, a transferor to resolve or satisfy a liability for which
the fund is established are excluded from gross income. However, dividends on stock
of a transferor (or a related person), interest on debt of a transferor (or a related
PLR-125577-16                                  5

person), and payments in compensation for late or delayed transfers, are not excluded
from gross income.

The Fund was established to resolve or satisfy claims of investors that arose from the
violation of federal securities laws by Promoter and the Entities, and the Remission
Recovery was transferred to the Fund to resolve or satisfy such claims. The Fund
represents that it constitutes a qualified settlement fund under § 1.468B-1. Accordingly,
the Remission Recovery was transferred to the Fund to resolve or satisfy the liabilities
for which the Fund was established. Further, as represented by the Fund, none of the
Remission Recovery falls within the three specific exceptions to the general provision in
§ 1.468B-2(b)(1) that excludes transfers into the Fund from the Fund 's gross income.
Thus, based on the information submitted and representations made, we conclude that
the Fund may exclude the Remission Recovery from its gross income under § 1.468B-
2(b)(1). Accordingly, the Fund may exclude the Remission Recovery from its modified
gross income.

PROCEDURAL MATTERS

Except as expressly provided herein, no opinion is expressed or implied concerning the
tax consequences of any aspect of any transaction or item discussed or referenced in
this letter.

This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of the Code
provides that it may not be used or cited as precedent.

In accordance with the Power of Attorney on file with this office, a copy of this letter is
being sent to your authorized representatives.

A copy of this letter must be attached to any income tax return to which it is relevant.
Alternatively, taxpayers filing their returns electronically may satisfy this requirement by
attaching a statement to their return that provides the date and control number of the
letter ruling.

The rulings contained in this letter are based upon information and representations
submitted by the taxpayer and accompanied by a penalty of perjury statement executed
by an appropriate party. While this office has not verified any of the material submitted
in support of the request for rulings, it is subject to verification on examination.

                                       Sincerely,

                                       Roy A. Hirschhorn
                                       Branch Chief, Branch 6
                                       Office of Associate Chief Counsel
                                       (Income Tax & Accounting)