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Nonbusiness bad debts, such as loans to friends or family, are deductible as a short-term capital loss on Schedule D. Take a tax deduction in the year the loan is totally worthless.
Enter the bad debt on the Stock or Investment Sale Information screen. Enter the name of the debtor as the Description of Property. Enter zero as the Sale Price. Enter the date the debt became worthless as the Date Sold. Enter the amount of the debt as the Cost or Basis. Select "Various Dates Acquired - One Year Or Less" as the Date Acquired so the bad debt is treated as a short-term capital loss.
You should type up a statement that describes the debt, including the amount and the date it became due. Write down the name of the debtor and any business or family relationship. Describe the efforts you made to collect the debt. Write down why the debt has become worthless, such as if the debtor declared bankruptcy or is insolvent. Describe how it was a loan and not a gift when you originally loaned the money. If it was a gift, then you cannot take a bad debt deduction. If you mail your tax return, attach a copy of the statement to your tax return. If you e-file your tax return, keep the statement in your tax records in case the IRS ever wants to see it as proof of your bad debt deduction.
For help determining if it was a loan or gift, see Loan or Gift