Deloitte Dunedin tax partner Peter Truman has been working on ways for his clients to recoup some of the losses suffered when finance companies collapsed.
"The failure of finance companies over the last couple of years has resulted in thousands of investors suffering investment losses or finding themselves in a position where it is unlikely they will recover their investment in these companies.
"This raises the issue of whether the investor is entitled to claim a deduction for their loss."
Where an investor held preference shares, or similar equity investments in a finance company, a deduction for any loss suffered would not be generally available, he said.
The exception was if the investor carried on a business of dealing in shares, which was likely to be difficult to substantiate.
Where the investor had invested in a bond, note, debenture or similar debt instrument, a deduction for the loss might be available.
Claiming a tax loss from a lost investment in a failed finance company could be available to investors who managed their own portfolios or ones who appointed a sharebroker to manage it for them, Mr Truman said.
The sharebroker could prove the portfolio was managed actively and looked at regularly.
If there was a loss of a lump sum of $100,000, then it was possible that would be recognised by the Inland Revenue Department as a $100,000 tax loss against current and future income.
"This is a very significant development," he said.
A person would need a "reasonably significant" amount of money invested in a "reasonably large" number of investments.
An activity that involved simply acquiring investments, holding them to maturity and considering the investment activity only when re-investment of funds was necessary was unlikely to constitute a business of holding investments, Mr Truman said.
Otago Daily Times records show since May 26, 2006, more than 25 finance companies have gone into receivership or liquidation owing nearly $3 billion to investors.
That did not include finance companies covered by the Government retail deposit guarantee. Some of those investors have received part payment from the receivers.
Mr Truman said if a finance company had been finally liquidated, or entered a compromise or similar arrangement with its creditors, an investor would generally have no entitlement to a deduction under the financial arrangement rules for the loss they had suffered.
In those circumstances, the tax rules effectively deemed the investor as having been repaid all interest owing and capital due to them - even though they would not have actually received it.
If the investor had disposed of their investment in the finance company - either by sale or because the investment had matured - and the investor did not carry on a business involving holding investments, they would have no entitlement to a deduction for the capital they had lost.
They would be entitled to a deduction for accrued interest they had recognised for tax purposes but not actually received.
"The key to claiming a tax deduction for the capital loss is for the investor to be able to demonstrate they carry on a business of `holding financial arrangements'," Mr Truman said.
"Where this is the case, and the investor has disposed of their investment in the finance company - either by sale or due to the investment maturing - and suffered a loss as a result, the investor will be able to claim a deduction for that loss."
At a minimum, the investor would be able to claim a deduction to the extent the loss suffered related to interest they had returned for tax purposes but that the finance company had not paid to the investor, he said.
Further, if the investor carried on a business of investing, they were likely to be able to claim a deduction for the full amount of their loss, both unpaid interest and capital.
The timing of the deduction was governed by bad debt deductions. Under the bad debt provisions, there had to be no commercially realistic chance of recovering the debt and the investor must write it off in the income year in which the investor was claiming the bad debt.
