If someone borrowed something Assur (eg an illegally copied CD) may he return it to the owner or would there be a She’ela of Lifnei Iver? If he may not give it back, what then should be done with the item?

If it is stolen and you know whom the owner is - you should return it to them. Otherwise return the item to the person you borrowed it from. There is no issue of Lifnei Iver since the sin has already been commited and it is his responsibility to right his wrongs. Rabbi Dov Lior