With Hurricanes Harvey, Irma and Maria leaving devastation in their wake, already acknowledged as some of the most powerful hurricanes to hit the Atlantic coast, it is important for everyone to have a basic understanding of what types of losses you can deduct on your tax return.
At Sobel & Co., we fervently hope that no one will be seriously impacted by the current stormy weather, but we are also practical enough to know that threatening conditions can, and do, occur. The key is to be prepared – with appropriate supplies in safe shelter conditions – and to also be prepared and armed with knowledge regarding your situation after the disaster has abated.
After the disaster has passed, if your home or personal property has been damaged, you may be able to deduct the losses you face on your federal income tax return.
But there are specific guidelines to follow, so here are some details to help you make informed decisions:
What is a casualty loss?
Casualty loss incurred as a result of a sudden, unexpected or unusual event. This may include natural disasters like hurricanes, tornadoes, floods and earthquakes. It can also include losses from fires, accidents, thefts or vandalism. You may be able to deduct casualty losses based on the damage done to your property during a disaster. Normal wear and tear. A casualty loss does not include losses from normal wear and tear. It does not include progressive deterioration from age or termite damage.
What do I do about filing an insurance claim?
If you insured your property, you must file a timely claim for reimbursement of your loss. If you don’t, you cannot deduct the loss as a casualty or theft. You must reduce your loss by the amount of the reimbursement you received or expect to receive.
When am I able to deduct the loss?
As a general rule, you must deduct a casualty loss in the year it occurred. However, if you have a loss from a federally declared disaster area, you may have a choice of when to deduct the loss. You can choose to deduct the loss on your return for the year the loss occurred or on an amended return for the immediately preceding tax year. Claiming a disaster loss on the prior year’s return may result in a lower tax for that year, often producing a refund.
How do I calculate the amount of the personal use casualty loss to be deducted?
In order to claim a casualty loss deduction, you must be prepared to prove not only that you lost property in a casualty situation, but also the amount of your loss. This requires knowing your basis in the property, its pre- and post-casualty value and the amount of reimbursement you received. Start by determining your adjusted basis in the property before the casualty. For property you purchase, your basis is usually the cost to you. For property you acquire in some other way, such as inheriting it or getting it as a gift, you must figure your basis in another way.
Next, determine the decrease in fair market value, or FMV, of the property as a result of the casualty. FMV is the price for which you could sell your property to a willing buyer. The decrease in FMV is the difference between the property’s FMV immediately before and immediately after the casualty. Be sure to remember to subtract any insurance or other reimbursement you received or expect to receive from the smaller of those two amounts as indicated above.
Note that if your property is personal-use property or isn’t completely destroyed, the amount of your casualty loss is the lesser of:
- The adjusted basis of your property, OR
- The decrease in fair market value of your property as a result of the casualty
To finalize your calculations follow these rules:
The $100 rule. After you have figured your casualty loss on personal-use property, you must reduce that loss by $100. This reduction applies to each casualty loss event during the year no matter how many pieces of property are involved in an event.
The 10% rule. You must reduce the total of all your casualty or theft losses on personal-use property for the year by 10% of your adjusted gross income.
Factoring in future income. Do not consider the loss of future profits or income due to the casualty as you compute your loss.
Filing Form 4684. Complete Form 4684, Casualties and Thefts, to report your casualty loss on your federal tax return. You claim the deductible amount on “Schedule A” – Itemized Deductions.
Personal property versus business or income property. Casualty losses are treated differently depending on whether the loss occurred to property used in your trade or business, to generate investment income, or for personal or family purposes.
How do I calculate the amount of loss to income producing property?
For losses of income-producing property (for example, investments such as stocks, bonds, gold, silver, and works of art), your casualty losses are added to your itemized miscellaneous deductions. All of these deductions are added together, two percent of your adjusted gross income is subtracted, and the remainder is your deductible amount.
If you had a loss to income-producing property, complete Section B of Form 4684, and transfer the loss to Schedule A as a miscellaneous itemized deduction. If you had a gain to income-producing property, or if you had a gain or loss to trade or business property or rental or royalty property, complete Section B of Form 4684 and then transfer the gain or loss to Form 4797, Sales of Business Property. Again, you can elect to postpone tax on the gains by purchasing replacement property and attaching a statement to that effect to your tax return, as described above.
However, regardless of the type of property, the loss must first be reported on IRS Form 4684, Casualties and Thefts. The situation and computations can be complex, so please speak with your CPA to be sure you are handling any casualty loss deductions appropriately.
Some of the data cited here was researched at:
Top 10 Tips for Deducting Losses from a Disaster. August 28, 2017.www.IRS.GOV/newsroom
Casualty Loss Rules Differ for Personal and Business Property. 2017. www.bizfilings.com.
