How to qualify for casualty loss deductions
Catastrophic events, such as hurricanes Harvey and Irma—or tornados, earthquakes, wildfires and the like—can severely damage your personal or business property. Small consolation: You may be entitled to deduct a casualty loss on your tax return.
A taxpayer qualifies for a casualty loss deduction if damage is caused by an event that is “sudden, unexpected or unusual.” This not only includes the natural disasters already mentioned but also automobile collisions and frozen pipes bursting. The same basic rules apply to theft of property. However, you cannot claim a deduction on damage that occurs over a long period of time, such as that from a drought.
The deductible amount depends on whether the damage affects personal or business property. For personal property, the deduction is limited to the excess above 10% of your annual adjusted gross income (AGI) after subtracting $100 per casualty event.
Example: Your AGI for 2017 is $100,000, and you suffered a loss to your home of $20,100. In that case, your deduction is limited to $10,000 ([$20,100 – $100] – [10% × $100,000]). If your loss amounts to $10,100 or less, you do not get a deduction (absent any other losses).
In contrast, there are no such limits for business property. The full amount of the eligible loss may be deducted on your company’s 2017 tax return.
The amount of the loss eligible for the deduction is the lesser of (1) the difference in the property’s value before and after the casualty or (2) the adjusted basis in the property. However, you must reduce the deductible amount by any proceeds you receive from your insurance or the government.
Special tax break: If you own damaged property located in an area that is officially declared a “federal disaster area,” such as areas devastated by Harvey or Irma, you could be entitled to a quick tax refund. In that case, you can elect to deduct your casualty loss on the tax return for the prior year.
In other words, if you suffered a loss in a federally designated disaster area this year, you do not have to wait until you file your 2017 return in 2018 to obtain tax relief. Instead, you may file an amended return for 2016 and recoup your losses faster.
Be aware, however, that the IRS often challenges casualty loss deductions. The best proof you can offer is photographs or videos of your property prior to damage, so obtain documentation before a casualty occurs. When coupled with snapshots of the property immediately after a casualty occurs, the visual proof can be compelling.
To further support your position, you should obtain an independent appraisal of the damage. The appraisal itself is deductible as a miscellaneous itemized deduction (subject to a 2%-of-AGI floor). Your KOS Tax Adviser can help you maximize casualty loss deductions.