Posted in tax
In the aftermath of Hurricane Sandy, many taxpayers may be left wondering how to recover from the damages suffered from the storm. Taxpayers who experience certain types of major personal casualties may be able to recoup some of their losses through tax savings. To cover the topic more fully, I will also review circumstances outside of natural disasters.
Personal losses from fires, storms, car accidents, and similar sudden, unexpected, or unusual events may be able to be deducted as an itemized deduction. Losses from theft are included as well, but that's a discussion for another time.
The deduction is only available for physical damage or loss to your property. Thus, if you are in an automobile accident and pay for the damage done to the other driver's car, the cost does not qualify. Similarly, if you're injured in the accident, your medical bills do not qualify as part of your casualty loss (although they may result in a medical expense deduction).
Figuring the loss. The loss is not always the decline in economic value you suffer. It's measured as the lesser of (a) the drop in value and (b) your basis in the property (usually, your cost). This means your total loss cannot exceed the basis of the property.
Example: Dan bought an antique vase for $500 which rose in value to $3,000. It was damaged in a fire after which it was worth only $1,000. For tax purposes, the casualty loss is only $500, even though the economic loss was $2,000 ($3,000 − $1,000). The lesser of cost ($500) and drop in value ($2,000) is used.
It may be difficult to establish these elements. If you have your original receipt, you can show your cost. In some cases, appraisals will be needed to establish pre- and post-loss values. Sometimes, repair costs can be used as a measure of drop in value.
Limitations on the deduction: The loss figure must be reduced by three amounts. In many cases, these reductions result in no deduction being available.
First, to the extent you are insured, you must reduce your loss by your reimbursement. However, you shouldn't fail to file an insurance claim in the hope of increasing your deduction. If you do, IRS will reduce your loss by the insurance reimbursement you could have received.
Next, for each casualty, you must reduce your loss amount by $100. Note that this reduction is per event, not per item damaged. Thus, if a storm knocks over a tree that damages your car and home, you have three property losses (tree, car, house) and only one reduction.
Third, after combining all your losses under the above guidelines, you must reduce them by 10% of adjusted gross income (AGI). Only the loss amount above this floor can be deducted.
This final limitation is often the one that wipes out the deduction. For example, if your AGI is $75,000, your losses (determined as described above) are only deductible to the extent they exceed $7,500 (10% of $75,000). The 10%-of-AGI limit on casualty losses is waived for federally declared disasters in 2008 and 2009 - this could apply again in the wake of Hurricane Sandy.
When to take the deduction. Except for disaster losses, the deduction is taken in the year the loss is incurred (or, for a theft, the year it's discovered). If your loss is from a disaster in a federally declared disaster area, you can elect to take your loss in the year before it was incurred. This may increase the tax savings from the loss and may entitle you to a refund earlier than if you waited to file the loss year's return.
Non-itemizers can't take casualty loss deduction. Individual taxpayers who don't itemize deductions can't deduct their casualty losses. The additional standard deduction that was allowed to non-itemizers for net losses from federally declared disasters occurring in 2008 or 2009 currently isn't available for disasters occurring in 2010 or later years.
Casualty gains. Also bear in mind that not every casualty results in a loss for tax purposes. There is such a thing as a casualty gain. For instance, suppose a taxpayer buys a house for $100,000 (his tax basis) and it increases in value to $300,000 over the years. If it's destroyed and the taxpayer receives close to $300,000 in insurance, he will have a gain of close to $200,000 since his basis was only $100,000. In many cases, tax on a casualty gain can be avoided or deferred.
For more tax and accounting information visit www.twbatescpa.com. To discuss this topic in more detail please call 781-438-6655.
Last Updated by Mike on 2012-10-31 08:31:56 AM