How to Claim a Casualty Loss on Your Income Tax Return
Hurricane Irene hit the eastern coastline hard this past weekend. In the south, Irene was originally designated as a "Category 3" hurricane. The highest rating and most violent is a Category 5. Irene was subsequently downgraded to a Category 1. It’s very early, but it is estimated that the damage caused by this hurricane could be between $3 and $5 billion. In Connecticut, we were also hit hard by Hurricane Irene. The property damage has been estimated at $500 million.
Many people are still picking up the pieces and are trying to get their life back to normal. Many have contacted their insurance agent to discuss filing a claim.
Individual taxpayers can claim a casualty loss by preparing IRS Form 4684—Casualties and Thefts. This form is attached to the individual’s personal income tax return Form 1040. Please note there are some limitations in claiming a casualty loss. First, a taxpayer must itemize their deductions. A taxpayer can claim the standard deduction or their itemized deductions, whichever is higher. To claim itemized deductions, the taxpayer must file Schedule A—Itemized Deductions. If it is an allowable casualty loss, the deduction is only allowable to the extent it exceeds 10% of the adjusted gross income ("AGI").
It's important to understand how the casualty loss is calculated. First, take the cost basis (this is typically what was paid plus any improvements) and subtract any insurance proceeds, whether or not you filed a claim. Next, compare the fair market value of the property after the casualty from the fair market value of the property before the casualty. Lastly, take the lower of these two numbers minus the 10% of adjusted gross income.
Some people won't file a claim with their insurance company due to concerns about having higher premiums in the future. This is a natural concern. However, care must be exercised when calculating any potential casualty loss. The amount of insurance proceeds that could have been covered needs to be used in the calculation even if a claim wasn't filed.
It's also possible that there may be a gain on the insurance proceeds. This could result in taxable income or, perhaps, this gain could be deferred, depending on the situation.
ACTION ITEM: A tax deductible casualty loss may be difficult to obtain for some people hit by Hurricane Irene. However, as with other tax situations, good record keeping may assist in getting this deduction.
Thomas F. Scanlon,CPA, CFP®