4 Tips for Deducting Losses from a Disaster

On the night of November 28, 2016, the devastating fires in Sevierville County forced over 14,000 people from their homes, injured 191 people and 14 people died in the fire or related to the fire. The small vacation destination was devastated. More than 2,460 buildings were damaged or destroyed in the Chimney Tops #2 fire. While dollar amounts are not final, the damage costs are estimated in excess of $500M.

No one ever expects or prepares for a disaster of this magnitude and recovering seems impossible at the time it happens. Surprisingly, however, the IRS is one of the resources available to help those who suffered a loss such as this. While there are strict rules and guidelines, it is worth the effort to deduct losses incurred in a disaster and get some much-needed money for repair and recovery.

From the IRS.gov website, we present tips regarding deductions after such a disaster with some explanation to help you.

1. Loss must be a casualty loss

Losses that occur during defined disasters including fire, flood, tornados, earthquakes, hurricanes and even theft or vandalism are called casualty losses. It is a type of tax loss that occurs from a sudden, unusual or unexpected event. It is not a loss that occurs over time or from normal wear and tear. Losses due to issues including structural deterioration, termites or long-term water leakage are not considered casualty losses.

2. When to take the deduction

Usually, the loss must be taken as a deduction in the year it occurred, however, there is one exception to this rule. If the loss is from a federally declared disaster, you have the option of deducting for the tax year it occurred or filing an amended return for the calendar year in which it occurred. Filing for the calendar year may lower your tax for that year and result in a refund.

3. Calculating the amount of loss

The amount of loss is based on two numbers. First, the adjusted basis of the property before the loss. For purchased property, that is the amount paid for the property. Second, the decrease in Fair Market Value (FMV). FMV is the amount you could sell the property for after the loss. The decrease in FMV is the difference in the amount from immediately before the loss and immediately after the loss. The loss calculation is the adjusted basis minus the fair market value minus any insurance reimbursement as covered in the next section.

3. Loss must be covered by insurance

For insured property, a claim must be filed as soon as possible. If a claim is not filed, then you are ineligible to deduct the loss on your taxes. The expected or received amount of reimbursement must be deducted from the total loss before filing as well. This is the first of two reductions to the allowable amount. If the loss is fully covered by insurance, there is no allowable deduction.

4. IRS required reductions

The second reduction to the allowable deduction amount involves calculating your amount of loss as defined by the IRS and two limits. First, you can deduct only the amount of loss that exceeds 10% of your adjusted gross income for the year. Second, you must reduce your loss by subtracting an additional $100. Here is an example of how this works. Example: After insurance reimbursement from a fire, you paid an additional $6,000

Example: After insurance reimbursement from a fire, you paid an additional $6,000. Your adjusted gross income is $50,000. Ten percent of your AGI is $5,000. Calculate the deduction by subtracting $5,000 from $6,000 ($6,000-$5,000=$1,000). Then subtract the additional required $100.00 ($1,000 – $100 = $900) for the total allowable deduction of $900.

You must file Form 4684 – Casualties and thefts to calculate and report your loss. The deductible amount is then claimed on Schedule A – Itemized Deductions on your Federal Tax Return. It is important to note that claiming casualty losses often causes your return to beflagged for an audit so it is important that you have good records and documentation. You need documents that show you owned each of the items you are claiming such as receipts or deeds. You should have contracts with receipts that show the amount of any improvements to the property and you need to have documentation to substantiate the FMV you claim such as appraisals or insurance records. Remember too that the rules for business or income property are different from the rules for personal property.

Our hearts go out to the people of Gatlinburg who have suffered these losses. If you would like to help, there are several funds available including the My People Fund started by Dolly Parton; the East Tennessee Foundation’s Sevier County Community Fund; the Gatlinburg Chamber of Commerce Gatlinburg Relief Fund and numerous personal GoFundMe accounts listed under Tennessee Fire Relief (note that these are all vetted and covered by the GoFundMe Guarantee).

If you have suffered a loss, need help or have questions about deducting losses from a disaster, Gallati Professional Services is in Knoxville. We can be reached by phone at 865-281-1461; via email at agallati@gallatitax.com or through our website.

Posted in Posts.