If your home or personal property was damaged this year by Hurricane Ian or other natural disasters, you may be entitled to tax relief that can help soften the blow. Individuals who itemize their deductions are permitted to deduct casualty losses caused by a “sudden, unexpected or unusual event,” such as a hurricane, tornado, earthquake, volcanic eruption, fire or flood. This Client Alert will provide a brief overview of the rules for deducting personal casualty losses. Note that the rules for deducting business casualty losses are somewhat different and are not addressed in this Alert.
Federal Disasters Only
Under the Tax Cuts and Jobs Act, for tax years 2018 through 2025, personal casualty losses are deductible only if they are attributable to a federally-declared disaster. Because President Biden issued disaster declarations for areas in Florida and the Carolinas impacted by Hurricane Ian, residents in those areas are eligible for the deduction.
Determining Your Loss
For personal-use property, the amount of your casualty loss is the lesser of:
- Your adjusted basis in the property (generally, the amount you paid plus the cost of certain additions or improvements); or
- The decline in the property’s fair market value.
For example, if you purchased your home for $200,000 and made $100,000 in improvements, this gives you an adjusted basis of $300,000. Just before Hurricane Ian, your home’s fair market value was $1 million, but hurricane damage reduced its value by $400,000, to $600,000. Since your adjusted basis is less than the decline in value, your casualty loss is limited to $300,000.
Calculating the Deduction
Once you have determined the amount of your casualty loss (or losses if you experienced more than one disaster this year), there are several steps that you must take to determine the deductible amount:
- Reduce the total amount of your casualty losses for the year by ten percent of your adjusted gross income (AGI). In other words, casualty losses are deductible only to the extent they exceed ten percent of AGI.S
- Subtract any reimbursement you received or expect to receive (e.g., from insurance or government assistance).
- Subtract a “deductible” of $100 per casualty loss. A casualty loss includes all damages attributable to a single event, even if multiple pieces of property are involved. For example, if Hurricane Ian damaged your house, your car, your boat and various household furnishings, the $100 reduction would apply only once.
The resulting amount may be claimed as an itemized deduction. If a casualty loss deduction causes your itemized deductions for the year to exceed your income, you may have a net operating loss (NOL) that can be carried forward and deducted in future years.
Special Rules for Qualified Disaster Losses
While a disaster loss is only deductible if you itemize your deductions, a “qualified disaster loss” can be deducted even if you do not itemize. Additionally, the loss is not reduced by ten percent of your AGI. The per-loss deductible, however, increases from $100 to $500. As of this writing, a loss related to Hurricane Ian has not been designated as a qualified disaster loss, but that may happen in the future.
Timing the Deduction
Generally, a casualty loss is deductible in the year that you sustain the loss. But if it is attributable to a federally-declared disaster, you may choose to deduct it on your return or amended return for the preceding year. So, for example, you might opt to deduct a casualty loss from Hurricane Ian on your 2021 tax return if your 2021 income was substantially higher than your 2022 income, allowing you to take a larger deduction and receive a sizeable refund.
To deduct a casualty loss in the preceding year, you must file an election with the IRS within six months after the unextended due date of your return for the disaster year (October 18, 2023, for Hurricane Ian losses).
Watch Out for Casualty Gains
In some cases, a disaster can result in a casualty gain. That can happen if you receive a reimbursement that exceeds your adjusted basis in property. In the example above, if you were to receive a $400,000 reimbursement from your insurance company, you’d have $100,000 in taxable gain.
Substantiating the Deduction
A big challenge in claiming a casualty loss deduction is that, in many cases, the disaster that causes the loss also destroys records you need to document it. If you find yourself in this situation, contact your ORBA advisor. We can work with you to reconstruct your records or come up with other strategies to substantiate your loss.
For more information about the tax treatment of casualty losses, please contact Michael Loesevitz at [email protected] or 312.670.7444.