Casualty Losses, And How To Benefit From The Tax System

177 MacKenzie Street in Manhattan Beach collapsed after a March 2010 storm. The landlord could've written it off.

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With Hurricane Irene around the bend and an earthquake just behind us, perhaps it’s time for a little discussion about property losses and how to mitigate the pain through the tax system.

Whether it’s water damage from the storms, a tree falling on your car, the loss of your wedding ring or even being the victim of a financial scam – victims of casualty, disaster or theft have some protections within the tax code. Let’s take a look at disaster loss tax deductions, how they work, and its history.

History of the Disaster (Casualty) Loss Tax Deduction

In the 1860’s, to finance the War Between the States, an income tax was enacted. Then, like now, there were various deductions against income that victims of a disaster were allowed, including for losses related to fire and shipwrecks. In 1870, added to the definition of a disaster was “flood,” and then “storms” (This was due to the Harpers Ferry flood of 1870). These deductions were incorporated into our current tax code, which was created in 1913 (Here’s the 1913 tax form. See page 3, item 4).

Today, these casualty, disaster and theft losses have been expanded to include not only natural disasters, but also financial losses, like Madoff, bank insolvency, and ransoms. The IRS say that a casualty loss can result from the damage, destruction or loss of your property from any sudden, unexpected, or unusual event such as a flood, hurricane, tornado, fire, earthquake or even volcanic eruption. A casualty does not include normal wear and tear or progressive deterioration. A theft loss is the taking and removing of money or property with the intent to deprive the owner of it. The taking must be illegal under the law of the state where it occurred and it must have been done with criminal intent. (Contrary to popular wishful thinking, it does not apply to the IRS.)

Today’s Requirements for a Casualty, Disaster, or Theft Loss Deduction

  • What is a Casualty, Disaster, or Theft Loss: It’s an event that is sudden, unexpected, or unusual. The bad weather we experienced would qualify under this definition, as would a theft of personal property, an accident, identity theft, loss of your deposit at an insolvent bank, blackmail, or a tree falling on your car. Non-deductible losses would include normal wear and tear on your house (termites), pet-related accidents (dog knocking over your grandmother’s valuable vase), accidental breakage (glassware), arson (committed on your behalf), and willful car accidents. Basically, it your loss was not avoidable, a tax deduction is allowed.
  • Insurance Reimbursement: Your loss is reduced by the amount you are reimbursed from your insurance. If you have no insurance, or only receive a partial reimbursement, you can claim the loss as a deduction, subject to limitation noted below. If you have insurance, but do not file an insurance claim, you cannot deduct the loss on your tax return. Also note that the amount of your insurance deductible is part of the total loss.
  • When to Claim the Loss: You claim the casualty loss in the year it occurs. Theft losses are generally deductible in the year you discover the property was stolen or destroyed unless you have a reasonable prospect of recovery through a claim for reimbursement. In that case, no deduction is available until the taxable year in which it can be determined with reasonable certainty whether or not such reimbursement will be received.
  • How to Claim the Loss: The loss is claimed as an itemized deduction on Schedule A of the form 1040, on sub-form 4684, Casualties and thefts. For property held by you for personal use, once you have subtracted any salvage value and any insurance or other reimbursement, you must subtract $100 from each casualty or theft event that occurred during the year. Then add up all those amounts and subtract 10% of your adjusted gross income from that total to calculate your allowable casualty and theft losses for the year. (Suggestion: Do it the easy way, and let the tax guy do this for you.)

This is only a summary of this part of the tax law. Remember that a loss is not a loss unless the IRS says it is. If you even think you qualify for this deduction, immediately call your tax preparer to discuss what the IRS would consider your loss, what you would need to

prove the value

of your loss, and what you would need to

prove you had a loss

.

Joseph Reisman, of Joseph S. Reisman & Associates, has been serving tax prep and business accounting expertise from his Coney Island Avenue office for more than 25 years. Check out the firm’s website.

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