Ok, I might be dating myself a bit on the word play on the title of this article from one of my favorite songs from the 80s, but unfortunately, this reality hit home for many taxpayers late last summer as we watched the devastating effects of the hurricanes unfold on our televisions. With the busy tax filing season behind us, the Tax Cuts and Jobs Act (TCJA) has made some significant changes to the casualty loss rules for 2018 and beyond.
To qualify as a casualty, a loss must result from an identifiable event of a sudden, unexpected or unusual nature. Some examples would be a fire, storm, flood, hurricane or other similar natural disaster. The loss does not need to be caused by natural forces; losses by vandalism or theft may also qualify as casualty losses. The event must be identifiable, damaging to property and sudden, unexpected or unusual in nature.
For tax years 2018 through 2025, the itemized deduction for personal casualty and theft losses is temporarily limited to losses attributable to federally declared disaster areas as declared by the President. These losses can be deducted either on the original return for the year of the loss, or on an amended return for the tax year immediately preceding the year in which the disaster occurred.
A casualty loss is calculated by subtracting any insurance or other reimbursement received or expected from the smaller of – the decrease in fair market value of the property as a result of the casualty, or the adjusted basis in the property before the event. Reliable appraisals of the value of the property immediately before and after the casualty are generally regarded as the best evidence of the decline in value. The penalties for the overvaluation of a casualty loss can be significant, so be sure to check the credentials of the appraiser and take the time to understand the appraisal report.
After the loss has been computed, the deductible amount must be determined. If the loss was to property held for personal use, there are two limits on the deductible amount. First, reduce the calculated loss by $100, further reduce the loss by 10% of your adjusted gross income. If there is more than one casualty or theft loss, this 10% rule does not apply if casualty gains for the year are more than casualty losses.
Be careful – taxable income can exist as part of the casualty. Many homeowners are insured for casualties and receive money from insurance companies to settle claims and provide for living expenses as they work through the casualty reconstruction process. Insurance proceeds from property losses are gains to the extent the reimbursement exceeds the adjusted basis in the property. Please seek help from your advisors to work through these computations.
It is important that you understand the tax provisions available if you find yourself in this unfortunate situation. Let your tax advisors lead you through this process to help you not become the one that gets “Rocked by the Hurricane” from a tax perspective too.
Ryan D. Gorman, CPA