Dealing with Natural Disasters: Tax Relief and Casualty Loss Deductions
Florida recently faced catastrophic damage from Hurricane Milton, coming on the heels of Hurricane Helene, which affected millions across the southeastern U.S. These back-to-back storms are among several natural disasters this year, adding to a string of hurricanes, tornadoes, wildfires, and more. For those impacted, there are potential avenues for financial relief, including tax deductions for casualty losses and certain federal assistance measures.
What is a Casualty Loss Deduction? A casualty loss occurs when property is damaged, destroyed, or lost due to a sudden and unexpected event like hurricanes, floods, earthquakes, or fires. Progressive deterioration or wear and tear don’t qualify for these deductions. For instance, drought-related damage typically doesn't meet the criteria.
The eligibility for deducting a casualty loss differs based on whether the loss involves personal or business property. Generally, personal property such as homes, vehicles, and personal items are only deductible if the loss occurs in a disaster area declared by the President, making it eligible for federal assistance. However, for business or income-producing properties, like rental units, the loss may be deductible regardless of whether it happens in a federally declared disaster zone.
Casualty losses are usually deducted in the year they occur. However, if the loss results from a federally declared disaster, there’s an option to claim the loss for the previous year, potentially speeding up the refund process by amending the prior year’s tax return.
Accounting for Reimbursements If you receive insurance or other reimbursement for the loss, the deductible amount must be reduced by that compensation. If the compensation you receive exceeds your property's adjusted cost basis, it could result in a taxable capital gain, unless you qualify to defer reporting that gain.
Postponing the gain reporting is possible if you reinvest the compensation into property of similar value or function within a specific timeframe. This could involve restoring the damaged property, purchasing similar assets, or even buying an 80% controlling interest in a company that owns comparable property.
Alternatively, you can offset gains by casualty losses from areas not declared as disaster zones, but this is only applicable for personal-use property.
How Casualty Loss is Calculated For personal and partially damaged business property, the loss is the lesser of either the adjusted basis (the original cost plus improvements, minus depreciation) or the reduction in the fair market value (FMV) due to the casualty. For completely destroyed business property, the loss is the adjusted basis minus any salvage value and reimbursements.
If multiple items are damaged in one event, each loss must be calculated individually and then totaled to determine the overall casualty loss. For personal-use real estate, such as a home, the loss calculation applies to the entire property, including improvements like landscaping.
Limits on Deductions There are additional limits on deductions for personal property losses. For each casualty event, you must reduce the loss by $100 after subtracting salvage value and reimbursements. If multiple events occur, each must be reported separately. In addition, total personal property losses must be reduced by 10% of your adjusted gross income (AGI), after the $100 rule is applied, making small personal losses less likely to result in significant tax relief.
Keeping Thorough Documentation To claim a casualty loss deduction, you must have detailed records showing:
Ownership of the damaged property (or contractual liability for leased property),
The cause and date of the casualty,
That the loss was directly due to the event,
The adjusted basis of the property and any reimbursement details.
For personal property, you’ll also need to document the FMV before and after the casualty event.
Qualifying for IRS Relief This year, the IRS has extended tax relief to victims of several natural disasters, including those impacted by Hurricane Helene across states like Alabama, Georgia, North Carolina, and others. Relief often includes deadline extensions for filing and other tax obligations. It’s possible more relief will be offered to those affected by Hurricane Milton.
Even if you don’t reside in a federally declared disaster zone, you may qualify for relief if the records you need for filing are located in a covered area. For instance, if your accountant lives in a disaster zone and can’t file on your behalf, you could qualify for a deadline extension.
Natural disasters can bring unexpected and significant financial challenges, but knowing how tax deductions and relief programs work can ease some of the burdens for individuals and businesses.
