Tax Deductions for Disaster Relief

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Whether it’s a catastrophic hurricane like Ian or a California wildfire, disaster can strike and cause significant property destruction. Insurance can help, but it’s out of pocket for some damage not covered.

But taxpayers hit with a catastrophic event and have sustained a “casualty loss” should check to see if it’s a federally declared disaster. If so, it could lead to some tax savings.

Casualty Disasters and Tax Deductions

Under section 165 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act, the Internal Revenue Service (IRS) allows a tax deduction for a loss sustained during the tax year of the federally declared disaster. Casualty losses for tax years 2018 to 2025 are eligible for these tax deductions if they are in federally declared disaster areas. If the loss occurred before 2018, then it is not eligible for a tax deduction.

The loss must not have been compensated by insurance. You’ll need to reduce the loss by the insurance reimbursement or salvage value. In other words, you can’t double dip.

If your loss is under a federally declared disaster, you may choose to deduct the loss in the tax year immediately preceding the tax year the loss happened. For instance, victims of Hurricane Ian in federally declared disaster areas may elect to deduct their losses in the tax year 2023,

Individuals can claim losses on Schedule A on Form 1040 under itemized deductions.

You can also opt to deduct a loss without itemizing deductions. Your net casualty loss doesn’t need to exceed 10 percent of your adjusted gross income to qualify for a deduction. According to the Internal Revenue Service (IRS), you would “reduce each casualty by $500 after any salvage values and any other reimbursements.” Speak with an accountant to ensure you receive full deductions.

Casualty Loss Resulting From Unexpected Event

In order to meet the IRS’s definition of a casualty loss, the damage, loss of property, or destruction must result from an “identifiable event that is sudden, unexpected, or unusual.” It can’t be a progressive or gradual event like erosion.

For example, if you have a home on the beach and the ocean gradually erodes the beach over time until it damages your house, this is not a sudden or unexpected event. But if a hurricane comes and destroys that same home, this is a sudden and unexpected event. There are three types of casualty losses that are eligible for tax deductions.

Three Types of Casualty Losses

The three casualty losses are federal casualty losses, disaster losses, and qualified disaster losses. The president of the United States must determine a federally declared disaster.

A federal casualty loss is an individual’s loss resulting from a federally declared disaster. It must take place in a state that has been declared a disaster.

A disaster loss is a loss attributable to and under a federally declared disaster. It must occur in an area eligible for assistance.

And, finally, a qualified disaster loss refers to those major disasters that the president declared under section 401 of the Stafford Disaster Relief and Emergency Assistance Act, such as the past disasters of Hurricane Harvey and the California wildfires.

Losses Not Eligible for Tax Deductions

The casualty loss must be in a federally declared disaster area. Just because there is a sudden and unexpected loss doesn’t mean it can be deducted.

For example, a storm does significant damage to your home. The insurance company’s reimbursement doesn’t cover all the costs of repairing it. If the president hasn’t declared the storm a federal disaster area, you can’t deduct the difference that the insurance didn’t pay from your taxes.

But if a tornado levels your home and the president declares the storm a federal disaster, you can claim any additional costs that the insurance didn’t reimburse on your taxes.

Loss of property due to damage by a family pet is also not tax deductible.

Declaring a Capital Gain

Unfortunately, in some cases, a capital gain must also be reported. If the insurance company reimburses you in excess of the cost or adjusted basis of the property, you will typically, with a few exceptions for businesses, have to pay a capital gain tax. Check with an accountant in this situation.

Losses Outside of Federally Declared Disaster Areas

If your new puppy soils your Persian rug, it’s not a casualty loss, but there are other losses that you may be able to deduct. For example, theft is a loss that, under certain circumstances, can be deducted if your insurance doesn’t reimburse you completely.

If you have a loss outside a federally declared disaster, it is always wise to consult with an accountant. You may be able to deduct a portion of it. However, at this point, this is only in effect up until 2025.

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