IRS formula for determining a casualty loss in a federally declared disaster
The IRS provides a specific formula for determining a casualty loss, especially for events that occur in a federally declared disaster area. Here’s a breakdown of the formula you’ll use to calculate your casualty loss deduction:
1. Determine the Fair Market Value (FMV) Before and After the Event
First, you need to calculate the fair market value (FMV) of your property before and after the casualty (such as a fire or flood).
FMV before the casualty: The value of the property immediately before the event occurred.
FMV after the casualty: The value of the property after the event has caused damage or destruction.
The loss is calculated as the difference between the FMV before and after the event.
Formula: Loss = FMV before - FMV after
For example, if your home was worth $200,000 before the fire (FMV before) and is now worth $50,000 after the fire (FMV after), the loss would be:
$200,000 - $50,000 = $150,000
2. Subtract Insurance Reimbursement
Next, subtract any insurance or other reimbursements you received for the damage caused by the casualty. For instance, if your insurance paid you $100,000 for the damages, you would subtract that amount from your loss.
Formula: Adjusted Loss = Loss - Insurance Reimbursement
Using the previous example, if you received $100,000 from your insurance:
$150,000 (Loss) - $100,000 (Insurance Reimbursement) = $50,000 (Adjusted Loss)
3. Subtract $100 Per Casualty Event
The IRS requires you to reduce the loss by $100 for each casualty event. This is an additional threshold that applies to all casualty events, whether in a federally declared disaster area or not.
Formula: Loss after $100 Reduction = Adjusted Loss - $100
For example, if your adjusted loss is $50,000:
$50,000 - $100 = $49,900
4. Apply the 10% of Adjusted Gross Income (AGI) Limitation
Finally, the IRS requires that you reduce your casualty loss by 10% of your adjusted gross income (AGI). This step applies to all taxpayers and is intended to ensure that only significant losses, relative to your income, are deductible.
Formula: Final Deductible Loss = Loss after $100 Reduction - 10% of AGI
For example, if your adjusted gross income (AGI) is $80,000:
10% of $80,000 = $8,000
So, if your loss after the $100 reduction is $49,900, your final deductible loss would be:
$49,900 - $8,000 = $41,900
IRS Formula Summary
The IRS formula for calculating a casualty loss in a federally declared disaster area looks like this:
Casualty Loss = FMV before the casualty - FMV after the casualty
- Insurance reimbursement
- $100 per event
- 10% of AGI
Example
Let’s walk through a full example:
FMV before casualty (home value): $200,000
FMV after casualty (home value): $50,000
Insurance reimbursement: $100,000
Adjusted Gross Income (AGI): $80,000
Step 1: Calculate the loss
$200,000 - $50,000 = $150,000
Step 2: Subtract insurance reimbursement
$150,000 - $100,000 = $50,000
Step 3: Subtract $100 per casualty event
$50,000 - $100 = $49,900
Step 4: Subtract 10% of AGI
10% of $80,000 = $8,000
$49,900 - $8,000 = $41,900
So, your deductible casualty loss would be $41,900.
Additional Considerations
Federal Disaster Area Special Rules: If the casualty occurs in a federally declared disaster area, you may have the option to deduct your casualty loss for the year in which the disaster occurred or amend your prior year's tax return. This could be beneficial if you need to receive your refund sooner.
Form 4684: To report the casualty loss, you'll need to file Form 4684 (Casualties and Thefts) with your tax return.
Always keep detailed documentation of your loss, including photos, estimates, and receipts for repairs or replacements, as well as a record of any insurance settlements. It’s also highly recommended to consult a tax professional to ensure that you’re following the rules correctly and maximizing your deductions.
IRS Publication 547 (2023), Casualties, Disasters, and Thefts: https://www.irs.gov/publications/p547