Use disaster loss deductions to ease

tax & financial burden

Our beautiful Tampa Bay communities and the Southeastern states have been dealt blow after blow during the 2024 hurricane season . With many in our local communities still struggling to asses and recuperate their losses, this blog hopes to educate on the tax relief available to business and real estate owners who suffered losses.  Below we break down how business and real property owners that qualify can calculate, document, and take this deduction on their taxes. Our hope is to mitigate losses for any business owner who reads this and qualifies. 

What Qualifies as a Disaster Loss?

Disaster losses refer to damages sustained to business or personal property during the taxable year that are not compensated and reimbursed by insurance claims or FEMA assistance. To qualify for a deduction, the loss must be sudden, unexpected, or unusual, such as those resulting from natural disasters like hurricanes, earthquakes, floods, or other catastrophic events. Your county must be declared a federal disaster area and the loss must be documented and clearly evident that it was caused by the disaster in question.

Differences Between Business and Personal Property Loss Deductions

When it comes to claiming disaster deductions, there are notable differences between how you calculate business and personal property losses. For business property, losses can be used to offset business income which can significantly reduce taxable income for that year. On the other hand, personal property disaster losses are a bit more limited. These losses can offset personal income, but only if the loss amount is more than 10% of your Adjusted Gross Income (AGI). This means that personal property losses must meet a certain threshold before they can be applied as a deduction. For business property, all eligible losses calculated are allowed to be taken in the immediate tax year or prior tax year by amending and receiving a refund. Since we deal with business owners and real estate investors, we will focus on the disaster losses related to business property. 

Steps to Claiming & Calculating Disaster Loss Deductions

Below we breakdown key steps you need to take in order to document and claim losses. Documentation is critical for the IRS to allow your deductions. 

1. Asses Damage to property. Determine the extent of the damage to property by obtaining repair estimates and appraisals. This will help determine the decrease in fair market value and an important step in staying within IRS guidelines. In order to calculate your loss, you will need three key numbers. The adjusted cost basis of the property, the fair market value of damages, and insurance or FEMA proceeds you will receive as reimbursements. 
   
   
2. Gather Documentation and confirm tax cost basis. The adjusted cost basis is the original cost of the business property plus any improvements made to it and less the depreciation taken. A good way to confirm your tax cost basis is by looking at your prior year tax return depreciation schedules, this will show the costs and depreciation that has already been taken on the property. The adjusted cost basis establishes the max amount available to be deducted for taxes. With this cost basis in hand, its time to document the amount of damage to see how much the property's cost basis you can deduct.
   
   
3. Use  the IRS Safe Harbor Methods to establish fair market value (FMV) of damage. The IRS requires you obtain at least two quotes from third party contractors to determine what the Fair Market Value of the damage is. Using the lower of the quotes, you can establish what is the value of the damage to your property. This step is one of the most important ones because the IRS will likely disallow the loss if you can't support proper third party quotes for the costs. Save all quotes, estimates, invoices you receive during this step.
   
   
4. Evaluate Insurance claims and FEMA reimbursements. If you file an insurance claim and receive any proceeds to cover your property loses, you must reduce your loss by this amount. Take into consideration any payments received from your insurance or FEMA assistance programs before calculating final loss figure. In the next step, we go into calculating the loss once all relevant information is obtained. 
   
   
5. Calculate your deductible disaster loss. Once you have gathered the necessary information you need, calculating the  disaster loss is the second to last step before filing. In the example below this business owner will have $200,000 of disaster losses to offset his $850,000 income. Potentially saving them $74,000 in federal taxes and to cover for some of their unrecovered losses. For illustration, the example below assumes the following:

• A  business owner with $850,000 of taxable income owns a $1,000,000 property, and is in the highest 37% tax bracket
• He receives two quotes from contractors to establish FMV disaster damage of $400,000 to his business property.
• The adjusted cost basis of the property is $600,000 since he has depreciated $400,000 of the property in past tax years.
• Insurance reimburses the business owner $200,000  to cover damage.

See Disaster Loss calculation below:

               $400,000 FMV of Damage to Property

Less  ($200,000) Insurance Reimbursement

              $200,000  Disaster Loss Allowed

See Taxable Income calculation below:

               $850,000 Business Owner Taxable Income BEFORE disaster loss

Less  ($200,000) Disaster Loss Allowed  filed on Form 4684

              $650,000  Business Owner Taxable Income AFTER disaster loss

Properly Report the Loss on Tax Returns

To properly report disaster losses on your tax return, you need to file Form 4684 and include all necessary documentation that supports your claim. For disaster losses, you have the option to either claim a refund by amending your prior year's tax return to use the loss to offset income, or you can apply the loss in the current tax year. This flexibility allows you to choose the option that best suits your financial situation and maximizes your tax benefits. Schedule a call with us to see if you can benefit from this part of the tax code! Also, share this blog with anybody you know it may help, we hope to see our community rebound stronger than before!