Tax Facts for Forest Landowners
A casualty loss occurs from an event that is sudden, unusual, and unexpected. Hurricanes, tornadoes, earthquakes, and airplane crashes are all examples of events that could cause a casualty loss. Losses to personal property or real property held for personal use caused by these kinds of events are deductible, but the rules for taking these deductions differ from those associated with business or investment property. Thus, it is important to distinguish between personal property and business or investment property. Personal property includes property used by you, such as your home, car and trees in you backyard, all of which are used are owned not primarily for the purpose of making profit.
Regardless of the use or intent for owning the property, it is necessary to document or show the type of casualty and when it occurred, and that you owned the property or were in some way liable for the property in the case of lease. Photography is a very good way to document losses, and "before and after" shots are especially useful in assisting appraisers with determination of fair market values.
The amount that can be deducted for casualty losses to personal property or real property held for personal use is the lessor of either the decrease in fair market value (FMV) of the property or your adjusted basis in the property less any reimbursement actually received from an insurance company or expected to be received. The decrease in FMV is the difference between the value of the property before the casualty, and after the casualty. Generally losses are figured separately for each item of property. However, this is not necessary for non-business real property, since real property includes land, buildings and trees or shrubs, all of which may be lumped together and appraised by a competent person knowledgeable of the sales of comparable property in the area.
Once the decrease in FMV or the adjusted basis in the property has been determined and the lessor amount chosen, it is necessary to subtract $100 from the total loss for each casualty event. You must further reduce your total losses by 10% of your adjusted gross income. The following example will clarify much of this information.
Example: Several years ago you purchased a home for $50,000. You also spent $2,000 for landscaping. Before a hurricane the property was valued at $80,000. After a hurricane, the property was valued at $20,000. Assume your adjusted gross income is $30,000. Your loss in the real property is limited to $52,000 since this adjusted basis is less than the decrease in FMV, $60,000 (pre-hurricane value, $80,000, minus post-hurricane value, $20,000). Your losses, if any, to other personal property (furniture, car, tools, etc.) are computed separately in the same manner.
If no losses occurred to any other property, your deductible loss is limited to:
$52,000 - $100 - $3,000 (10% of adjusted gross income, $30,000) = $48,900
If your insurance company reimburses you for $50,000, the casualty loss is totally offset. If your insurance company reimbursed you $60,000, the casualty loss is totally offset and a gain is realized since $60,000 - $52,000 = $8,000. This gain is taxable! This is true even when the decrease in FMV is more than the adjusted basis.
Property owners will need to complete Section A of Federal Form 4684 to report casualty losses. This form will provide space for insurance reimbursement, if any, and space for computations using the $100 and 10% adjusted gross income rules. Net losses will be transferred from Federal Form 4684 to Schedule A (Form 1040) using the space provided for casualty and theft losses. Hence, it is necessary to itemize in order to take a casualty loss deduction. Expenses for appraisals are also deductible under "other miscellaneous deductions" subject to the 2% of adjusted gross income rule.
Gains from reimbursement by insurance or from other sources are reported on Schedule D (Form 1040). However, special rules apply for homes and personal property in federally declared disaster areas. See IRS publication 547, or consult your certified public accountant for full details.
Casualty losses occurring from an event in an area declared eligible for federal assistance under the Disaster Relief and Emergency Assistance Act may be deducted on the return or amended return for the tax year immediately preceding the tax year in which the disaster happened, as well as during the tax year in which the event occurred. For a disaster occurring in 2002, one would have until April 15, 2003 to file an amended return for deducting losses on the 2001 tax year return.
Reporting gains on non-business or personal property may be postponed if replacement property is purchased within 4 years after the end of the tax year in which any part is realized, provided the replacement property is similar in nature or use and equals or exceeds any reimbursement received. Any reimbursement received in excess of the cost of the replacement property is taxable.
For additional information on these and other tax matters consultation with a certified public accountant or tax attorney is recommended.
NOTE: North Carolina law differs from federal law in the amount of a casualty loss since there is no $100 floor nor must the casualty be reduced by 10% of adjusted gross income. Casualty losses for the state return are claimed as miscellaneous expense on page 2 of Form D-400.
For more information, contact Rick Hamilton, Extension Specialist, 919.515.5574.