Californians are no stranger to disaster. We encounter fires, earthquakes, mudslides, and more, on a seemingly consistent basis. But the wide-spread devastation brought by this month’s fires has been unprecedented. The fires throughout the state have destroyed thousands of homes, and left even more people displaced while their homes are in danger, or while infrastructure is repaired.
TEMPORARY LIVING EXPENSES
Many insurance policies cover temporary living expenses, giving an allowance for the time you are displaced. This reimbursement is not taxable, to the extent it exceeds your normal living expenses (the extra costs associated with being out of your home). These extra costs could include items such as hotel stays, the rental of a temporary residence, restaurant meals until you have a place that has a kitchen, pet boarding, and storage fees.
CASUALTY LOSS DEDUCTION
Tax reform brought changes to the Casualty Loss Deduction rules, beginning with the 2018 year. The deduction is now only allowed for losses arising from Presidentially declared disasters, and our fires now have that designation. This means losses that are not reimbursed by insurance may give you some tax benefit.
Calculating your loss may be as easy as looking at the total loss shown on your insurance report, and subtracting any reimbursements received. However, it may be more involved if you have losses that were not covered by insurance (and thus, not included in the insurance report). For example, if you had artwork destroyed but you did not have that art work insured. IRS Publication 2194, Disaster Resource Guide, offers some detailed guides for reconstructing records and calculating your loss. This is used with IRS Publication 584, Casualty, Disaster, and Theft Loss Workbook.
Once you have calculated the amount of your net loss, after reimbursements, the loss is reported on Form 4684, filed with your income tax return. The form will add up your net total loss, and then subtract 10% of your Adjusted Gross Income (AGI). The remaining balance is added to your Itemized Deductions, reported on Schedule A.
Presidentially declared disaster losses, such as from the California fires, can be reported on the return for the year the loss occurred (2018, in this case), or the prior year return (2017). Declaring the loss on an amended 2017 return could get you a refund sooner, but there are other considerations. Since the deduction calculation subtracts 10% of your AGI, if your income varies greatly between the two years you may be better off selecting the year with the lower AGI.
Note: The 10% of AGI subtraction was not required for some previous disasters. There is still a chance that the 2018 California fires may be given this same treatment. We hope this will be the case, and await further guidance from the government.
Another consideration is if your loss is so large that you will create a loss greater than the income you had in that year. With so many homes completely destroyed in these fires, we are likely to see many cases where the losses exceed the income in a given year. The losses that are not utilized on your return create a Net Operating Loss (NOL), which can be carried to other years. For 2017 and earlier year NOLs, the loss can be carried back 3 years, or carried forward up to 20 years. Starting in 2018, NOLs can only be carried forward. If you could get benefit from reporting the loss on 2017, and then are able to carry any excess loss back to earlier years, this could be more beneficial than reporting the loss in 2018 and only carrying forward any unused losses.
The rules are complex, and the benefit could be considerable. Also note we have only addressed personal (non-business) losses in this article. Your tax professional can help you navigate the calculation and determine the best way to report on your returns to help ensure you are getting every possible benefit.
The November 2018 fires of California have been some of the worst in history. The aftermath of these disasters will affect those hit by them for many years to come. We hope that the information provided can assist in some way to lessen the hardship caused by these fires. Our hearts and thoughts go out to the victims of these terrible fires.