Determining the Amount of the Deduction

The amount of your casualty or theft loss is calculated as follows:

1. Determine the adjusted basis in the property before the casualty or theft.
2. Determine the decrease in the fair market value of the property as a result of the casualty or theft.
3. From the smaller of 1 or 2, subtract any insurance or other reimbursement.

Adjusted Basis

Your adjusted basis in the property before the casualty or theft may be your original cost, if you purchased the property, or may be another basis if you received the property as a gift, by inheritance, in an exchange, or in some other way.  If you had rented out the property, your adjusted basis may be original cost less accumulated depreciation and other adjustments.  Reference should be made to how basis is determined for tax purposes.  IRS Publication 551, Basis of Assets, provides guidance in this regard.

Decrease in Fair Market Value

Fair market value is defined as the price for which you could sell your property to a willing buyer when neither of you has to sell or buy and both of you know all the relevant facts.  The decrease in the fair market value is the difference between the property’s fair market value immediately before and immediately after the casualty or theft.  In the case of a theft, the fair market value after the theft is considered to be zero.  In the case of a casualty, you will generally need to get an appraisal.  The cost of the appraisal is not considered as part of the loss,  but can be taken as a miscellaneous itemized deduction on Schedule A.

In determining the amount of a casualty loss, the cost of cleaning up or making repairs is not part of the loss.  But, aside from an appraisal, you may be able to use the cost of clean-up and repair as a way of determining the decrease in fair market value if the repairs are actually made, the repairs are necessary to bring the property back to its condition before the casualty, the amount spent is not excessive and is only to repair the damages, and the value of the property after the repairs is not more than its value before the casualty.