What Happens If Business Property Suffers From Casualty Or Theft Losses?

Deductible casualty and theft losses and related insurance reimbursements reduce the basis of the property.

Q. What is a Casualty?

A Casualty is defined as the damage, destruction or loss of property resulting from an identifiable event that is sudden, unexpected, or unusual.

Deductible losses related to business and income producing property such as rental property are reported on form 4684.

A house fire at Andy’s home destroys his couch, personal TV and coffee table which are personal use property for a total loss of $5,000. In 2023, this personal casualty loss is not deductible. The same fire also damages a business asset, a laptop computer that he had brought home that day in order to catch up on his work. The computer is destroyed, resulting in a business casualty loss of $3,000 that is fully deductible.

A casualty loss is not deductible if the damage or destruction is caused by progressive deterioration due to normal wear and tear from weather conditions or insect damage.

If an entity has business property that is stolen or completely destroyed, the deductible loss is figured as follows:

The taxpayer’s

Adjusted Basis in the property

MINUS

Any scrap or remaining value

MINUS

Any insurance or other reimbursement received

Theft may involve taking money or property by the following means: blackmail, burglary, embezzlement, extortion, kidnapping for ransom, larceny and robbery. The taking of property must be illegal under the state law where it happened and must have been done with criminal intent.

Ben owns a shop that sells sports memorabilia. Two years ago, Ben purchased a signed David Ortiz baseball jersey for display for $250 at an estate sale. The jersey was stolen from his sports shop in 2022. The FMV of the jersey was $3,250 just before it was stolen, and Ben did not have insurance to cover the loss. Ben’s deductible theft loss is $250, equal to his basis in the jersey.

Q. When can you claim losses from casualty and thefts?

Casualty losses are typically deductible in the tax year when the casualty event occurs, even if the business delays repairing or replacing the damaged property until a subsequent year. For theft losses, the deduction can be claimed in the tax year when the business discovers that the property was stolen.

If a business has insurance coverage for property that is lost or damaged, it must file a claim for reimbursement to be eligible for a deduction. The portion of the loss that is not reimbursable by insurance is the deductible portion. This rule does not apply to the portion of the loss that insurance does not cover.

In cases where insurance reimbursement is denied or falls short of the expected recovery, the taxpayer can amend a prior year’s tax return to properly deduct a casualty loss that was not initially reported. However, if there’s a pending insurance claim during the tax year, a casualty loss cannot be claimed until it’s certain that the insurance policy will not fully cover the loss.

Here are a couple of examples to illustrate these principles:

Example 1: James and Benjamin own a gourmet food truck used for business. After an automobile accident that caused $3,350 in damage to the truck, they paid the repair bill out of pocket to avoid an increase in their business insurance costs. Since their insurance policy had a $500 deductible, the $500 represents the deductible casualty loss, and any amount exceeding $500 is not deductible because it wasn’t filed as an insurance claim.

Example 2: Lucas owns a residential rental property that suffered $35,000 in flood damage on January 2, 2022. When he filed his tax return on February 3, 2023, he didn’t report the casualty loss because he expected full reimbursement from his insurance company. However, when the insurance company denied the claim due to the policy not covering flood damage, Lucas must amend his return using Form 1040X to claim the casualty loss. In doing so, he should reduce the property’s adjusted basis by any insurance or other reimbursements received and by any deductible loss, thus properly reflecting the casualty loss for tax purposes.