While you're able to take tax deductions for disaster losses, keep in mind that the IRS wants to see evidence that a loss actually occurred and that it was caused by a disaster.
What kind of documentation will support your claim with the IRS? You'll need details about the nature of the disaster, a written description of the damaged property and the date the damage occurred. You must also explain how the loss was the direct result of the disaster. It's a good idea to have photos of the area before and after the disaster as well as newspaper articles that explain the damage in your neighborhood.
You must also supply the IRS with proof, such as a deed or other ownership information, that shows you own the damaged property and are legally responsible for it. Another requirement is proving your tax basis in the property. The basis is the amount you paid for the property plus the cost of improvements, less depreciation. Also keep in mind that before you take your deduction, you must reduce the amount of your loss by any insurance proceeds you receive.
Be sure to show proof of the value of the property before and after the loss so you can show the amount of loss the property's value suffered. To fulfill this requirement, you may have to have an appraisal done. You'll want to get it in writing, usually in the form of an estimate.
If you repair or replace the damaged property, the IRS generally allows you to prove the value with receipts that show the cost of replacement or repairs. If your computer operation suffers losses, for example, be sure to keep track of the repair or reconstruction costs involved in getting your computers back up and running.
On a positive note, Congress also recently changed the rules regarding appraisals required to establish a disaster loss. The IRS may now accept an appraisal used to secure a loan or a loan guarantee from the federal government to establish the disaster loss for tax purposes, says Luscombe. This change makes it easier to establish the value of your property both before and after the damage, he says.
Remember, if your casualty loss deduction is more than your income for the year, you may have a net operating loss. You can use that loss to lower your taxes for an earlier year, allowing you to get a refund for taxes you already paid. The IRS will also allow you to lower your tax bill in a later year.
Effective for losses taking place this year or later, Congress changed the carry-back period for most net operating losses from three years to two years and the carry-forward period from 15 years to 20 years. But the carry-back period for net operating losses caused by damage to the physical premises or theft remains three years.
While no one ever expects to suffer a business loss due to a natural disaster, if the unthinkable happens, don't get caught not knowing what you're entitled to, especially when it comes to tax deductions.