Katrina victims who claim personal or business casualty losses may be entitled to large refunds on their original 2004 and 2005 returns or by filing an amended 2004 return.
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The Internal Revenue Service (IRS) announced that the recently enacted Hurricane Katrina Emergency Tax Relief Act waives the usual adjusted gross income limits and dollar-limit floors for personal casualty losses in the Katrina disaster area. Claiming a loss on an original or amended return for 2004 will provide the taxpayer with an earlier refund, but waiting to claim on a 2005 return could result in a greater tax saving, the IRS says.
If the taxpayer’s home or business was completely destroyed, the taxpayer may deduct either the cost or fair market value of the asset. If homes or businesses were damaged, the taxpayer may deduct either the diminished value or the cost to restore the asset to its former condition. Loss deductions should be reduced by insurance reimbursements, according to MarketWatch.
Like all casualty and theft losses, Hurricane Katrina losses must be claimed as an itemized deduction on Form 4684, which should be attached to the 1040X. Taxpayers may not take the standard deduction and claim a casualty loss. In order to speed refund payments, when filing an amended return, taxpayers should write “Hurricane Katrina” in red ink at the top of the form, the IRS says. Taxpayers have until April 17, 2006 to amend their 2004 returns and claim any losses incurred, according to Mark Steber, Vice President of Tax Resources and Jackson Hewitt Tax Service.
Taxpayers should first file insurance claims for both personal and business losses and then determine whether filing an amended 2004 return or claiming the deduction in 2005 yields the greatest benefit. If the business loss is big enough, MarketWatch reports, it could trigger a net operating loss (NOL) that can be used on returns going back two years. The NOL’s can also be carried forward. Because of losses, individuals who were taxed on a higher income may become eligible for child tax credits or the Earned Income Credit, according to MarketWatch.
Insurance reimbursements for the taxpayer’s primary residence are not usually taxed as income even if the insurance payment exceeds tax basis, provided the home is replaced within two years, Jackson Hewitt Tax Service reports. In the case of Hurricane Katrina, the taxpayer has four years to replace the primary residence and its contents. Jackson Hewitt recommends that taxpayers keep track of all payments they received from charitable organizations or the government. “Gifts from individuals or charities to help . . . with food, shelter and clothing are not considered taxable income. However if they are provided to replace . . . lost items, [the taxpayer] may need to adjust the allowed casualty loss.”
Steber recommends that taxpayers take an inventory of all personal belongings and property. Frequently overlooked loss claim items can include “food, wall fixtures, medication, eyeglasses, clothing, hearing aids and holiday decorations”, he says. Taxpayers should keep supporting documentation including photos and lists for all of these items whenever possible, he says. Katrina victims who may have lost everything may need to rely on state and county records for the values of their property.