Q: When may I elect the provisions of Internal Revenue Code Section 165(i) which allows me to deduct disaster related losses in the prior year?
A: Taxpayers who sustain losses attributable to a disaster occurring in an area subsequently declared by the President of the United States to be a federally declared disaster area that warrants assistance by the federal government under the Robert T. Stafford Disaster Relief and Emergency Assistance Act may elect Section 165(i) treatment. For purposes of 165(i), a disaster includes an event declared by the President as a major disaster or emergency.
Q: How long does it take for the IRS to process amended returns filed by disaster victims making a § 165(i) election?
A: The IRS expedites processing of amended returns notated with the appropriate disaster information, on the top of page one of Form 1040X, i.e. “Midwestern Disaster Area." The timeframe is generally 60 days.
Q: A taxpayer affected by a disaster timely filed a federal income tax return for the taxable year the disaster occurred and did not claim a casualty loss deduction on that return. May the taxpayer wait until a later year and amend the original return to claim a casualty loss deduction reduced by insurance and other reimbursements received in subsequent years?
A: A taxpayer may claim a casualty loss deduction for the first time on an amended original return as long as the amended return is timely filed. That casualty loss must be reduced by insurance and other reimbursements.
If a taxpayer properly claimed a casualty loss deduction on an original return and in a later year receives reimbursement for the loss, the taxpayer does not amend the original return but reports the amount of the reimbursement in gross income in the tax year it is received, to the extent the casualty loss deduction reduced the taxpayer’s income tax in the tax year in which the taxpayer reported the casualty loss deduction. See pages 5-7 of Publication 547, Casualties, Disasters, and Thefts, in the section entitled “Insurance and Other Reimbursements.” There is, however, an exception to the general rule that allows taxpayers affected by Hurricanes Katrina, Wilma or Rita who previously reported a hurricane-related disaster loss with respect to their main home and subsequently received a qualified hurricane relief grant as reimbursement to file an amended return for the tax year in which the casualty loss deduction was claimed. See Notice 2008-95, which provides guidelines to homeowners who received federal reimbursement grants stemming from Hurricanes Katrina, Rita or Wilma, including the Louisiana Road Home Grants and the Mississippi Development Authority Hurricane Katrina Homeowner Grants. The Notice explains how eligible taxpayers can amend prior-year returns to reduce the casualty loss deduction previously taken by the amount of the grant, and that under certain conditions taxpayers have one year to pay back any resulting tax due, penalty-free and interest-free. These amended returns must generally be filed by July 30, 2009, and the entire resulting tax due paid within one year from the timely filing of the amended return.
In computing the "tax benefit," you are advised to review Publication 525, Taxable and Nontaxable Income.