While your plans today may include shopping online for gifts under the tree, you may be buying drywall or a furnace to restore your home because of the flood. If you keep good records and your tax preparer informed, you could be looking at a big refund come next April. Today we will consider a significant flood loss and in the next column we’ll look at how you can use this loss to your tax advantage.
Just two years ago you completed an extensive finish of your basement complete with a home theater and a guest bedroom and bathroom suite. You also installed an energy efficient tankless water heater and new furnace during that renovation. You began the renovation right after you put your last child through college, so you splurged and spent $105,000 using cash and a loan.
Although your house is not in a flood plain, that didn’t keep your basement from being inundated – twice. Your sump pump failed because of a power outage. Once the raining stopped, you did your best to find available “remediation specialists” because you had seven feet of water in your formerly gorgeous basement. You ended up paying $85 an hour for labor to get your basement down to the studs with a total bill of $10,000.
Now your basement is finally dry enough to begin contemplating finishing it again. With changes in your landscaping and a battery backup to your sump pump, you think you could withstand another 1,000 year rain. Reputable contractors have come in with an average bid of around $120,000 to finish the basement. Of course this includes some changes and enhancements from the original finish that you now want to make.
Your insurance company sweetly yet firmly informed you that your homeowners insurance is not flood insurance and so you were not covered for the loss, but it was determined your coverage has a rider for sump pump failure and that will pay $5,000. You also applied to FEMA for assistance, and qualified for a $5,000 payment.
Let’s consider some other facts. You paid $550,000 for the house in 2003 and the only improvements you made were $20,000 for landscaping and the $105,000 basement renovation. Your house was appraised because of a refinance about 6 months before the flood for $780,000. An appraiser came up with a value of $650,000 after the flood considering the destroyed landscaping and the basement torn down the studs. You documented all of the personal items in your basement, such as the mattress, furniture, and TV and determined it will cost $30,000 to replace them (which is close to their cost).
What does all this mean for your taxes? First we need to figure out the loss, which is the lesser of its decrease in fair market value or your basis in the property damaged. The house including landscaping decreased in value $130,000 plus you spent $10,000 for the basement remediation and $30,000 for the personal items. For tax purposes, you have a $170,000 loss less than $10,000 in reimbursements. Your adjusted gross income this year will be $140,000 as a family, so you can deduct $160,000 less $100 (strange wrinkle in the tax code) less 10 percent of your AGI ($14,000) for a total of $145,900. This goes on schedule A as an itemized deduction on your federal tax filing.
It now appears that this casualty will throw you into negative income for 2013. Professional tax preparers never want a low or negative income year go to waste, and in the next column we’ll talk about what steps you can take to use your unusually low taxable income this year.