Investing: How to get catastrophe tax deduction

John Waggoner, USA TODAY

Henry Studdy and Mimi Gloria try to salvage some of her artwork after Sandy

Need to be able to itemize deductions to take catastrophe deductions
Deduction limited to amount over 10% of adjusted gross income
You can amend your 2011 return to get money faster

Thanks to Superstorm Sandy, you've got cod in your basement, your roof is in your neighbor's backyard, and your car's stuck in the mud somewhere in the swamps of Jersey.

You lucky person! You might get a tax break. But it's not a generous one, and it takes a fair amount of work to get it.

The tax code allows you to deduct a catastrophic loss (or theft) from your income. What's a catastrophe? The IRS defines it as "damage, destruction, or loss of property resulting from an identifiable event that is sudden, unexpected, or unusual."

In most cases, catastrophe is pretty self-evident: storm or fire damage to your home or property. If your house was in Sandy's path, you probably qualify for a catastrophe deduction. If you live in Arizona and your house burned down because you were juggling flaming batons in the living room, you probably won't be able to deduct your catastrophe.

Even if you do have a catastrophe, you won't be able to use the deduction if you don't itemize your deductions. And even if you can itemize, you may not get a large deduction. The catastrophic loss deduction is limited to amounts above 10% of your adjusted gross income -- the amount on line 37 of your 1040 form. Adjusted gross income is your total income, minus exemptions and certain adjustments, such as traditional IRA contributions and student loan interest.

Let's say you have adjusted gross income of $100,000. Your deduction for a catastrophic loss would have to be more than $10,100. Why the extra $100? Because that's the way Congress wrote the law: The first $100 doesn't count. Go figure.

But wait! It's even worse than that. You also have to subtract any insurance reimbursement you received. So let's revisit your case.

Let's say that your home was worth $250,000, and it's completely destroyed. The insurance company pays you $235,000 to rebuild the house, so you're $15,000 out of pocket. You subtract $10,000 -- 10% of your $100,000 adjusted gross income -- and the extra $100. After taking $10,100 from $15,000, you have a $4,900 deduction.

Before you get too giddy, remember that this is not a tax credit, which reduces your taxes dollar-for-dollar. It's a deduction, which reduces your taxable income, which, in turn, reduces your taxes. If you're in the 25% tax bracket, for example, a $4,900 deduction would reduce your taxes by $1,225.

Naturally, the deduction is more lucrative if you have no insurance -- or if insurance refuses to pay. For example, if you woke up with the wreck of the Andrea Doria in your living room, you probably had flood damage to your home. Traditional homeowners insurance won't pay for flood damage: You need flood insurance for that.

One bonus: If you're in a federally declared disaster area, you can amend your 2011 return to get the deduction more quickly. Many areas of New York, Connecticut and New Jersey have been declared major disaster areas. Find out if you're in one at www.fema.gov.

It's important to document any claims you make. If your home is wiped out, it's likely many of your records are as well -- in which case, you'll have to reconstruct records of your home's value. One place to start would be with comparable home values from a database such as Zillow.com.

If you're dealing with a particularly large disaster claim, you might consider getting an appraisal of your home's pre- and post-disaster value from a qualified professional. If the IRS challenges your loss, you'll have convincing proof on your side.

One small silver lining: If you're in a disaster and are reimbursed for living expenses in excess of your actual costs, the remaining amount isn't considered income for tax purposes, says Karl Fava of Business Financial Consultants in Dearborn, Mich.

There's nothing at all good about losing your home, or part of your home, to a catastrophe. Dealing with insurance and the IRS is a bit like having a hangover and a migraine at the same time. But with some diligence, you can recoup some of what you've lost.

Where to get more information:

* Internal Revenue Service (irs.gov):

Publication 2194: Disaster resource guide for individuals and businesses

Publication 584: Casualty, Disaster, and Theft Loss Workbook

Publication 584-B: Business Casualty, Disaster, and Theft Loss Workbook

* Federal Emergency Management Agency (fema.gov).

Find out whether your area is a federal disaster area.

Find out how to apply for assistance.

* Insurance Information Institute (iii.org):

Settling Insurance Claims after a Disaster

Tax Deductions for Unreimbursed Losses

What types of disasters are covered by homeowners insurance