What this line means
The smaller of your cost or adjusted basis (line 2) or the decrease in fair market value (line 7). This is the starting point for your loss calculation. The IRS limits the deductible loss to the lesser of these two amounts — you cannot deduct more than what you paid for the property, and you cannot deduct more than the actual damage.
Does this apply to you?
- You are calculating a casualty or theft loss and need to determine the loss starting point
- You have both a cost basis and a fair market value decrease to compare
- You need to apply the IRS rule that limits losses to the smaller of basis or FMV decrease
Easy to overlook
For property that appreciated significantly, the loss is limited to your basis If you bought a painting for $5,000 and it appreciated to $50,000, then was destroyed in a fire, your line 7 decrease is $50,000 but your line 2 basis is $5,000. Line 8 is $5,000 — the smaller amount. You cannot deduct the appreciated value you never paid for. This surprises filers with collectibles, art, or real estate that gained substantial value. 1 IRS Publication 547 — Casualties, Disasters, and Thefts
For partial damage, the FMV decrease is usually the smaller amount When property is damaged but not destroyed, the FMV decrease (the actual damage) is typically less than your full basis. A $300,000 home with $20,000 in storm damage has a FMV decrease of $20,000, which is less than the $300,000 basis. Line 8 is $20,000. The full basis only becomes the limiting factor when the property has appreciated well beyond its cost. 2 IRS Form 4684 instructions — Line 8
Watch out for this
Skipping the comparison and always entering the FMV decrease. Line 8 requires the smaller of two numbers. If you enter the FMV decrease without checking it against your basis, you overstate the loss when the property appreciated beyond what you paid. Always compare both amounts and enter the lower one.
Footnotes
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IRS Publication 547, Casualties, Disasters, and Thefts, Figuring a Loss. https://www.irs.gov/pub/irs-pdf/p547.pdf ↩
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IRS Form 4684 Instructions, Line 8. https://www.irs.gov/instructions/i4684 ↩