18.5 Bank Deposit Losses

If a bank or other financial institution in which you deposit funds fails and your loss is not covered by insurance, generally you may claim your loss either as a bad debt deduction or casualty loss. Alternatively, if none of the deposits were federally insured, an investment loss may be claimed. A casualty loss deduction may not be claimed for lost deposits in foreign financial institutions that are not organized and supervised under federal or state law. Neither the casualty loss nor the investment loss option is available to stockholders of the bank with more than a 1% interest, officers of the bank, or relatives of shareholders or officers.

Bad debt.

You may claim a bad debt deduction for a loss of a bank deposit in the year there is no reasonable prospect of recovery from the insolvent or bankrupt bank. You claim the loss as a short-term capital loss on Schedule D (Form 1040) unless the deposit was made in your business. A nonbusiness bad debt deduction is deductible from capital gains. If you do not have capital gains or the bad debt loss exceeds capital gains, only $3,000 of the loss may offset other income. The remaining loss is carried over. A lost deposit of business funds is claimed as a business bad debt (5.33).

Casualty loss.

You may elect to take a casualty loss deduction for the year in which the loss can be reasonably estimated. A loss of personal funds is subject to the $100/10% AGI floors for personal-use property losses (18.12). Once the casualty loss election is made, it is irrevocable and will apply to all other losses on deposits in the same financial institution.

The casualty loss election may allow you to claim the loss in an earlier year because you do not have to wait until the year there is no prospect of recovery as required in the case of bad debts. The casualty loss election may also be advisable if other casualty losses may absorb all or part of the 10% AGI floor.

Investment loss.

If none of your deposits were federally insured and you reasonably estimate that you will not recover the funds, up to $20,000 ($10,000 if married filing separately) may be claimed on Schedule A (Form 1040) as an investment loss subject to the 2% adjusted gross income floor for miscellaneous itemized deductions (19.1). The $20,000 limit (or $10,000) applies to total losses from any one financial institution, regardless of the number of accounts you have. A separate $20,000 deduction limit applies to each financial institution. The $20,000 (or $10,000) limit is reduced by any insurance proceeds authorized by state law that you reasonably expect to receive. If you claimed a bad debt deduction for a lost deposit in a prior year and you qualify for the investment loss, you may file an amended return to claim the investment loss if the statute of limitations has not passed.

Filing Tip

Lost Bank Deposit

If you have other miscellaneous deductions that exceed 2% of adjusted gross income, claiming investment loss treatment may be preferable to treating the loss as a casualty subject to the 10% floor or a bad debt subject to the $3,000 limit. However, investment loss treatment is not advisible if you are subject to alternative minimum tax (AMT), as miscellaneous deductions are not allowed for AMT purposes (23.2).

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Reasonable estimate of casualty or investment loss.

Generally, the trustees of the troubled bank will provide depositors with an estimate of the expected recovery and loss. In the year of that determination, you may claim the estimated loss deduction. If you deduct an estimated loss that is less than you are entitled to, you may claim the additional loss in the year of the final determination as a bad debt. If you deduct more than the actual loss, the excess loss must be reported as income in the year of the final determination. Failure to claim the loss in the year in which the loss can first be reasonably estimated does not bar a deduction in a later year.

For any particular year, only one election may be made for losses in the same bank. If you elect the up-to-$20,000 investment loss for losses in one bank and your loss exceeds the limit, the balance may not be claimed as a casualty deduction. Similarly, if you elect casualty loss treatment, the amount that is not deductible because of the $100 and 10% of adjusted gross income floors (18.12) is not deductible under the $20,000 investment loss rule.