Insurance Claim Proceeds

[Hoosier]

Farmer's roof sustains hail damage. Insurance company sends claim check. He pockets the funds and does not repair the roof. Taxable income?

[Gretel]

Sure it is.

[Koss]

Casualty Loss

Great question!

Whether he actually repaired the damage is irrelevant.

Complete Form 4864 for a casualty loss and you'll see why.

Whether he has a gain or loss is determined by a simple formula.

FMV of the property before the loss - FMV of the property after the loss = casualty loss

Then, if the casualty loss is greater than the insurance reimbursement--

casualty loss - insurance reimbursement = deductible loss (subject to limitations)

If the casualty loss is less than the insurance reimbursement--

insurance reimbursement - casualty loss = taxable gain

What he did with the insurance money has no impact on any of this.

This is one case where the tax law actually makes sense.

BMK

[Gretel]

Interesting. I implied that if repairs are not needed than there is hardly a change in the FMV. How does one determine this anyway?

[Lion]

Appraisals

Appraisals.

[Koss]

Fmv

Gretel--

You're asking an interesting question, but I think your reasoning is flawed.

Just because the guy didn't have the damage repaired doesn't mean that repairs are not needed, and it doesn't mean there was no change in the FMV.

In more serious cases, such as a building that is partially or completely destroyed by fire, the owner may choose to pocket the insurance proceeds and sell the property, without repairing or rebuilding.

In this case, it is a reasonable inference that the guy was able to continue using the property without repairing the damage. But that still doesn't mean there was no drop in the FMV.

The insurance company would not have paid the claim if there was no damage, or if there was no need for repairs.

How do you determine the FMV before and after the loss?

Good luck. In cases that involve substantial amounts of money, you need a qualified appraiser.

In this particular case, if the insurance proceeds were only a couple thousand dollars...

it might be reasonable to infer that the amount paid by the insurance company was equal to the difference in FMV before and after the loss, so that there is no gain or loss for the taxpayer.

If the damage was relatively minor, then the difference in FMV is what it would cost to put the property back into the condition it was in before the loss. That's the same as the cost of the repairs (which were never done). But the insurance company must have had some reasonable method of determining what the repairs would cost...

It may just be a zero-sum transaction.

BMK

[Gretel]

Burton, I totally agree with you and had most of the thoughts myself.

In my mind I reviewed instances from a client of mine who owes several huge apartment complexes and had hail damage on almost every single one of them. The ones he did not repair had such minor damages that (even though just because of the size no minor dollar amount) that it seems unreasonable to me to argue for a drop in FMV.

If insurance proceeds are always a safe harbor for judging drop in FMV then I certainly am learning something new. I will do more research on this and also talk the person who actually did the tax returns for this client.

Only for the properties he did repair would an appraisal be justifiable from the costs stand point.

Certainly I did not take into account that a taxpayer can live with a real damaged building for whatever reason. Thank you for pointing this out. This board really is so helpful in getting a wide horizon for all kind of things.