Rental Property Destroyed - Isurance Company Paying Lost Rent

[JohnH]

A friend (not a client) lost a rental property to fire in January, 2017. Since then, they have been engaged in clearing the property & preparing to rebuild, all the while negotiating with their insurance company over the settlement. The replacement building has not yet been constructed. The land clearing/demolition costs were paid by the insurance company, minus a $1,000 deductible. I think the $1,000 out of pocket must be added to the cost basis in the land.

In the meantime, the insurance company has been sending a monthly check for replacement of lost rental income. The friend stopped the depreciation as of the date of the fire and has simply been reporting the rental income on schedule E with no deductions other than property taxes and a couple of other ongoing expenses. I've never dealt with a situation like this but I assume that is the correct treatment of the income replacement proceeds from the policy.

Once they have reached a settlement with the insurance company, I assume that's when they will report the net casualty loss (or gain), depending upon the facts. Can anyone suggest whether there is any other action they should take in the interim? The friend said one suggestion they had received from another accountant was to report the casualty loss in 2017 using estimates of the final settlement, but I just don't buy that. Anyone have any thoughts on this?

[JohnH]

Well, looks like I was wrong and the advice the friend received was correct. I should have done some more digging before posting. It now appears that the casualty must be reported on the 2017 return, using best estimates of the final settlement. Then after the final settlement is received, the 2017 return must be amended if there is a change in the loss, but if there is a gain it can be reported on the current year return. So it seems the most prudent thing to do is to net out the loss on the 2017 return with anticipated insurance proceeds and then wait to see what happens.