Table of Contents
This chapter explains the tax treatment of casualties, thefts, and condemnations. A casualty occurs when property is damaged, destroyed, or lost due to a sudden, unexpected, or unusual event. A theft occurs when property is stolen. A condemnation occurs when private property is legally taken for public use without the owner's consent. A casualty, theft, or condemnation may result in a deductible loss or taxable gain on your federal income tax return. You may have a deductible loss or a taxable gain even if only a portion of your property was affected by a casualty, theft, or condemnation.
An involuntary conversion occurs when you receive money or other property as reimbursement for a casualty, theft, condemnation, disposition of property under threat of condemnation, or certain other events discussed in this chapter.
If an involuntary conversion results in a gain and you buy qualified replacement property within the specified replacement period, you can postpone reporting the gain on your income tax return. For more information, see Postponing Gain , later.
-
Casualties and thefts
-
How to figure a loss or gain
-
Other involuntary conversions
-
Postponing gain
-
Disaster area losses
-
Reporting gains and losses
-
Drought involving property connected with a trade or business or a transaction entered into for profit
Publication
-
523 Selling Your Home
-
525 Taxable and Nontaxable Income
-
536 Net Operating Losses (NOLs) for Individuals, Estates, and Trusts
-
544 Sales and Other Dispositions of Assets
-
547 Casualties, Disasters, and Thefts
-
584 Casualty, Disaster, and Theft Loss Workbook (Personal-Use Property)
-
584-B Business Casualty, Disaster, and Theft Loss Workbook
Form (and Instructions)
-
Sch A (Form 1040) Itemized
Deductions -
Sch D (Form 1040) Capital Gains and Losses
-
Sch F (Form 1040) Profit or Loss From Farming
-
4684 Casualties and Thefts
-
4797 Sales of Business Property
See chapter 16 for information about getting publications and forms.
If your property is destroyed, damaged, or stolen, you may have a deductible loss. If the insurance or other reimbursement is more than the adjusted basis of the destroyed, damaged, or stolen property, you may have a taxable gain.
-
Airplane crashes.
-
Car, truck, or farm equipment accidents not resulting from your willful act or willful negligence.
-
Earthquakes.
-
Fires (but see Nondeductible losses next for exceptions).
-
Floods.
-
Freezing.
-
Government-ordered demolition or relocation of a home that is unsafe to use because of a disaster as discussed under Disaster Area Losses, in Publication 547.
-
Lightning.
-
Storms, including hurricanes and tornadoes.
-
Accidentally breaking articles such as glassware or china under normal conditions.
-
A family pet (explained below).
-
A fire if you willfully set it, or pay someone else to set it.
-
A car, truck, or farm equipment accident if your willful negligence or willful act caused it. The same is true if the willful act or willful negligence of someone acting for you caused the accident.
-
Progressive deterioration (explained below).
-
Blackmail,
-
Burglary,
-
Embezzlement,
-
Extortion.
-
Kidnapping for ransom,
-
Larceny,
-
Robbery, or
-
Threats.
You can deduct certain casualty or theft losses that occur in the business of farming. The following is a discussion of some losses you can deduct and some you cannot deduct.
Example.
A severe flood destroyed your crops. Because you are a cash method taxpayer and already deducted the cost of raising the crops as farm expenses, this loss is not deductible, as explained above under Livestock, plants, produce, and crops raised for sale . You estimate that the crop loss will reduce your farm income by $25,000. This loss of future income is also not deductible.
-
You use inventories to determine your income and you included the animals in your inventory.
-
You capitalized the expenses associated with the animals under the uniform capitalization rules and therefore have a tax basis in the animals subject to a casualty or theft.
How you figure a deductible casualty or theft loss depends on whether the loss was to farm or personal-use property and whether the property was stolen or partly or completely destroyed.
Your adjusted basis in the property | ||
MINUS | ||
Any salvage value | ||
MINUS | ||
Any insurance or other reimbursement you receive or expect to receive |
-
Your main home.
-
Furniture and electronics used in your main home and not used in a home office or for business purposes.
-
Clothing and jewelry.
-
An automobile used for nonbusiness purposes.
-
Determine your adjusted basis in the property before the casualty or theft.
-
Determine the decrease in fair market value of the property as a result of the casualty or theft.
-
From the smaller of the amounts you determined in (1) and (2), subtract any insurance or other reimbursement you receive or expect to receive.
-
The repairs are actually made.
-
The repairs are necessary to bring the property back to its condition before the casualty.
-
The amount spent for repairs is not excessive.
-
The repairs fix the damage only.
-
The value of the property after the repairs is not, due to the repairs, more than the value of the property before the casualty.
Example.
A fire on your farm damaged a tractor and the barn in which it was stored. The tractor had an adjusted basis of $3,300. Its FMV was $28,000 just before the fire and $10,000 immediately afterward. The barn had an adjusted basis of $28,000. Its FMV was $55,000 just before the fire and $25,000 immediately afterward. You received insurance reimbursements of $2,100 on the tractor and $26,000 on the barn. Figure your deductible casualty loss separately for the two items of property.
Tractor | Barn | ||
1) | Adjusted basis | $3,300 | $28,000 |
2) | FMV before fire | $28,000 | $55,000 |
3) | FMV after fire | 10,000 | 25,000 |
4) | Decrease in FMV (line 2 − line 3) |
$18,000 | $30,000 |
5) | Loss (lesser of line 1 or line 4) | $3,300 | $28,000 |
6) | Minus: Insurance | 2,100 | 26,000 |
7) | Deductible casualty loss | $1,200 | $2,000 |
8) | Total deductible casualty loss | $3,200 |
-
The decrease in FMV of the entire property.
-
The adjusted basis of the entire property.
Example.
You bought a farm in 1960 for $20,000. The adjusted basis of the residential part is now $16,000. In 2011, a windstorm blew down shade trees and three ornamental trees planted at a cost of $600 on the residential part. The adjusted basis of the residential part includes the $600. The fair market value (FMV) of the residential part immediately before the storm was $130,000, and $126,000 immediately after the storm. The trees were not covered by insurance.
1) | Adjusted basis | $16,000 |
2) | FMV before the storm | $130,000 |
3) | FMV after the storm | 126,000 |
4) | Decrease in FMV (line 2 − line 3) | $4,000 |
5) | Loss before insurance (lesser of line 1 or line 4) |
$4,000 |
6) | Minus: Insurance | -0- |
7) | Amount of loss | $4,000 |
If the total of all the reimbursements you receive is more than your adjusted basis in the destroyed or stolen property, you will have a gain on the casualty or theft. See Publication 547 for information on how to treat a gain from the reimbursement you receive because of a casualty or theft.
Example.
You built a new silo for $25,000. This is the basis in your silo because that is the total cost you incurred to build it. During the year, a tornado damaged your silo and your allowable casualty loss deduction was $1,000. In addition, your insurance company reimbursed you $4,000 for the damage and you spent $6,000 to restore the silo to its pre-casualty condition. Your adjusted basis in the silo after the casualty is $26,000 ($25,000 - $1,000 - $4,000 + $6,000).
Casualty and theft losses of property held for personal use may be deductible if you itemize deductions on Schedule A (Form 1040).
There are two limits on the deduction for casualty or theft loss of personal-use property. You figure these limits on Form 4684.
Example.
In June, you discovered that your house had been burglarized. Your loss after insurance reimbursement was $2,000. Your adjusted gross income for the year you discovered the burglary is $57,000. Figure your theft loss deduction as follows:
1. | Loss after insurance | $2,000 |
2. | Subtract $100 | 100 |
3. | Loss after $100 rule | $1,900 |
4. | Subtract 10% (.10) × $57,000 AGI | $5,700 |
5. | Theft loss deduction | -0- |
You do not have a theft loss deduction because your loss ($1,900) is less than 10% of your adjusted gross income ($5,700).
Generally, you can deduct casualty losses that are not reimbursable only in the tax year in which they occur. You generally can deduct theft losses that are not reimbursable only in the year you discover your property was stolen. However, losses in federally declared disaster areas are subject to different rules. See Disaster Area Losses , later, for an exception.
If you are not sure whether part of your casualty or theft loss will be reimbursed, do not deduct that part until the tax year when you become reasonably certain that it will not be reimbursed.
Example.
Robert leased a tractor from First Implement, Inc., for use in his farm business. The tractor was destroyed by a tornado in June 2011. The loss was not insured. First Implement billed Robert for the fair market value of the tractor on the date of the loss. Robert disagreed with the bill and refused to pay it. First Implement later filed suit in court against Robert. In 2012, Robert and First Implement agreed to settle the suit for $20,000, and the court entered a judgment in favor of First Implement. Robert paid $20,000 in June 2012. He can claim the $20,000 as a loss on his 2012 tax return.
To deduct a casualty or theft loss, you must be able to prove that there was a casualty or theft. You must have records to support the amount you claim for the loss.
-
The type of casualty (car accident, fire, storm, etc.) and when it occurred.
-
That the loss was a direct result of the casualty.
-
That you were the owner of the property or, if you leased the property from someone else, that you were contractually liable to the owner for the damage.
-
Whether a claim for reimbursement exists for which there is a reasonable expectation of recovery.
-
When you discovered your property was missing.
-
That your property was stolen.
-
That you were the owner of the property.
-
Whether a claim for reimbursement exists for which there is a reasonable expectation of recovery.
A casualty or theft may result in a taxable gain. If you receive an insurance payment or other reimbursement that is more than your adjusted basis in the destroyed, damaged, or stolen property, you have a gain from the casualty or theft. You generally report your gain as income in the year you receive the reimbursement. However, depending on the type of property you receive, you may not have to report your gain. See Postponing Gain , later.
Your gain is figured as follows:
-
The amount you receive, minus
-
Your adjusted basis in the property at the time of the casualty or theft.
Even if the decrease in FMV of your property is smaller than the adjusted basis of your property, use your adjusted basis to figure the gain.
Example.
A tornado severely damaged your barn. The adjusted basis of the barn was $25,000. Your insurance company reimbursed you $40,000 for the damaged barn. However, you had legal expenses of $2,000 to collect that insurance. Your insurance minus your expenses to collect the insurance is more than your adjusted basis in the barn, so you have a gain.
1) | Insurance reimbursement | $40,000 |
2) | Legal expenses | 2,000 |
3) | Amount received (line 1 − line 2) |
$38,000 |
4) | Adjusted basis | 25,000 |
5) | Gain on casualty (line 3 − line 4) | $13,000 |
In addition to casualties and thefts, other events cause involuntary conversions of property. Some of these are discussed in the following paragraphs.
Gain or loss from an involuntary conversion of your property is usually recognized for tax purposes. You report the gain or deduct the loss on your tax return for the year you realize it. However, depending on the type of property you receive, you may not have to report your gain on the involuntary conversion. See Postponing Gain , later.
Condemnation is the process by which private property is legally taken for public use without the owner's consent. The property may be taken by the federal government, a state government, a political subdivision, or a private organization that has the power to legally take property. The owner receives a condemnation award (money or property) in exchange for the property taken. A condemnation is a forced sale, the owner being the seller and the condemning authority being the buyer.
The sale or other disposition of property located within an irrigation project to conform to the acreage limits of federal reclamation laws is an involuntary conversion.
chapter 8. If you replace the livestock, you may be able to postpone reporting the gain. See Postponing Gain below.
Example.
It is your usual business practice to sell five of your dairy animals during the year. This year you sold 20 dairy animals because of drought. The sale of 15 animals is treated as an involuntary conversion.
If, because of an abnormal drought, the failure of planted tree seedlings is greater than normally anticipated, you may have a deductible loss. Treat the loss as a loss from an involuntary conversion. The loss equals the previously capitalized reforestation costs you had to duplicate on replanting. You deduct the loss on the return for the year the seedlings died.
Do not report a gain if you receive reimbursement in the form of property similar or related in service or use to the destroyed, stolen, or other involuntarily converted property. Your basis in the new property is generally the same as your adjusted basis in the property it replaces.
You must ordinarily report the gain on your stolen, destroyed, or other involuntarily converted property if you receive money or unlike property as reimbursement. However, you can choose to postpone reporting the gain if you purchase replacement property similar or related in service or use to your destroyed, stolen, or other involuntarily converted property within a specific replacement period.
If you have a gain on damaged property, you can postpone reporting the gain if you spend the reimbursement to restore the property.
To postpone reporting all the gain, the cost of your replacement property must be at least as much as the reimbursement you receive. If the cost of the replacement property is less than the reimbursement, you must include the gain in your income up to the amount of the unspent reimbursement.
Example 1.
In 1985, you constructed a barn to store farm equipment at a cost of $20,000. In 1987, you added a silo to the barn at a cost of $15,000 to store grain. In May of this year, the property was worth $100,000. In June the barn and silo were destroyed by a tornado. At the time of the tornado, you had an adjusted basis of $0 in the property. You received $85,000 from the insurance company. You had a gain of $85,000 ($85,000 – $0).
You spent $80,000 to rebuild the barn and silo. Since this is less than the insurance proceeds received, you must include $5,000 ($85,000 – $80,000) in your income.
Example 2.
In 1970, you bought a cabin in the mountains for your personal use at a cost of $18,000. You made no further improvements or additions to it. When a storm destroyed the cabin this January, the cabin was worth $250,000. You received $146,000 from the insurance company in March. You had a gain of $128,000 ($146,000 − $18,000).
You spent $144,000 to rebuild the cabin. Since this is less than the insurance proceeds received, you must include $2,000 ($146,000 − $144,000) in your income.
-
C corporations.
-
Partnerships in which more than 50% of the capital or profits interest is owned by C corporations.
-
Individuals, partnerships (other than those in (2) above), and S corporations if the total realized gain for the tax year on all involuntarily converted properties on which there are realized gains is more than $100,000.
You must buy replacement property for the specific purpose of replacing your property. Your replacement property must be similar or related in service or use to the property it replaces. You do not have to use the same funds you receive as reimbursement for your old property to acquire the replacement property. If you spend the money you receive for other purposes, and borrow money to buy replacement property, you can still choose to postpone reporting the gain if you meet the other requirements. Property you acquire by gift or inheritance does not qualify as replacement property.
Example.
Each year you normally sell 25 cows from your beef herd. However, this year you had to sell 50 cows. This is because a severe drought significantly reduced the amount of hay and pasture yield needed to feed your herd for the rest of the year. Because it is not practical for you to use the proceeds from selling the extra cows to buy new cows, you can treat other property (excluding real property) used for farming purposes, as property similar or related in service or use to the cows you sold.
To postpone reporting your gain, you must buy replacement property within a specified period of time. This is the replacement period.
The replacement period begins on the date your property was damaged, destroyed, stolen, sold, or exchanged. The replacement period generally ends 2 years after the close of the first tax year in which you realize any part of your gain from the involuntary conversion.
Example.
You are a calendar year taxpayer. While you were on vacation, farm equipment that cost $2,200 was stolen from your farm. You discovered the theft when you returned to your farm on November 11, 2010. Your insurance company investigated the theft and did not settle your claim until January 5, 2011, when they paid you $3,000. You first realized a gain from the reimbursement for the theft during 2011, so you have until December 31, 2013, to replace the property.
www.irs.gov/irb/2011-41_IRB/ar12.html.
-
The date on which you disposed of the condemned property.
-
The date on which the threat of condemnation began.
You postpone reporting your gain by reporting your choice on your tax return for the year you have the gain. You have the gain in the year you receive insurance proceeds or other reimbursements that result in a gain.
-
The date and details of the casualty, theft, or other involuntary conversion.
-
The insurance or other reimbursement you received.
-
How you figured the gain.
-
The replacement property.
-
The postponed gain.
-
The basis adjustment that reflects the postponed gain.
-
Any gain you are reporting as income.
-
Evidence of the weather-related conditions that forced the sale or exchange of the livestock.
-
The gain realized on the sale or exchange.
-
The number and kind of livestock sold or exchanged.
-
The number of livestock of each kind you would have sold or exchanged under your usual business practice.
-
The dates you bought the replacement property.
-
The cost of the replacement property.
-
Description of the replacement property (for example, the number and kind of the replacement livestock).
-
You do not acquire replacement property within the replacement period, plus extensions. On this amended return, you must report the gain and pay any additional tax due.
-
You acquire replacement property within the required replacement period, plus extensions, but at a cost less than the amount you receive from the casualty, theft, or other involuntary conversion. On this amended return, you must report the part of the gain that cannot be postponed and pay any additional tax due.
Special rules apply to federally declared disaster area losses. A federally declared disaster is a disaster that occurred in an area declared by the President to be eligible for federal assistance under the Robert T. Stafford Disaster Relief and Emergency Assistance Act. It includes a major disaster or emergency declaration under the act.
A list of the areas warranting public or individual assistance (or both) under the Act is available at the Federal Emergency Management Agency (FEMA) web site at www.fema.gov.
This part discusses the special rules for when to deduct a disaster area loss and what tax deadlines may be postponed. For other special rules, see Publication 547.
-
The due date (without extensions) for filing your tax return for the tax year in which the disaster actually occurred.
-
The due date (with extensions) for the return for the preceding tax year.
-
Reasonable and necessary personal, family, living, or funeral expenses incurred as a result of a federally declared disaster.
-
Reasonable and necessary expenses incurred for the repair or rehabilitation of a personal residence due to a federally declared disaster. (A personal residence can be a rented residence or one you own.)
-
Reasonable and necessary expenses incurred for the repair or replacement of the contents of a personal residence due to a federally declared disaster.
-
Payments for expenses otherwise paid for by insurance or other reimbursements, or
-
Income replacement payments, such as payments of lost wages, lost business income, or unemployment compensation.
-
Any individual whose main home is located in a covered disaster area (defined next).
-
Any business entity or sole proprietor whose principal place of business is located in a covered disaster area.
-
Any individual who is a relief worker affiliated with a recognized government or philanthropic organization and who is assisting in a covered disaster area.
-
Any individual, business entity, or sole proprietorship whose records are needed to meet a postponed tax deadline, provided those records are maintained in a covered disaster area. The main home or principal place of business does not have to be located in the covered disaster area.
-
Any estate or trust that has tax records necessary to meet a postponed tax deadline, provided those records are maintained in a covered disaster area.
-
The spouse on a joint return with a taxpayer who is eligible for postponements.
-
Any individual, business entity, or sole proprietorship not located in a covered disaster area, but whose necessary records to meet a postponed tax deadline are located in the covered disaster area.
-
Any individual visiting the covered disaster area who was killed or injured as a result of the disaster.
-
Any other person determined by the IRS to be affected by a federally declared disaster.
You will have to file one or more of the following forms to report your gains or losses from involuntary conversions.
-
Net gain shown on Form 4797 from an involuntary conversion of business property held for more than 1 year.
-
Net gain shown on Form 4684 from the casualty or theft of personal-use property.
More Online Publications |