Floods and Taxes
Since we last visited IowaBiz, Iowa has had some interesting weather. From the Birdland Neighborhood to the Mississippi, Iowa businesses were pounded by floods and storms. Now the insurance adjusters are starting to write checks. What does it mean to your taxes?
Let's say the building housing
your business was wiped out. You paid $200,000 for the building long
ago. After depreciation, the building basis was only $50,000. The
building had gone up in value and was insured for $1,000,000, and the
insurance company is writing you a check for the whole amount.
The tax law typically treats a business casualty loss as an "involuntary conversion." The tax law defaults to treating insurance proceeds as taxable, but you may avoid current tax if you invest the insurance proceeds in replacement property by the end of the second year following the year the recovery is paid. This works only if you reinvest the insurance proceeds in property "similar or related in service or use," and only if you file an election under Sec. 1033.
What does "similar or related in service or use" mean? Unfortunately, the tax law is fuzzy on this. If you invest the proceeds in continuing the same business that you were in before, that should be fine. If you decide to invest in a different line of business, that can be trouble.
Fortunately, the requirements for tax deferral are easier for businesses in a presidentially-declared disaster area. Most of Iowa is covered by such a declaration for the recent floods and storms. Disaster-area taxpayers only need to re-invest insurance proceeds in tangible property to be used in any trade or business, under a special rule (Sec. 1033(h)(2)).
The catch? To the extent you avoid recognizing gain under the Sec. 1033 involuntary conversion rules, you don't get basis for the property purchased with the insurance proceeds. The taxpayer who used $1,000,000 in proceeds to buy a building and equipment, and who elected not to pay tax on the proceeds, would only get to depreciate the $50,000 basis that was in the old building.
If you are affected by a disaster, there are other important tax steps you can take, including deducting disaster losses on an amended 2007 return - allowing you to get a tax refund that can help you rebuild. Be sure to get in touch with your tax advisor.
Links:
IRS Publication 547, Casualties, Disasters and Thefts
IRS 2007 Disaster Losses Kit for Businesses.
List of Iowa's Presidentially-declared disaster areas.
Thanks to the Des Moines Business Record for picking up the sponsorship of IowaBiz!
Comments