Did you have to file a pretty big insurance claim this year? Like losing a house from a tornado, hurricane or giant tentacle monster attack? A reimbursement from your insurance company might result in taxable income, but there are special rules to help your situation.
So, here’s where you might owe money on a reimbursement from your insurance company. You have something called “adjusted basis,” which is what you paid originally for the property adjusted by depreciation or capital expenditures. If your reimbursement from the insurance company is more than your adjusted basis, you may owe money on that difference. That’s called an “involuntary conversion gain.”
The damage to your home was casualty, so an accountant or insurance adjuster would refer to this situation as a “casualty gain” and that’s where the title of the post comes from.
The law looks at that “involuntary conversion gain” as a sale, even though it’s involuntary, and even if the property is your home.
The law allows you to basically postpone paying the tax if you are going to plan to replace whatever was damaged, as long as you do it within two years (and you might be able to request an extra year too). If you’re in a location that was declared a federal disaster area, you have up to four years to replace.
As usual, these tax situations can be hard to gauge, and people with complex questions can benefit from the experience and insight of a professional accountant that can help you with these things.