Academic journal article Journal of Accountancy

Involuntary Conversions for Disaster Relief

Academic journal article Journal of Accountancy

Involuntary Conversions for Disaster Relief

Article excerpt

The Revenue Reconciliation Act of 1993 sought to reduce the tax liability of individuals who receive insurance proceeds for homes and contents destroyed in presidentially declared disaster areas by expanding the involuntary conversion treatment to include principal residences. Internal Revenue Code section 1033(h), retroactive to September 1, 1991, says any insurance received for a damaged house or its scheduled personal property (separately insured) will be treated as a common pool of funds. If this pool is used to purchase property similar to the converted residence or its contents, the taxpayer may elect to postpone any taxable gains. However, if the pool amount exceeds the cost of the replacement property, the excess may result in a current taxable gain. The taxpayer does not have to recognize gain for any insurance proceeds for unscheduled (not separately insured) personal property that was part of the contents of the home, no matter how the taxpayer spends the money.

In revenue ruling 95-22, the Internal Revenue Service gave an example of how a taxpayer must reinvest any insurance proceeds to defer recognition of gain under section 1033: In 1992, a taxpayer's principal residence was destroyed in a presidentially declared disaster area. The taxpayer lost the home and all of its contents, including furniture, appliances, clothing and various other items.

At the time of the disaster, the taxpayer had a basis of $250,000 in the residence, $5,000 in jewelry and $2,000 in sterling silverware. For insurance purposes, the jewelry and silverware were scheduled separately. The taxpayer did not have records to establish the original cost basis of the rest of these items and the general household furnishings were not separately scheduled. …

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