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Guidance for how to handle your first casualty return

If this is your first year preparing returns for clients with casualty gain/loss, you may be a bit overwhelmed (I know we certainly were in 2017 when we had hundreds of clients lose their homes). We put together this guide to help you navigate the process. This tax situation is governed mainly by IRC 1033.

Let’s say that Chris and Pat owned a home in Santa Cruz. The home was their personal residence and had no business use. They did not make any improvements to the home. The home was destroyed in a fire in August 2020. The fire was declared a Presidential disaster.

Step 1: Determine the basis for the gain/loss Calculation.

  • C&P purchased the house for $450,000 in 2012. They made no improvements.
  • Determine the Fair Market Value of the property before the disaster and the Fair Market Value of the property after the disaster. The IRS wants appraisals for these figures. In our case, C&P had an appraisal on the property right before the fire due to a refinance. So, the FMV of the property before the fire was $700,000. The Fair Market Value of the property after the fire is $200,000 (the value of the land).
  • Next, determine the smaller of the basis in the property or the Change in Fair Market Value (in our practice over the past few years the basis has always been smaller than the change in FMV).
  • Basis: $450,000
  • Reduction in FMV: $700,000 – $200,000 = $500,000
  • The smaller of those two figures is $450,000.

Step 2: Determine the insurance reimbursement

  • The insurance company will provide a summary sheet showing the insurance proceeds by type of coverage. In our case Chris and Pat received $600,000 of insurance for the dwelling and $300,000 of insurance proceeds for contents (aka personal property). The insurance checks were received in October 2020.

Step 3: Determine the gain/loss

  • For the home the gain is $600,000 – $450,000 cost basis = $150,000 gain on the casualty. The gain is realized in 2020 because they received the check from the insurance company in 2020.
  • For the personal property, no gain is recognized for insurance proceeds for unscheduled personal property in a federally declared disaster. So, C&P get the $300k of contents insurance tax-free. (1033(h)(1)(A)(i))

Step 4: What do do with the gain?

  • C&P have a few options. Since they lived in the home as their personal residence for 2 of the past 5 years they qualify for the Sec 121 homeowner’s exclusion. So they can exclude up to $500,000 of gain.
  • Also, since the fire qualifies as a casualty they can defer paying tax on the gain if they reinvest the insurance proceeds into a new home (1033)(a)(2)). They can do this by buying a new home or rebuilding their home on their lot and using all the proceeds within the prescribed timeframes.
  • Or, if their gain had been bigger, they can use both meaning they could exclude $500k of gain using Sec 121 and then the rest of the gain can be deferred using 1033 (See our article about using both of those here.)
  • Since this was a personal residence in a Presidentially-declared disaster, the property has to be replaced within 4 years from the end of the tax year when gain was realized (1033(h)(1)(B)). C&P received the insurance check in 2020 so their gain year is 2020. They have 4 years from 12/31/2020 to replace the property.

Step 5: How to report on the tax return?

  • If you want to exclude using Sec 121 you just don’t report the gain on the tax return (unless you received a 1099-S).
  • If you want to exclude using Sec 1033 then you just don’t report the gain on the tax return, However we recommend you attach an election statement because this reminds the tax preparer that you have to be sure the taxpayer reinvests the proceeds in the appropriate timeframes to qualify for the 1033 deferral. Then once the property has been replaced, attach another statement showing the replacement property and the gain deferral calculation.

 

Zogg and Glass Fire added to Major Disaster Declaration

Wildfire survivors in three additional California counties are now eligible for federal resources and programs to help rebuild their communities and their lives. California secured the addition of Napa, Shasta and Sonoma counties to the Major Disaster Declaration approved by the Whitehouse last week (DR-4569-CA) which opens up new lines of critical federal assistance for individuals impacted by fires that occurred in those counties in September.

The fires and counties eligible under the recent declaration addition are:

  • Zogg Fire in Shasta County
  • Glass Fire in Sonoma County and Napa County

Relief for Victims of Presidentially-Declared Disasters

Included in the Consolidated Appropriations Act of 2021 was the Taxpayer Certainty and Disaster Relief Act TCDTRA of 2020  which has a number of relief provisions for victims in Presidentially Declared Disaster areas that were declared from 1/1/20 to 2/25/21. The provisions include:

  • Penalty-free retirement plan disaster distributions of up to $100,000 (can be recognized ratably over three years and recontributed within three years). A disaster plan distribution is one to an individual who lives within qualified disaster area who sustained economic loss by reason of the qualified disaster.
  • Recontributions of retirement plan withdrawals made for home purchases that couldn’t be completed due to disaster.
  • Increased loan limits for employer retirement plans that authorize loans.
  • Employee Retention Credit of 40% of $6000 of qualifying wages which equates to a credit of $2,400 per employee for employers impacted by the disaster.
  • Corporations make make a qualified disaster relief contribution up to 100% of taxable income.
  • Low-income housing tax credit expansion
  • For personal casualty losses, you may deduct the loss subject to $500 per casualty floor and you can increase your standard deduction by the loss amount. This means that the loss is not subject to the $100/10% AGI threshold and you do not have to itemize to take it. (This is similar to the treatment received for 2017 Hurricanes and 2017 CA wildfires).

CA may not conform to all of these provisions.

Tax Relief for victims of the early September California Wildfires

The IRS announced on Friday that victims of the California wildfires that began on September 4th may receive tax relief from the IRS. Note this is separate relief from that provided for the August wildfires.

Individuals and households who reside or have a business in Fresno, Los Angeles, Madera, Mendocino, Napa, San Bernardino, San Diego, Shasta, Siskiyou, and Sonoma counties qualify for tax relief. but taxpayers in localities added later to the disaster area will automatically receive the same filing and payment relief.

The tax relief postpones filing and paying deadlines for taxpayers who reside in or have a business in the disaster area. Certain deadlines falling on or after September 4, 2020, and before January 15, 2021, are granted additional time to file through January 15, 2021. This includes individuals and businesses who had a valid extension due to run out on October 15, 2020.

The January 15, 2021 deadline also applies to quarterly estimated income tax payments due on September 15, 2020, and the quarterly payroll and excise tax returns normally due on November 2, 2020, it applies to tax-exempt organizations, operating on a calendar-year basis, that had a valid extension due to run out on November 16, 2020, and penalties on payroll and excise tax deposits due on or after September 4, 2020, and before September 21, 2020, will be abated as long as the tax deposits were made by September 21, 2020.

California automatically conforms to Federal Disaster Declarations and the FTB announced its own tax relief on November 5th.

Further, a presidential disaster declaration allows a taxpayer to take a Casualty Loss on their tax return. You are able to take it on the 2020 tax return or amend 2019 to take it. See our earlier articles to get more information on taking the casualty loss deduction.

Trinity County added to Federal Disaster Declaration for August first

The IRS announced that Trinity County has been added to the list of counties under the Federal Disaster Declaration for the August 2020 fires.

Following the recent disaster declaration for individual assistance issued by the Federal Emergency Management Agency, the IRS announced that affected taxpayers in certain areas will receive tax relief.

Individuals and households who reside or have a business in Butte, Lake, Lassen, Monterey, Napa, San Mateo, Santa Clara, Santa Cruz, Solano, Sonoma, Tulare, Trinity and Yolo counties qualify for tax relief. but taxpayers in localities added later to the disaster area will automatically receive the same filing and payment relief.

The declaration permits the IRS to postpone certain tax-filing and tax-payment deadlines for taxpayers who reside or have a business in the disaster area. For instance, certain deadlines falling on or after August 14, 2020, and before December 15, 2020, are postponed to December 15, 2020. This includes individual and business tax filers that had a valid extension to file their 2019 return due to run out on October 15, 2020. The IRS noted, however, that because tax payments related to these 2019 returns were due on July 15, 2020, those payments are not eligible for this relief.

The December 15 deadline applies to the third quarter estimated tax payment due on September 15. It also applies to the quarterly payroll and excise tax returns normally due on November 2. In addition, it applies to tax-exempt organizations, operating on a calendar-year basis, that had a valid extension due to run out on November 1.

California automatically follows IRS extended deadlines to file and pay taxes until the date indicated for the specific disaster. At the time of this writing, FTB is working on updating its Disaster Loss page to add to the list of counties affected by the Augus wildfires (Disaster Code 115).

Lassen and Tulare Counties added to the Federal Disaster Declaration for the August 2020 fires

The IRS announced that Lassen and Tulare Counties have been added to the list of counties under the Federal Disaster Declaration for the August 2020 fires.

Following the recent disaster declaration for individual assistance issued by the Federal Emergency Management Agency, the IRS announced that affected taxpayers in certain areas will receive tax relief.

Individuals and households who reside or have a business in Butte, Lake, Lassen, Monterey, Napa, San Mateo, Santa Clara, Santa Cruz, Solano, Sonoma, Tulare and Yolo counties qualify for tax relief. but taxpayers in localities added later to the disaster area will automatically receive the same filing and payment relief.

The declaration permits the IRS to postpone certain tax-filing and tax-payment deadlines for taxpayers who reside or have a business in the disaster area. For instance, certain deadlines falling on or after August 14, 2020, and before December 15, 2020, are postponed to December 15, 2020. This includes individual and business tax filers that had a valid extension to file their 2019 return due to run out on October 15, 2020. The IRS noted, however, that because tax payments related to these 2019 returns were due on July 15, 2020, those payments are not eligible for this relief.

The December 15 deadline applies to the third quarter estimated tax payment due on September 15. It also applies to the quarterly payroll and excise tax returns normally due on November 2. In addition, it applies to tax-exempt organizations, operating on a calendar-year basis, that had a valid extension due to run out on November 1.

California automatically follows IRS extended deadlines to file and pay taxes until the date indicated for the specific disaster. At the time of this writing, FTB is working on updating its Disaster Loss page to add Santa Clara County to the list of counties affected by the August & September 2020 wildfires (Disaster Code 115).

Presidential Disaster Declaration denied and then APPROVED for early September Fires

Update: Hours after denying a disaster declaration, Gov Newsom made a direct plea to the President and the Disaster Declaration is now APPROVED for the early September fires. The fires part of this declaration are Creek Fire (Fresno & Madera Counties), Bobcat Fire (Los Angeles County), El Dorado Fire (San Bernardino County), Valley Fire (San Diego County), Oak Fire (Mendocino County), Slater Fire (Siskiyou County).

ORIGINAL ARTICLE — Five fires that started in early September have been denied a Presidential Disaster Declaration. This denial means California will not receive special funding to rebuild and taxpayers impacted by those fires are not able to take a federal casualty loss on their tax return.  The fires in this denial are Creek Fire (Fresno & Madera Counties), Bobcat Fire (Los Angeles County), El Dorado Fire (San Bernardino County), Valley Fire (San Diego County), Oak Fire (Mendocino County), Slater Fire (Siskiyou County).

“Confirming that the request for a Major Presidential Disaster Declaration for early September fires has been denied by the federal administration,” Brian Ferguson, spokesman for California Department of Emergency Services said. “The state plans to appeal the decision and believes we have a strong case that California’s request meets the federal requirements for approval. Meantime, Cal OES continues to aggressively pursue other available avenues for reimbursement/support to help individuals and communities impacted by these fires rebuild and recover.”

Santa Clara County included in Federal Disaster Declaration

The IRS announced that Santa Clara County has been added to the list of counties under the Federal Disaster Declaration for the August 2020 fires.

Following the recent disaster declaration for individual assistance issued by the Federal Emergency Management Agency, the IRS announced that affected taxpayers in certain areas will receive tax relief.

Individuals and households who reside or have a business in Santa Clara, Butte, Lake, Monterey, Napa, San Mateo, Santa Cruz, Solano, Sonoma and Yolo counties qualify for tax relief. but taxpayers in localities added later to the disaster area will automatically receive the same filing and payment relief.

The declaration permits the IRS to postpone certain tax-filing and tax-payment deadlines for taxpayers who reside or have a business in the disaster area. For instance, certain deadlines falling on or after August 14, 2020, and before December 15, 2020, are postponed to December 15, 2020. This includes individual and business tax filers that had a valid extension to file their 2019 return due to run out on October 15, 2020. The IRS noted, however, that because tax payments related to these 2019 returns were due on July 15, 2020, those payments are not eligible for this relief.

The December 15 deadline applies to the third quarter estimated tax payment due on September 15. It also applies to the quarterly payroll and excise tax returns normally due on November 2. In addition, it applies to tax-exempt organizations, operating on a calendar-year basis, that had a valid extension due to run out on November 1.

California automatically follows IRS extended deadlines to file and pay taxes until the date indicated for the specific disaster. At the time of this writing, FTB is working on updating its Disaster Loss page to add Santa Clara County to the list of counties affected by the August & September 2020 wildfires (Disaster Code 115).

Presidential Disaster Declaration request made for additional California Counties.

Gov Newsom requested a Presidential Disaster declaration for Fresno, Los Angeles, Madera, Mendocino, San Bernardino, San Diego, and Siskiyou counties because of the fires being battled there. This declaration would add these counties to those already granted Presidential disaster status from the August fires.

The counties that have already received Presidential Disaster status from the August fires are Butte, Lake, Monterey, Napa, San Mateo, Santa Cruz, Solano, Sonoma and Yolo.

A Presidential Disaster declaration provides a number of resources and tax relief to individuals and businesses impacted by the fires in those counties.