INSURANCE VALUATION AFTER CATASTROPHE?
(A question asked recently of this blog)
It
is important to understand that the valuation of your loss proposed by an insurance
adjuster is only slightly related to a valuation that you would use for income
tax purposes.
·
Yes,
it is the same location.
·
Yes,
hopefully it is the same property lost or damaged.
·
Yes,
both are supposed to be dealing with values.
But there are many differences:
·
Some
property losses are not fully covered
by insurance
We see this with Hurricane Sandy. Most
of the losses are covered only by flood insurance (a very specialized product
with limits on the maximum amount of the coverage). The flood insurance
policies often have nothing to do with the potential loss that might be
suffered. We see this with earthquake insurance in California.
·
The
insurance company has a goal of limiting its exposure.
o
Initially
by limitations in the policy terms.
o
Then
in the adjustment process.
(Why
are they called “insurance claims adjusters?” Why does your claim need to be
adjusted, and usually adjusted down?)
·
Some
adjustments may be relevant due to policy limits.
One such normal policy limit applies
to jewelry.
Your lost jewelry may have a value of
$25,000, but your policy coverage is limited to only $5,000.
The uncovered value of $20,000 is
still a loss.
The deduction value of that remaining
value may be $20,000 or less.
·
The
goal of the insurance valuation is to compensate you for your loss under the
terms of the insurance contract.
There are many components to an
insurance valuation. Not the least is the fact that the insurance company is
attempting to pay as little as possible. There is usually a lot of negotiation
that goes on in the process. Even in situations where the property has been
totally destroyed, the insurance company may try to pay less than policy
limits.
·
In
many cases, the insurance is not adequate to cover the loss. The valuation
stops at the policy limits, not the value of the loss.
·
Many
people buy the amount of insurance that they can afford, not necessarily the
amount they need. In other cases, the agent may sell the amount that will
result in an immediate sale, in other words a low premium, in order to close
the sale.
·
The
insurance valuation may include costs that are part of the policy for items
that bring the property to a better place than prior to the loss event. These
items include building code upgrades that are required to be satisfied due to
changes in the building code subsequent to the construction of the building.
These code upgrades are not part of the loss using the cost of repairs method.
·
Due
to other modifications that the owner may initiate as part of the actual
repairs, some betterments may be incorporated into the repairs as part of a
well thought out repair process that incorporates new building methods and
materials.
For example, maybe a solar electrical
and water heating systems is incorporated into the repairs instead of replacing
existing systems. These costs would not be part of the cost of repairs for
income tax deduction purposes. The taxpayer may be making a good financial
decision, but it does not meet the tax code requirements.
In
the best of circumstances, the insurance valuation is an estimate of the cost
of repairs. If that valuation is used for taxes two elements come into play.
·
The
Internal Revenue Code allows the use of the “cost of repairs” for determining a
loss. If the insurance covers the estimated cost of repairs, there is no loss.
·
As
has been discussed in many different ways on this blog, you cannot claim a loss
using the cost of repairs method unless the repairs are actually made.
The loss is claimed on the return for
the year in which the repairs are completed, not necessarily the year of the
event.
For
the preferred method of arriving at the economic loss, see many blog posts on
the subject of using the Appraisal
Method of computing the economic decline in value as part of determining a
potential income tax deduction for a disaster loss.
Date Posted |
Blog Topic (as of December
31, 2012)
|
|
4-29-2013
|
OTHER
DSASTER APPRAISAL QUESTIONS
|
|
4-5-2013
|
APPRAISAL VALUATION ISSUES IN A
CATASTROPHIC LOSS SITUATION
|
|
3-15-2013
|
COST OF REPAIRS COMPARED TO APPRAISAL METHOD OF
DETERMINING THE VALUE OF A CASUALTY LOSS
|
|
11/21/2011
|
WAS
IT A CASUALTY LOSS OR AN INVOLUNTARY CONVERSION GAIN
|
|
5/27/2011
|
Why
is the Cost of Repairs Method of Loss Valuation not the one to use?
|
|
6/18/2008
|
FIGURING
THE LOSS – MARKET VALUE METHOD
|
Finally,
see a very important blog post: “Don’t Rush to Deduct” – September 12, 2011.
This blog,
“AccountantForDisasterRecovery.com” has been addressing taxpayer income tax
issues related to catastrophic losses for more than five years.
All rights to reproduce or quote
any part of the chapter in any other publication are reserved by the author.
Republication rights limited by the publisher of the book in which this chapter
appears also apply.
JOHN
TRAPANI
|
||
Certified
Public Accountant
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||
2975
E. Hillcrest Drive #403
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||
Thousand
Oaks, CA 91362
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(805)
497-4411
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Contact us through our website at:
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Blog: www.AccountantForDisasteRrecovery.com
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It All Adds Up For You
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This material was contributed by John
Trapani. A Certified Public Accountant who has assisted taxpayers since 1976,
in analyzing and reporting transactions of the type covered in this material.
Internal Revenue Service Circular 230 Disclosure
This
is a general discussion of tax law. The application of the law to specific
facts may involve aspects that are not identical to the situations presented in
this material. Relying on this material does not qualify as tax advice for
purpose of mounting a defense of a tax position with the taxing authorities
The
analysis of the tax consequences of any event is based on tax laws in effect at
the time of the event.
This
material was completed on the date of the posting
© 2013, John Trapani, CPA,
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