When insurance settlement is taxable

Q&A

Tax Talk

February 27, 2007

Editor's note: Every Tuesday through the end of tax season, The Sun will run an edited transcript of Baltimoresun.com's weekly tax-advice column featuring three experts from the Hunt Valley accounting firm SC&H Group.

Is a settlement from an insurance company because of an accident taxable?

- Bob, Lutherville

It depends on the circumstances.

If the settlement simply reimburses your expenses in repairing the vehicle, the proceeds would not be taxable. However, if the proceeds received are greater than the costs incurred, the excess would generally be taxable.

On the other hand, if the vehicle was destroyed, you may be eligible for a casualty loss deduction. This loss is calculated as the lesser of the adjusted basis of the property destroyed or the decrease in the Fair Market Value (FMV) due to the casualty loss. This loss amount must then be reduced by any insurance proceeds expected. This loss will be deductible on your tax return if it exceeds 10 percent of adjusted gross income.

My son is a paid assistant coach for a nonprofit children's hockey league. He and the coach purchased prizes and food for the kids. Is this purchase tax deductible?

- Linda, Glen Burnie

Generally, contributions to only the following types of organizations are tax deductible: religious, charitable, educational, scientific and literary, as well as organizations for the prevention of cruelty to children or animals and certain organizations that foster amateur sports competitions. It sounds like your son gives the prizes and food directly to the kids. If this is the case, the purchases are not deductible. But it might qualify if your son donated items to the league and the league qualifies as a nonprofit organization. If this is the case, you should inquire with the league about whether they are a qualified organization.

We exercise Incentive Stock Options (ISO's) each year and pay a large tax on the difference between the market price and the exercise price, which are unrealized gains, because we are buying, not selling. Plus, when we some day sell the shares for a gain, we'll pay tax on the gain, too. Is there any reform in sight for this tax of unrealized gains?

- Dan, Forest Hill

I assume you are talking about the alternative minimum tax (AMT). The tax you pay on the difference between the market price and the exercise price (unrealized gains) generates alternative minimum tax carryovers (minimum tax credits). New law allows individuals with minimum tax credit carryforwards to use a portion of them - regardless of whether they would otherwise be subject to AMT - during the six-year period starting in 2007. Usage of the minimum tax credit is subject to a phase-out formula. The extra minimum credit allowed under this provision is "refundable." There is current legislation in Congress that would repeal the alternative minimum tax for individual taxpayers.

NEED HELP WITH YOUR TAXES? To submit a question to the "Tax Talk" experts, go to baltimoresun.com/taxtalk

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