The weather this year has been something we hope doesn’t repeat. Extremely cold temperatures and snow the first of the year, and then one of the worst tornado outbreaks in history. Only to be followed by a drought. As a producer, you cannot control or predict what the weather will bring, but you can be prepared before a storm. We will briefly discuss how storm damage may affect your taxable income and how to be prepared for the possibility of another storm or disaster.
Taxable Effects of Storm Damage
If you collected insurance proceeds due to some form of damage to business property, you may realize a gain that may be taxed as ordinary income. For example, a farmer has a barn that was destroyed. The barn originally cost $20,000 and has $5,000 of uncaptured depreciation remaining. The insurance company paid the farmer $10,000. In this situation, there is a gain of $5,000 ($10,000-$5,000). This gain is taxed as ordinary income since the amount received is less than his original cost ($20,000). However, the gain may be postponed if the farmer purchases certain "like-kind" property within two years.
Some may have experienced loss of standing timber, but this does not usually result in a casualty loss at tax time unless you have basis in your timber. The basis is the amount of money invested in the timber itself, but not the land. In most instances where downed timber is salvaged and sold, there is a taxable gain rather than a taxable loss. Understandably, this is not the news you wanted to hear.
In order to determine the gain or loss on timber, the basis must be known and documented. If the current landowner has previously harvested timber, his basis would be the cash outlay incurred in previous years to reforest cutover woodland or to plant bare land to trees minus any amortization expense already deducted. If the land was reforested naturally — with no cash outlay, the timber has no basis. If the landowner has no record of cash outlays, there is no documented basis. Since casualty losses cannot exceed the basis in the timber, owners with little or no basis have little or no casualty loss to deduct.
If a stand of timber has been completely destroyed with no opportunity for salvage, the amount of basis minus insurance payment is the maximum casualty loss claimable. If the insurance payment is greater than the basis, the taxpayer has a gain instead of a loss.
If a gain does result on timber or business property, taxes on the gain may be deferred if the gain is reinvested in certain "like-kind" property within a two-year period beginning with the end of the tax year in which the gain occurred. For example, if your tax year ends December 31, 2011, you have until December 31, 2013, to replace the property with certain "like-kind" property.
You may have also experienced losses of raised livestock or growing crops. Since raised livestock and growing crops have no cost basis, the loss is not tax deductible; the ordinary expenses in raising them are deducted in the year in which they are incurred.
Preparing for the Future
No one wants to have their business and property damaged or destroyed, but, since there is always the possibility of natural and man-made disasters, you must be prepared. A disaster not only can destroy your assets, it also causes your business downtime — meaning you are not generating income. To protect yourself financially, it is important to prepare for catastrophic events.
In order to be prepared for a disaster, you must keep all insurance and records up-to-date. That means taking time to sit down with key people like an accountant, financial planner and insurance agent. If possible, you may want to set aside an emergency cash reserve to only use in cases of unforeseen disaster.
Insurance. Have a meeting with your insurance broker and review all of your policies. Consider the following:
· Have you recently bought equipment or built buildings that are not covered?
· Are you in a flood plain?
· Are you located on the coast? If so, do you have hurricane coverage?
· If you keep inventories like grain or hay, are they insured?
· Do you have adequate crop insurance?
· Do you have adequate coverage on livestock? You will need a list of livestock. Be sure each animal has some form of identification and make note of the identification number and description of the animals.
Records. If disaster strikes, you will need financial records, deeds, titles, proof of insurance, fixed asset inventory, etc. You have several options of storing your records, but keep in mind when storing records it is best to store them in a safe, secure environment that will not be affected by the disaster. Your records can be stored in a safety deposit box; of course, the drawback to this is they can only be accessed during the bank’s operating hours and you have to keep track of a key.
In our digital age, digitizing your records may be a better idea. Scanning your important documents and backing them up offsite may prove to be a prudent choice. If you don’t have the time or technology to create electronic copies, there are companies you can send documents to and they scan them. One such company is shoeboxed.com. There are also several companies providing user-friendly backup systems for your computers. The programs automatically backup files and data as they are changed — meaning you don’t have to remember to run a backup.
This article only briefly touches on the records needed for financial preparedness. You may also need records for things like environmental hazards (fuel, pesticides, etc.) if a disaster were to strike. For more information on disaster preparedness, visit Alabama EDEN (Extension Disaster Education Network) at http://www.aces.edu/eden/new/. Also, ReadyAg Workbook (http://readyag.psu.edu/) may aid you in preparing for disasters. The Small Business Administration and Agility Recovery Solutions have cosponsored the site www.preparemybusiness.org that may assist you in business disaster education and planning.
The authors do not endorse any websites, companies or applications and cannot attest to the accuracy of the information provided by third-party sites or any other linked site.
Jamie Yeager and Thomas Hall are Extension Economists with the Alabama Cooperative Extension System. For more information about farm management and financial analysis, please contact your County Extension Coordinator or an Extension specialists: North Alabama: Holt Hardin, (256) 574-2143 or Robert Page, (256) 528-7133; Central Alabama: Jamie Yeager, (334) 624-4016; Southwest Alabama: Steve Brown, (251) 867-7760; Southeast Alabama: Thomas Hall, (334) 693-2010.