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Dear Tax Talk,
Recently, our vacation homes were all condemned due to flooding and we were told by the corporation that
owned them that we had to vacate the premises so they could tear all the homes down, and they had no plans
to rebuild.
All of us held a 99-year lease on the buildings. We took them to court, but all ended up
receiving a small cash settlement to leave.
My question is, is this settlement taxable? If so, is it subject to self-employment tax and
can it be offset by any costs such as legal expenses, moving expenses or renovations done to the vacation
home during the 40 years we had it?
-- Alexis
Dear Alexis,
It still sounds like you had quite a few years of enjoyment ahead of you, specifically 59 years. The law is
fairly clear in that you cannot claim a loss on a personal use asset such as a vacation home, and if you have
a gain you have to pay tax on it.
You don't make it clear in how you came to own the 99-year lease. Presumably, you or someone
who gave it to you paid an upfront amount for the lease and probably annual lease payments.
If someone gave it to you, your cost for tax purposes is what that person paid. If you inherited,
it is the fair market value at the date of death of the decedent. The proceeds you received in settlement of the
lease obligation should be offset from this original cost.
The original cost may also require an adjustment for the years of use over the total term, but
this may be more complicated, depending on how you received the property. Substantial renovations (as opposed
to repairs such as painting and carpeting) would also become part of your cost of the property. The moving
expenses, in my opinion, would be personal expenses and not part of the cost of the property.
The legal expenses related to defending your rights to the property can also offset the settlement
to the extent you still have to gain. The gain, if any, should be reported on Schedule D of your Form 1040. The
adjusted cost and the legal expenses would form part of the cost of the property and reposted as such on Schedule
D. The gain, if any, is long-term capital gain and would not be subject to self-employment tax.
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