Joyce's office building was destroyed in a fire (adjusted basis of $350,000? fair market value of $400,000). Of the insurance proceeds of $360,000 she receives, Joyce uses $310,000 to purchase additional inventory and invests the remaining $50,000 in short-term certificates of deposit. She received only $360,000 because of a co-insurance clause in her insurance policy. What is Joyce's recognized gain or loss?
A) $0
B) $10,000 loss
C) $10,000 gain
D) $40,000 gain
E) None of the above

Question

Quizplus · Accepted Answer

The amount of insurance proceeds received by Joyce is less than the fair market value of the destroyed building, so she has a loss. However, because of the co-insurance clause in the insurance policy, she is only able to collect $360,000 of the $400,000 fair market value of the building. Therefore, she has a gain of $40,000 ($400,000 - $360,000).

Joyce used $310,000 of the insurance proceeds to purchase additional inventory, which is a like-kind exchange under Section 1033 of the Internal Revenue Code. This means that she can defer recognizing the gain on the insurance proceeds until she sells the inventory.

The remaining $50,000 that Joyce invested in short-term certificates of deposit is not a like-kind exchange, so it is taxable. The adjusted basis of the destroyed building was $350,000, so the taxable portion of the $50,000 investment is $10,000 ($50,000 - $40,000 basis in the destroyed building).

Therefore, Joyce has a recognized gain of $10,000.

Joyce's Office Building Was Destroyed in a Fire (Adjusted Basis