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Section 1.165-7(b)(1), Income Tax Regs., limits a deductible
casualty loss under section 165(a) to the lesser of the decrease
in value of property before and after the casualty or the
adjusted basis of the “involved” property. The reference to
“involved” property contained in section 1.165-7(b)(1), Income
Tax Regs., must refer to the property damaged or destroyed by the
casualty, i.e., the old warehouse, and the Boyles’ adjusted basis
in the old warehouse for purposes of calculating the casualty
loss, if any, under section 165(a) must be its basis as of the
date of the casualty.
Our conclusion is consistent with section 1033, which
provides rules for determining whether gain realized upon the
involuntary conversion of property must be recognized for Federal
income tax purposes. A casualty is treated for Federal income
tax purposes as an involuntary conversion of property. Sec.
1033(a); secs. 1.1033(a)-1 and 1.1033(a)-2(c), Income Tax Regs.
Under section 1033(a)(2), if damaged or destroyed property is
converted into money (e.g., through insurance), that conversion
is treated as a sale or exchange of the damaged or destroyed
property (the converted property), and the amount of gain, if
any, realized on the conversion must be recognized except to the
extent provided in section 1033(a)(2). If, however, the taxpayer
reinvests the money received for the converted property to
acquire qualified replacement property (i.e., property similar or
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Last modified: May 25, 2011