Question

On July 24 of the current year, Sam Smith was involved in an accident with his business use automobile. Sam had purchased the car for $30,000. The automobile had a fair market value of $20,000 before the accident and $8,000 immediately after the accident. Sam has taken $20,000 of depreciation on the car. The car is insured for the fair market value of any loss. Because of Sam's history, he is afraid that if he submits a claim, his policy will be canceled. Therefore, he is considering not filing a claim. Sam believes that the tax loss deduction will help mitigate the loss of the insurance reimbursement. Sam's current marginal tax rate is 35%.

a. Complete the letter to Sam that contains your advice with respect to the tax and cash-flow consequences of filing versus not filing a claim for the insurance reimbursement for the damage to his car.

Hoffman, Young, Raabe, Maloney, & Nellen, CPAs
5191 Natorp Boulevard
Mason, OH 45040

January 26, 2018

Mr. Sam Smith
450 Colonel's Way
Warrensburg, MO 64093

Dear Mr. Smith:

This letter is to inform you of the tax and cash-flow consequences of filing a claim versus not filing a claim with your insurance company for reimbursement for damages to your business-use car.

If an insurance claim is filed, you will have a of $.

This is determine by computing the difference between the and the of the adjusted basis or . The result will produce a net cash flow of $.

If no insurance claim is filed, you will have a of $, which will your tax liability by $.

The net cash resulting from filing an insurance reimbursement claim would be $.

Should you need more information or need to clarify anything, please contact me.

Sincerely,

John J. Jones, CPA
Partner

b. Complete a memo for the tax files.

TAX FILE MEMORANDUM

DATE: January 26, 2018

FROM: John J. Jones
SUBJECT: Tax consequences for Sam Smith if he does not file an insurance claim for reimbursement for damages to his business use car.

If an insurance claim is filed, Sam will have a   of $. This will produce a net cash flow of $.

If no insurance claim is filed, Sam will have a   of $, which will   his tax liability by $.

In my correspondence with Sam, I pointed out that the net cash   from filing an insurance reimbursement claim would be $.

Answer 1

450 Colonel’s way

Warren burg M064093.

Dear Sam,

I came to know that you were involved in an accident in which your insured car was damaged. I have also heard that you do not want to claim your loss from insurance company. There are two options before you – do not claim the loss from insurance company or claim it. If you select the first option of not claiming the loss then you will deduct the loss from your taxable income. The net benefit of this option for you will be:

Cost of Car                                                                              = $30,000

Less Dep. Taken                                                                        $20,000

Less fair value of car after accident                                         $8,000

Loss that be claimed for reduction of taxable income         $2,000

Saving in Tax                                            (2,000x35%)               $700

Thus you will be saving $700. On the other hand if you claim the loss from the insurance company then the amount that you will receive will be $12,000 (sum assured of $20,000 – fair value of the car after accident of $8,000).