Need help understanding gain/loss on a totaled work truck

[sparkaddiction]

Hello,

In March 2020 I purchased a 2002 Toyota Tacoma for $3,100, and spent about $2,000 in repairs over the next several months. I used the truck for work, and filed the standard mileage deduction for 2020-2022. In November 2022, I was in an accident that totaled the truck, and insurance paid me $7,100, which when adjusted by the percentage business/personal use came to about $6,450. When filing taxes this year, TurboTax asked me to calculate prior years depreciation based off of work mileage, and then limited this to the $3,100 purchase price. TurboTax is stating that I now have a $6,450 gain taxed at my normal income rate.

It seems that I am being charged for prior year deductions. Could someone explain this to me as if I were an intelligent third grader?

[KrisD15 · Accepted solution]

Yes, there is what is called "Depreciation Recapture".

This means that if the asset (thing/ truck) that you are depreciating (because it is loosing value over time as it gets older) ends up NOT loosing that value, you have to "pay back" the depreciation the IRS gave you.

Working with the numbers you gave, 

your basis for the truck was 3,100 which was your cost.

When you take Standard Mileage, part of that Standard Mileage includes "Depreciation Equivalent" 

Depreciation is the amount you can take each year as a deduction to correspond for the reduction in value. 

So for every business mile you drove in 2020,   .27 is this depreciation equivalent. 

Every business mile you drove in 2021,   .26 is this depreciation equivalent.

Every business mile you drove in 2022,   .26 is this depreciation equivalent.

So to figure the depreciation you took, multiply the mileage used those years to each rate, and then add them together.

To result in more than 3100 depreciation, you would have had to use the truck for around 11, 000 miles. 

(Remember, these are BUSINESS miles only) 

Ok, so far we had a truck that cost you 3,100 and you took (at least) 3,100 in depreciation over the years, so now it's as if you paid zero for the truck, because you got to expense it all. 

The 2,000 in repairs you mention should have been expensed the year you paid for the repairs. 

Now the truck that you have zero investment in is totaled and the insurance guy gives you 7,100.

Your "Adjusted Basis" is zero (cost less depreciation) (3,100 - 3,100) 

You didn't lose any value when the truck was totaled. It had no value left "on the books".

You got 7,100, so you made 7,100.

(You say it was adjusted to 6,450 for the percentage it was used for business, but that other 650 should be personal capital gain also.)

First you need to "pay back" that 3,100 the IRS "gave you" in Depreciation Equivalent. 

(This should be reported as Ordinary Income) on Form 4797 and flow to Schedule 1 line 4.

The rest is Capital Gain and should be on Schedule D 

[sparkaddiction]

Ah, thank you - now that makes much more sense.