If you were affected by the Gulf oil spill, the payments you receive or the losses you suffered could have an impact on your income tax return.
Payments received for work performed
If you received wages for working in the cleanup effort, your wages are taxable income. You should receive a W-2 form from your employer if you perform the work as an employee, or a Form 1099 if you are paid as an independent contractor. If you work as an employee, income taxes should be withheld from your pay. If you work as an independent contractor, you are responsible for reporting the earnings reported on Form 1099 and paying the taxes when you file your tax return.
Your wages may also be subject to state income tax if you are a resident or work in Louisiana, Alabama or Mississippi. Florida and Texas do not have state income taxes. For example, according to the Alabama Department of Revenue wages earned within a three mile range of Alabama’s coastline are considered Alabama wages and are subject to Alabama state income tax.
Payments for lost business
According to the Internal Revenue Service, payments you receive for lost wages, lost business income or lost profits are taxable income. The same would apply for state income tax purposes unless specific legislation is passed to exempt those payments from income. The Departments of Revenue in Alabama and Mississippi have indicated that these payments are subject to state income tax. You should receive a Form 1099 reporting these payments.
If you are self-employed, these payments should be reported as business income on Schedule C or C-EZ of your federal income tax return and included in your net earnings for self-employment tax purposes. If you are making estimated income tax payments, you may need to adjust the amount to take into account the tax on these payments.
The IRS indicates that if the payments are compensation for lost wages, they are generally not subject to social security and Medicare tax. Also, they may not be subject to income tax withholding. This could affect the amount of your refund or the tax you owe when you file your income tax return. If income tax is not withheld, you may need to make estimated tax payments to avoid owing more tax than you expect when you file your return and also to avoid a potential penalty for underpayment of tax.
Compensation for damages
According to the IRS, if you receive compensation for the damage or destruction of property as a result of the oil spill, the compensation does not have to be included in your income for tax purposes if it does not exceed your adjusted basis in the property. Your adjusted basis is generally the amount you paid for the property, or the value at which it was transferred to you, less certain adjustments for tax purposes such as depreciation if you rented out the property. You can refer to IRS Publication 551 to see how to determine the basis of your property.
If the amount of compensation you receive for property damages or destruction is more than your adjusted basis in the property, you have a taxable gain. You may be able to defer the gain for tax purposes by treating the damage or destruction as an involuntary conversion. To qualify for the deferral you would have to acquire similar replacement property that costs as least as much as the compensation you received. You can find more information on involuntary conversions in IRS Publication 544 – Sales and Other Dispositions of Assets.
If the amount of compensation you receive is less than your adjusted basis, you may be able to claim a deduction for a casualty loss. The casualty loss is either the difference between the fair market value of your property immediately before and after the casualty or your adjusted basis in the property, whichever is less. You can determine the reduction in fair market value through an appraisal or based on the costs to repair and clean up the property. For personal property, each individual casualty loss is reduced by $100 and the total of all your casualty losses is reduced by 10 percent of your adjusted gross income.
For federal income tax purposes, a casualty loss for personal property is calculated on Form 4684 and the deduction is claimed as an itemized deduction on Schedule A. For business property the casualty loss deduction is claimed on Form 4797. You can find more information on casualty losses in IRS Publication 547 – Casualties, Disasters, and Thefts.
The Louisiana state income tax is based on federal adjusted gross income, so the casualty loss would already be considered. In Mississippi and Alabama, the casualty loss is the same as for federal income tax purposes. The Alabama Department of Revenue indicates that the maximum casualty loss you can deduct is $15,000.
Payments for personal physical injuries or sickness
Payments for physical injuries or sickness you may have suffered as a result of the Gulf oil spill do not have to be included in your income for federal or state tax purposes. Also, payments for emotional distress related to a physical injury or sickness can be excluded from your taxable income.
Payments for emotional distress
Payments you receive for emotional distress that is not attributable to a physical injury or sickness must be included in your gross income for federal and state income tax purposes. These payments should be reported on a Form 1099 if the total amount is $600 or more. But the IRS indicates that you can exclude the amount you pay for medical care expenses related to the emotional distress, such as for symptoms such as insomnia, headaches or stomach disorders.
Form 4684 – Casualties and Thefts – IRS
Form 4797 – Sales of Business Property – IRS
Gulf Oil Spill: Questions and Answers – IRS
Oil Spill Information – Alabama Department of Revenue
Publication 544 – Sales and Other Dispositions of Assets – IRS
Publication 547 – Casualties, Disasters, and Thefts – IRS
Publication 551 – Basis of Assets – IRS
Schedule A – Itemized Deductions – IRS
Treatment of Income Received Related to the Gulf Oil Spill – Mississippi Department of Revenue