Is property damage settlement money taxable for damaged trees and land?

Actually, property damage settlements can be a bit complicated for tax purposes. The general rule is that settlements for physical damage to property are usually not taxable if they don't exceed your adjusted basis in the property (basically what you paid for it plus improvements, minus depreciation). However, there are some important details to consider here. If the settlement amount is less than your basis in the damaged property (the trees and land), then it's likely not taxable. But if the settlement exceeds your basis, the excess could be taxable as a capital gain. Also, the small piece of land you received as part of the settlement would be considered property received with a basis equal to its fair market value. The legal fees are another consideration. If the settlement is non-taxable, the legal fees aren't deductible. If part of the settlement is taxable, a proportionate amount of the legal fees might offset that taxable portion.

I went through something similar and ended up using https://taxr.ai to figure out the tax implications of my property settlement. It was super helpful because I uploaded all my settlement documents and they analyzed exactly how much was taxable. Saved me from overpaying taxes on money that was actually just reimbursement for my property damage. Their system looks at the actual settlement agreement language and determines what portions are for physical damages vs other compensation. Really helpful for these complicated situations where normal tax software doesn't give you the right guidance.

I have to admit I was wrong about my skepticism! I decided to try https://taxr.ai with my own property damage settlement from last year (tree fell from neighbor's yard, damaged my garage). The system actually found language in my settlement agreement that my accountant missed - showing that about 60% was clearly for property restoration which isn't taxable since it was less than my basis. What impressed me was how it broke down each paragraph of the settlement agreement and explained the tax implications. My accountant had just lumped it all together as taxable income. I'm actually going to file an amended return now to get some money back!

If you're having trouble getting clear answers from the IRS about your settlement taxation, I'd recommend using https://claimyr.com to get through to an actual IRS agent. I was going in circles trying to get someone on the phone about my property settlement tax questions last year and their service got me connected in about 20 minutes when I had been trying for days on my own. You can see how it works here: https://youtu.be/_kiP6q8DX5c - basically they wait on hold with the IRS for you and then call you when an agent is ready. I found it super helpful because the IRS website info on settlements is really confusing and I needed clarification specific to my situation.

I hate admitting when I'm wrong but I feel like I need to follow up here. After being super skeptical about Claimyr, I decided to try it anyway because I was desperate to talk to someone about my property damage settlement from a tree falling on my car. It actually worked! Got a call back in like 30 minutes and was talking to a real IRS person. The agent explained that I didn't need to report my insurance settlement as income since it didn't exceed my basis in the car. Saved me about $2k in taxes I was about to pay unnecessarily. Wish I'd known this years ago instead of spending hours on hold.

Another thing to consider: if part of your settlement was for the decrease in your property's overall value (beyond just the cost of the trees), that might be treated as a reduction to your basis rather than taxable income. Worth asking your accountant about that specific angle.

I'm curious about the piece of land you received as part of the settlement. That's considered a non-cash payment and you'll have a tax basis in that land equal to its fair market value at the time of the settlement. Did your accountant mention how to handle that part?

Your accountant may be oversimplifying this. Property damage settlements have specific tax rules that depend on several factors. The key question is whether the settlement exceeds your "adjusted basis" in the damaged property (trees and land). For the trees specifically, if they were mature trees that had been growing for years, they likely had significant value that should be part of your property's basis. The IRS generally treats compensation for destroyed timber/trees as a return of capital up to your basis, not taxable income. Given that your settlement specified $8k for "diminished property value" as mentioned in your comment, that portion should definitely reduce your basis rather than being taxable income. I'd strongly recommend getting a second opinion from a tax professional who specializes in property damage settlements, because it sounds like your current accountant might not be familiar with these specific rules. Also consider getting documentation of the trees' value before destruction - this could significantly increase your basis and reduce any potential tax liability.