Claiming a Casualty Loss for Property You Don’t Own – Houston Tax Attorneys

Natural disasters can be expensive. This is particularly true for those who own or have an interest in real estate.

Our tax laws provide some relief through casualty loss deductions and theft loss deductions. But what happens when someone pays to repair property they don’t legally own? This question is particularly relevant when parents continue to financially support their adult children by paying for property repairs after a disaster. Can they claim the casualty loss deduction on their own tax returns?

The recent case of Taylor v. Commissioner, T.C. Summary Opinion 2025-10 (March 3, 2025), addresses this situation and provides an opportunity to consider the ownership requirement for casualty loss deductions.

Facts & Procedural History

The taxpayer and his then-spouse acquired real estate in Texas in 1992. Following their divorce in 2000, the taxpayer-husband transferred his interest to his wife via a special warranty deed.

The taxpayer-wife died in 2007 and her minor daughters inherited the property. The taxpayer-husband was appointed guardian of the estate for his then-minor daughters.

The daughters reached adulthood by 2012, so the taxpayer-husband transferred the property to the children via a deed. When Hurricane Harvey struck in 2017, the property was owned by the taxpayer-husband’s now adult daughters. The taxpayer-husband did not live in the property in 2017.

The taxpayer-husband paid expenses to repair the damage to the property and he paid the insurance on the property. He claimed a $49,500 casualty loss deduction on his 2017 tax return for the damage.

The IRS conducted a tax audit and issued a Notice of Deficiency in 2021, determining a deficiency of $17,537 in federal income tax and an accuracy-related penalty under Section 6662(a). The IRS did not challenge the substantiation for the casualty loss deduction, as it normally does. Rather, it challenged the deduction on the basis of the taxpayer’s ownership of the property.

The taxpayer petitioned the U.S. Tax Court, challenging the IRS’s determination. The question for the court was whether the taxpayer-husband is entitled to a tax loss for the property that he used to own given that he paid for the repairs to the property.

About Casualty Loss Deductions

Section 165(a) of the tax code provides for a tax loss deduction for “any loss sustained during the taxable year and not compensated for by insurance or otherwise.” This is a very broad provision. This broad provision is then narrowed by specific limitations that are set out in the tax code.

Specifically, for individual taxpayers, Section 165(c) restricts deductible losses to three categories:

Losses incurred in a trade or business
Losses incurred in transactions entered into for profit, though not connected with a trade or business
Personal losses arising from “fire, storm, shipwreck, or other casualty, or from theft”

The third category—personal casualty losses—enables taxpayers to deduct losses from sudden, unexpected events like hurricanes, floods, and fires. These deductions provide important tax relief for taxpayers facing significant financial setbacks due to disasters and other unexpected events.

The Ownership Requirement for Casualty Losses

While Section 165 itself doesn’t explicitly say that there is an ownership requirement, the courts have consistently held that only the owner of property at the time of a casualty can claim the resulting loss deduction. This judicial interpretation reflects the fundamental purpose of the casualty loss provision: to provide tax relief to those who have suffered an economic loss from damage to their property.

The leading case establishing this principle is Draper v. Commissioner, 15 T.C. 135 (1950), where the Tax Court denied a casualty loss deduction to a taxpayer who replaced his adult daughter’s property destroyed in a fire. The court held that since the taxpayer didn’t own the property, he couldn’t claim the deduction, regardless of his financial contribution to replacing the items.

This ownership requirement continues to be enforced in more recent cases. In Rogers v. Commissioner, T.C. Memo. 2019-90, the Tax Court reaffirmed that “a casualty loss deduction is authorized only when the claimant is the owner of the property with respect to which the loss is claimed.”

Paying for Someone Else’s Property Repairs

Many taxpayers voluntarily pay expenses for property they don’t own–particularly when helping family members. That is the situation in the Taylor case.

These payments might include:

Parents paying repair costs for properties owned by their adult children
Individuals paying expenses for properties owned by elderly parents
Taxpayers contributing to repairs for damaged properties in their communities

When these payments are made out of generosity or family support, they generally do not create a deductible interest in the property for tax purposes. The IRS and courts consistently maintain that paying expenses for someone else’s property–regardless of the amount or reason–does not transfer the casualty loss deduction to the payer.

From a tax perspective, voluntary payments for property expenses are more akin to gifts than investments creating deductible interests. This principle applies even in cases where the taxpayer previously owned the property or has an emotional attachment to it.

The court in Taylor acknowledged that the taxpayer may have paid for the repairs to the damaged property. However, it found that these voluntary payments did not establish a deductible interest in the property under Section 165. The court noted that a tax deduction for a casualty loss for property is allocated to the person who owned the property and incurred the economic loss, not to those who voluntarily pay to repair it. Citing Draper v. Commissioner, the court reaffirmed that a taxpayer cannot claim casualty loss deductions for property owned by adult children, even if the taxpayer pays for expenses related to that property.

Exceptions to the Ownership Rule

While the general rule requires legal ownership for casualty loss deductions, tax law recognizes certain limited exceptions where non-title holders might claim such deductions. These exceptions generally involve taxpayers who have economic interests in the property despite not holding legal title:

Equitable ownership – where a taxpayer is making payments under a contract to purchase property but hasn’t yet received formal title
Leasehold interests – where a tenant has made substantial improvements to leased property
Life estates and remainder interests – where the taxpayer holds a legally recognized partial interest
Properties held in certain trust arrangements where the taxpayer maintains beneficial ownership

Taxpayers who wish to maintain tax benefits while supporting family members might consider alternative approaches based on these interests. With a little tax planning, such as converting a house to a rental property (rental property losses would fall under the business/profit-seeking categories of Section 165(c) rather than personal casualty losses), maximizing partial asset dispositions, etc., the taxpayer very well may be able to claim the casualty loss for property that they do not own. Suffice it to say that these approaches should be implemented with proper documentation and genuine economic substance to withstand IRS scrutiny.

The Takeaway

This case reiterates that a casualty loss deduction goes to the owner. The taxpayer has to own the property that suffered the damage. Simply paying for repairs or maintenance does not transfer the deduction to the payer, regardless of family relationships or previous ownership history. When supporting family members with property expenses, taxpayers should understand that these payments generally don’t create tax benefits. If tax considerations are important, alternative arrangements that maintain legitimate ownership interests should be established before a casualty occurs.

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Stephan Dorsey

Stephan is the sports journalist for the Maple Grove Report.

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Recent Reviews

Immediate Expensing for Real Estate Costs – Houston Tax Attorneys

When a taxpayer has a capital outlay, they generally want to deduct the expense when the money leaves their bank account or when the liability is incurred. However, the accounting matching principle dictates that expenses should be deducted when the related income is received. The matching principle aligns the income and expense recognition. Our income tax rules generally adopt this accounting principle.

The timing issue is disfavored by taxpayers who make substantial capital investments. The taxpayer must pay out funds but cannot take an immediate tax deduction, while still being required to pay income taxes despite having a future tax deduction on the books. This results in a pay-the-IRS-now and recognize-your-tax-benefit later scenario. This issue is particularly problematic for investments in long-term assets such as real estate investments and heavy equipment.

Just about everyone favors immediate expensing. The U.S. Treasury Department has long advocated for a consumption tax system that would essentially allow for immediate expensing of capital investments. Treasury has made incremental progress toward this goal, such as the 2014 tangible property regulations that expanded opportunities for component depreciation of real estate. Similarly, Congress has shown increasing receptivity to immediate expensing, though stopping short of a full consumption tax system. The Tax Cuts and Jobs Act of 2017 represents a compromise position, providing for bonus depreciation on certain real estate assets while maintaining the basic framework of capitalization.

This framework leaves taxpayers with several options for …

This framework leaves taxpayers with several options for immediate expensing for certain types of expenses, but not for others. The recent Weston v. Commissioner, T.C. Memo 2025-16, case provides an opportunity to consider the question of when taxpayers must capitalize rather than deduct certain real estate-related expenses.

Facts & Procedural History

The case involves a commercial real estate agent in California. He began investing in single-family home renovations in Indiana in 2015.

Under an arrangement with his partner, the taxpayer provided funding to acquire and renovate properties. The partner managed the work locally. They both verbally agreed to split profits after the taxpayer recouped his investment plus an 8% return.

In 2016, the taxpayer also began funding a demolition and excavation business run by the partners. This business contracted with Indiana cities for demolition and lot remediation services. The partners had a similar verbal profit-splitting deal for this business.

Through 2017, the taxpayer continued sending money to fund both businesses based on the partner’s periodic funding requests and invoices. These “Indiana Payments” were more than $2.1 million by the end of 2017.

The taxpayer’s confidence in the partner eventually eroded as little progress or financial return materialized. However, he continued funding the demolition business into 2018 and even bought several Indiana properties from the partner in early 2018 for over $700k. After the partner disappeared, the taxpayer attempted to salvage the renovation business. He ended up selling most of the properties in 2018-2019 for a net loss.

On his 2017 tax return, the taxpayer claimed the $2.1 million Indiana Payments as a business loss deduction. The IRS audited the return and disallowed the deduction. The dispute ended up in tax court.

Immediate Expensing Options

The tax code provides several ways to immediately expense real estate-related costs. These provisions usually require some tax planning to benefit from, but the appropriate provision depends on both the nature of the expense and the character of the taxpayer’s real estate activities.

Section 162 serves as the primary authority for deducting ordinary and necessary business expenses, while Section 212 provides parallel treatment for investment activities. Section 179 offers an elective immediate write-off for certain qualifying property, and Section 179D allows deductions for energy-efficient commercial building improvements. There are other provisions that can also apply, but these are the primary tax rules that allow for immediate expensing for real estate expenses.

Section 162 permits immediate deduction of ordinary and necessary business expenses, encompassing routine operating costs such as repairs, maintenance, and utilities, provided these expenses do not materially add to the property’s value or useful life. For taxpayers whose activities do not rise to the level of a trade or business, Section 212 provides similar treatment for expenses incurred in the production of income, primarily benefiting investors who own rental properties but do not qualify as real estate professionals.

Section 179 allows immediate expensing of qualifying prop…

Section 179 allows immediate expensing of qualifying property placed in service during the tax year, though significant limitations apply in the real estate context. The deduction is limited to tangible personal property used in an active trade or business, with most building components excluded, and caps apply. Section 179D provides a specialized deduction for commercial building property meeting specified energy efficiency standards, available to both building owners and tenants who make qualifying improvements.

The nuances of each of these rules is beyond the scope of…

The nuances of each of these rules is beyond the scope of this article–as we are just noting that the first decision a taxpayer has to make is whether one or more of these provisions apply. Our focus in this article is to consider how these immediate expensing options are essentially taken away by the capital improvement rules. What Congress gives in one hand, it often takes away with its other hand.

Caplitziation and Depreciation or Amortization Limitations

The general capitalization rules under Section 263(a) require taxpayers to capitalize amounts paid to improve a unit of property. The regulations establish a three-part test for determining whether an expenditure constitutes an “improvement” requiring capitalization rather than an immediately deductible expense. An improvement exists if the expenditure results in a betterment, adaptation, or restoration of the property.

A betterment occurs when an expenditure fixes a pre-existing material defect, creates a material addition or expansion, or produces a material increase in the property’s capacity, productivity, efficiency, strength, or quality. For example, replacing a leaky roof with upgraded materials that extend its useful life would constitute a betterment requiring capitalization.

An adaptation arises when the expenditure modifies the property for a new or different use from its intended purpose when placed in service. Converting a residential property into an office building exemplifies an adaptation that must be capitalized. However, minor modifications that do not fundamentally change the property’s use may qualify as deductible repairs.

A restoration exists when the expenditure returns the property to its ordinarily efficient operating condition after deterioration, rebuilds the property to a like-new condition, or replaces a major component or substantial structural part. The replacement of an entire HVAC system, for instance, would likely constitute a restoration requiring capitalization.

Beyond these general rules

Beyond these general rules, specific tax code provisions impose additional capitalization requirements for certain real estate expenditures. For example, Section 280B mandates capitalization of demolition costs into the land basis, regardless of the property’s intended future use. There are even more nuanced rules that govern the treatment of interest, taxes, insurance, permits, environmental remediation, construction period overhead, and property management costs.

This is the framework that taxpayers have to apply

This is the framework that taxpayers have to apply. The immediate expensing rules only apply to current expenses, not capital improvements. The distinction turns on whether the expense merely keeps the property in ordinary efficient operating condition, in which case it may be deducted immediately, or whether it materially adds to the property’s value or substantially prolongs its useful life, in which case it must be capitalized. Thus, while routine repairs and maintenance may typically be deducted in the current year, major renovations require capitalization. And then there are more nuanced expenses that one cannot readily discern how the rules apply to, such as standby line of credit fees.

Before moving on, we also note that there are other provisions that can apply even after this expense-vs-capitalization framework that limit otherwise allowable deductions, such as the passive activity loss rules, excess business loss rules, net operating loss rules, hobby loss rules, and others. You can read about these other rules in various posts on our site as we have covered them at length in other articles.

Example of Expensing-Capitalization

This brings us back to this case. In this case, the court had to examine whether the $2.1 million in Indiana Payments could qualify for immediate expensing under any of the discussed provisions, or whether they required capitalization.

The court first considered whether the payments could be deducted as ordinary and necessary business expenses under Section 162. While the taxpayer argued he was engaged in a trade or business, the court found his involvement was more akin to that of an investor. He operated as a passive funding source, rarely visited the properties, and left the day-to-day operations to his partner. The court emphasized that merely managing one’s investments, no matter how extensive, does not rise to the level of a trade or business. This finding effectively precluded any immediate deduction under Section 162.

Similarly, the court found that Section 212 could not salvage the deductions. Even though this provision has a lower threshold than Section 162, applying to investment activities rather than requiring a trade or business, the nature of the expenses themselves still required capitalization. The improvements to the properties were not mere maintenance costs but rather substantial renovations that materially added to the properties’ value.

The Section 179 election was not available because the ex…

The Section 179 election was not available because the expenditures primarily involved improvements to residential real property, which is explicitly excluded from Section 179 treatment. The fact that some personal property may have been included in the renovations could not help the taxpayer, as he failed to maintain records adequately distinguishing between real and personal property improvements.

For the home renovation business

For the home renovation business, the court found the expenses fell squarely within Section 263A’s scope. The Indiana Payments covered direct costs like building materials and labor, as well as indirect costs such as utilities and equipment rentals. Because the properties were held for resale, these improvement costs had to be capitalized into inventory under Section 263A and could only be deducted when the renovated homes were sold. Since no sales occurred in 2017, no deduction was permitted for that year.

The tax court also considered the expenses for the demolition business. As this business did not own the properties it worked on, Section 263A did not apply. However, the court still denied the loss deduction for two reasons. First, some of the expenses may have required capitalization under Section 280B, which mandates adding demolition costs to the land basis. Second, and more fundamentally, the taxpayer failed to maintain adequate records distinguishing between deductible business expenses and capital expenditures for equipment and other assets.

The Takeaway

The case shows both the complexity and importance of properly analyzing real estate-related expenses under the various expensing and capitalization rules. Detailed records that distinguish between potentially deductible expenses and capital improvements are key. Without this type of documentation, taxpayers risk losing deductions even for expenses that might otherwise qualify for immediate expensing, as demonstrated by the court’s denial of deductions for both the renovation and demolition businesses in this case.