Eminent domain is the process by which the government or another entity has the ability to take private property for public use. Any property taken through eminent domain must be fairly compensated. This triggers a process by which “fair compensation” is determined. Once this process is complete, the condemning authority will pay an award to the owner of the property.
It is important to note that the system taxes income regardless of the source and so any “award” for compensation of a condemned property would be subject to taxation. For tax purposes, such proceeds from property acquired through eminent domain (or receipt of a condemnation award) would be treated no differently from a sale of the property. Taxable gain (amount by which the sale price exceeds the tax basis of the property) results when a property is taken by condemnation (or sold under threat of eminent domain). Tax basis is determined as the original purchase price of the property, less depreciations, plus any costs of improvements. Taxable gain could be significant if the property being condemned was purchased decades ago, as may be the case with agricultural properties. If a property owner faces eminent domain, it is important to the review the situation not only with an attorney but also with a CPA or a tax advisor. It should also be noted that not only could the award for the condemned property be subject to taxation but any lien holder or lender may also have a claim to the awarded funds. In most states, you may have the ability to use the proceeds and not be obligated to pay tax if you purchase another property or real estate within a two year time frame. Again, we recommend consulting a CPA or tax consultant in your state for more information.
Taxation of the award is subject to IRS statutes and regulations and, depending on how the award for the condemned property is distributed; the income from the proceeding may or may not taxed. Tax planning with the advice of an experienced tax attorney or CPA before and after condemnation may reduce or eliminate the tax costs. If you have questions about the condemnation of your property, we consult with your CPA’s concerning taking issues because condemnation may in some cases make your property less valuable after a partial taking which may impact your taxes. For more detailed information on taxation, it would be beneficial to contact a CPA or a tax advisor.