According to the IRS Code, personal casualty loss is defined as the loss which happened as a result of unexpected, sudden or unusual event (e.g. flood, tornado, earth quake or hurricane) (Murphy & Higgins, 2011). The main characteristic of a personal casualty loss is the suddenness and unexpectedness of the loss. Issues which involve gradual deterioration or gradual loss are generally not qualified as personal casualty losses (e.g. the case of Fay v. Helvering), as well as issues which did not result in specific damage to the property (e.g. the case of Caan v. U.S.). Furthermore, personal casualty losses, if qualified, are generally applied to the losses of the current year, and are not transferred to the next years (although there are exclusions from this rule as well).
The issue in the considered case is whether the losses to the home of Rick and Joan Harrison are deductible as a personal casualty loss (or certain parts of these losses can be identified and deducted as personal casualty losses), and whether it is legitimate to file these losses as a personal casualty loss, taking into account the circumstances of the case. The other issues mentioned in the case are: a) the possible amount to be deducted if the loss could be qualified as personal casualty loss, b) possible damage to the house’s value resulting from the disclosure of lawsuit showing that the house had defective heating, c) possible period when the loss expenses would be deductible, d) whether there would be taxable income associated with the personal casualty loss tax returns, and finally e) what recommendations should be done to Rick and Joan Harrison from the legal perspective in this case?
Approximately six years ago, Rick and Joan Harrison had built their house; the major part of work was done by themselves, with the help of a small team of contractors. It should be noted that the Harrisons also acted as architects in this process. They have installed an expensive system of hydronic heat at the ground and upper levels. The product had a 25-year warranty provided by the manufacturer. The possible issue of leaks was considered with the subcontractor, who assured the Harrisons that leaks would not happen. The system worked correctly for five years; in five years, one of the heating zones leaked, and was turned off. The Harrisons recharged the system with fresh glycol, and for two weeks, it continued functioning normally. In two weeks, a second zone leaked as well, and was turned off. By the end of the winter, other zones also failed.
The Harrisons attempted to get in touch with the plumbing contractor, but he was already out of the plumbing business. The losses of the Harrisons were not covered by their homeowners’ policy. They joined a class action against the manufacturer, and the case was still in process. Finally, as an alternative heating system, the Harrisons have installed centralized electric high efficiency heat stoves which cost $6,000 total.
Basing on the definition of the personal casualty loss provided in the IRS Code, the Harrisons’ case cannot be qualified as personal casualty loss, because the deterioration of the system was gradual, and was not clearly unexpected, since the questions of possible leaks were considered at the very inception of the house construction. The following sections will be devoted to further analysis of this question using applicable laws and regulations.