Accounting Treatment for Fire, Flood, or Other Natural Disasters

None of us like to think about the consequences of a fire, flood, or other type of natural disaster that impacts our business or workplace, but unfortunately these events do happen. After the initial shock, there are many priorities that management needs to address including, but not limited to, potential re-location; communication with employees, vendors, and customers; assessing the damage sustained including the impact on property and equipment; and calling the organization’s insurance company.

The aftermath of the disaster may take months to unravel, but eventually questions will arise concerning how to record the accounting transactions related to the disaster. Receiving insurance proceeds and assessing the impact of those proceeds on the organization’s financial statements can be complex and will require some judgment. In addition, accounting for insurance proceeds may impact both the current (recording the known incurred loss) and subsequent accounting period (the recording of the insurance proceeds).

If property has been destroyed, an entry to write off the net carrying amount of the asset should be recorded with a charge to the income statement, regardless of the insurance coverage. If only a portion of the property has been destroyed, an allocation calculated on a reasonable basis, such as square footage, must be used to calculate the amount of the write-off. When new construction occurs, the asset is capitalized as new property and depreciated over its useful life. All costs associated with the clean-up or repairs should be expensed, not capitalized.

Management must evaluate the amount of insurance proceeds as of the balance sheet date and record the estimated recoverable amount. Management then applies the gain contingencies guidance under ASC 450-30 and will only record the proceeds if the receipt of those proceeds is probable. If so, a debit to receivables for the insurance proceeds and a credit that reduces the loss of the write-off of the net carrying amount and incurred expenses (cleanup and repair costs) is recorded. Management may not record a receivable amount that exceeds the loss of the carrying value and expenses since this would be considered a gain contingency. A gain is recorded only if the insurance proceeds have been received. As long as the insurance claim remains open, management should continue to evaluate its estimates for each subsequent accounting period.

The organization may also have business interruption insurance that will provide coverage of lost revenue. Recoveries of revenue are not considered incurred losses but accounted for as gain contingencies. As a result, business interruption amounts related to lost revenue are not recorded at the balance sheet date unless proceeds have been received from the insurance claim. In addition, the insurance policy under business interruption may include reimbursement for temporary relocation or wages paid while the business was idle. Recoveries of these costs should be recorded (only after they have been incurred) as a debit to receivable of estimated insurance proceeds and a credit to income when it is probable the amount will be received but only up to the costs incurred, otherwise the excess amount is subject to gain contingency guidance.

Keep in mind that when a disaster strikes, many aspects of the business need to be addressed and the organization may be impacted in a variety of ways. It is important that the damage is quickly assessed, proper steps are taken to address priorities, and management accounts for the damage properly. Proper accounting for disasters and insurance recoveries can be complicated and often requires a detailed analysis of the related accounting standards.

If you would like assistance, Karen Prestegord can be reached at Email or 215.441.4600.

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