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Can I Deduct an Umbrella Insurance Policy Premium?

Umbrella policies are insurance policies that protect essentially everything you own. These make a ton of sense for people with high net worths wanting to protect themselves from catastrophic loss from some unforeseen accident. However, since they just protect you personally, they are generally just personal expenses and not deductible at all.

If a corporation or other entity buys an umbrella policy, it can deduct it. This sometimes makes sense, but usually you want to insure everything you own—your house, your car, your farm, your corporate ownership interest, etc.—not just the corporation's ownership of its assets. Insuring just the corporation is no good if you're sued individually, and your ownership interest is levied. If you get into a bad enough car accident, that could end the business regardless.

However, sometimes you're filing a Schedule C, E, or F for your business without a separate entity and it really seems like it should be deductible. You only bought the umbrella to protect your farming operation or your rental unit. It certainly provides nice coverage personally, but it's also necessary to the safe business operation. In this case, the Tax Court has concluded that umbrella policies are partially tax-deductible, despite IRS assertions that they are not at all.

Part of Hoakison v. Commissioner followed the classic situation. The taxpayers claimed a deduction for $200 on an umbrella policy premium to protect their 482 acres of farmland. Since it covered all potential liability instead of just farm liability, the IRS said they could not deduct that on Schedule F. The Tax Court mostly agreed with the taxpayers, allowing them a 75% deduction of the premiums since the covered assets of the farm far exceeded the personal assets covered. Therefore, even personally-owned umbrella policies can certainly be partially deducted as business expenses in the right situations.

The Tax Court did not say how the premiums should be apportioned. Logically, it would make sense to divide the covered assets into business assets and personal assets and apportion the premium payments accordingly. The Tax Court implied this to an extent but did not do this strictly. There was not detailing of net worth, but it was noted that the Hoakisons lived in a 100-year-old house without even air conditioning. Even with approximately 70 acres of land being pasture and most of the equipment being older and used, it is hard to imagine that non-farm assets made up even 5% of the Hoakisons' net worth. Therefore, it seems the Tax Court definitely errs considerably towards less of the umbrella policy being deductible than more. Certainly the IRS will, so it may make sense to underestimate the charge to avoid a fight.