Abandonment

What Is Abandonment?

Abandonment is the act of surrendering a claim to, or interest in, a particular asset. In security markets, abandonment is the permitted withdrawal from a forward contract that is made for the purchase of deliverable securities. For example, in some cases, an options contract may not be worthwhile or profitable to exercise, so the purchaser of the option lets it expire without being exercised. In real estate, abandonment is surrendering a claim to a lease agreement by a tenant or assignee.

Understanding Abandonment

An abandonment option in a contract allows either party to leave the contract before fulfilling obligations. Neither party incurs penalties for withdrawing from the contract. For example, when a worker withdraws from an employment contract containing an abandonment clause, the employer cannot contest the resignation.

For a property to be abandoned, two things must occur. First, the owner must take action that clearly shows they have given up rights to the property. Second, the owner must show intention that demonstrates that they have knowingly relinquished control over it.

In other words, an owner must take clear, decisive action that indicates they no longer want their property. Any act is sufficient as long as the property is left free and open to anyone who comes along to claim it. Inaction — that is, failure to do something with the property or non-use of it — is not enough to demonstrate that the owner has relinquished rights to the property, even if such non-use has perpetuated for years. For example, a farmer's failure to cultivate their land or a quarry owner's failure to take stone from their quarry does not equate to legal abandonment.

Sometimes, the right to abandon an agreement is desired. An abandonment option is a clause in an investment contract granting parties the right to withdraw from the contract before maturity. It adds value by giving the parties the ability to end the obligation if conditions change that would make the investment unprofitable.

Various types of property can be abandoned, such as personal and household items, rental units, or mortgaged real estate, vehicles, etc. In addition, agreements such as contracts, copyrights, inventions, and patents can be abandoned. Certain rights and interests in real property, such as easements and leases, can also be abandoned.

For example, consider a farm owner that gives a fellow farmer an easement to use a path on their property so that sheep can get to a watering hole. The shepherd later sells their flock and moves out of the state, with no intention of returning. This conduct demonstrates the shepherd has abandoned the easement, since they stopped using the path and intends never to return.

Abandonment of a Business Asset

Abandonment of a business asset requires accounting for the asset's removal on the company’s financial statements. Abandonment typically results in a loss affecting net income and is reported on the income statement.

If using the indirect method when creating the cash flow statement, the section on cash flows from/used by operating activities reflects non-cash-related activities affecting net income. The loss incurred on the asset’s abandonment is included as an adjustment in that section.

Abandonment Clause

An abandonment clause may be part of an insurance contract allowing the owner to abandon damaged property while still receiving a full settlement. The insurance company then owns the abandoned property. Such clauses are common in marine property insurance policies on homes at greater risk for flood or other damage from natural disasters.

Policyholders may invoke the clause when recovering or repairing the property is greater than the property’s value, or the damage results in a total loss. For example, when a boat is lost at sea, recovering the boat is more expensive than replacing it with proceeds from an insurance policy.

Abandonment and Salvage

"Abandonment and salvage" involves one party's relinquishment of an asset and another party’s subsequent claim to the asset. A clause allowing this action commonly appears in insurance contracts. If the owner abandons an insured asset or piece of property, the insurance company may rightfully claim the item for salvage. The owner must express in writing their intention in abandoning the asset or property.

For example, if a homeowner abandons a house due to heavy flood damage, the owner provides a written notice of intentionally abandoning the home to the insurance company. The insurance company lays claim to the house and attempts to resell it. Because abandonment and salvage can be lucrative for the salvager, multiple parties may try laying claim to an abandoned asset or property.