The Home Office Deduction is still alive and well…don’t let any accountant tell you otherwise. There are several strategies on how to maximize the Home Office Deduction. It is NOT high risk and every good business owners should take advantage of a home office write-off.
Before I get into the requirements and your options for deducting the home office, keep in mind that I’m sick and tired of hearing new clients and students of mine explain that their personal accountant is ‘afraid’ to take this deduction and explain it’s ‘high risk’. That simply isn’t true. As long as you are entitled to take it, aren’t too aggressive, and take use the proper method/strategy there is nothing to worry about. Even if you are audited, you shouldn’t shy away from taking a deduction when you are legally able to do so.
FIRST: The Requirements to Claim the Deduction
Before you can talk about ‘how’ you take the deduction, you want to make sure you ‘can’. There are two basic requirements for your home to qualify as a deduction:
1. Regular and Exclusive Use. You must regularly use part of your home exclusively for conducting business. Now I know the word ‘exclusively’ may concern you. However, as long as it isn’t your bedroom or the kitchen, even a portion of a studio apartment will qualify. Just make sure you have a desk and a computer reflecting the business use.
2. Principal Place of Your Business. I feel this is the more serious qualification, in that you must show that you use your home as your principal place of business. Thus, if you have ‘another office’ in town for your business, your home office may be off limits. However, if you conduct business at a location outside of your home, but also use your home substantially and regularly to conduct business, you may qualify for a home office deduction. For example, if you have in-person meetings with patients, clients, or customers in your home in the normal course of your business, even though you also carry on business at another location, you can deduct your expenses for the part of your home used exclusively and regularly for business.
NEW RULE!!! – The ‘Administrative office’ has evolved in various tax court cases over the past 2 years. This gives an option to the business owner that meets client/customers at a ‘main office’, but then comes home to return email, billing, do the books and various other administrative tasks.
TIP– If you have multiple businesses, i.e. a rental property business, use the home office deduction for this business and leave it alone for your primary or operational business.
SECOND: Two (2) Options to Calculate the Deduction
Generally, deductions for a home office are based on the percentage of your home devoted to business use. So, if you use a whole room or part of a room for conducting your business, you need to figure out the percentage of your home devoted to your business activities. However, the IRS has now come up with another option for completing the actual ‘calculation’.
1. Simplified Option. Since 2014 you now have a simpler option for computing the business use of your home. This new simplified option can significantly reduce record keeping burden by allowing a qualified taxpayer to multiply a prescribed rate by the allowable square footage of the office in lieu of determining actual expenses. (The standard method has some calculation, allocation, and substantiation requirements that are complex and burdensome for small business owners.) There are several principal benefits of this new option:
- Standard deduction of $5 per square foot of home used for business (maximum 300 square feet- so essentially $1,500 per year).
- Allowable home-related itemized deductions claimed in full on Schedule A. (For example: Mortgage interest, real estate taxes).
- No home depreciation deduction or later recapture of depreciation for the years the simplified option is used.
2. Regular Method. Now you can probably get a higher deduction with the Regular Method in many instances, however, you will have to worry about a more technical calculation AND have the issue of depreciation recapture in the future. Moreover, you will be stealing deductions from your Schedule A in order to maximize the deduction. However, in some instances, this could be a better route to take. Essentially, taxpayers using the regular method (required for tax years 2012 and prior), must determine the actual expenses of their home office. These expenses may include mortgage interest, insurance, utilities, repairs, and depreciation. Generally, when using the regular method, deductions for a home office are based on the percentage of your home devoted to business use.
A Word about S-Corporations
For those of you operating as S-Corporations, a standard industry practice is to calculate a fair home office ‘reimbursement’ amount and take a deduction for rent in the S-Corp (and receive it as a tax-free reimbursement for the use of your home). As long as the amount would be similar to that taken with the home office worksheet for a sole-proprietorship, this is a great way to take the deduction in a much less visible manner and further reduce your chances of an IRS audit or interest in you taking the deduction.
Bottom line, talk with your CPA and demand an aggressive position on this deduction. Don’t be talked out of taking it simply out of fear, but only if you clearly don’t qualify.
* To sign up for Mark’s weekly Free E-Newsletter and receive his Free E-Book “The Top 10 Best Tax Saving Secrets Everyone Should Know” visit www.markjkohler.com.
Mark J. Kohler is a CPA, Attorney, co-host of the Radio Show “Refresh Your Wealth” and author of the new book “The Business Owner’s Guide to Financial Freedom- What Wall Street isn’t Telling You” and, “The Tax and Legal Playbook- Game Changing Solutions For Your Small Business Questions”. He is also a partner at the law firm Kyler Kohler Ostermiller & Sorensen, LLP and the accounting firm K&E CPAs, LLP.