Have you wondered whether or not you’re entitled to a home office deduction? With tax time here again maybe you should take another look.
A few years back, more liberal rules came into play for home office deductions, allowing more people to qualify for the write-off. Specifically, the old, hard-to-meet “principal place of business” bar was lowered to a much more taxpayer-friendly level.
If you use your home office space regularly and exclusively for your sole proprietorship, LLC or partnership business, there are several ways to qualify for the deduction:
- Your office meets the definition of “principal place of business” if you conducted most of your income-earning activities from the home office.
- It can qualify if it’s used for administrative and management activities for which you have no other fixed location for these functions For example, you cannot have an “official” office downtown or work space provided by one of your customers or clients.
- You qualify for the deduction if, in the normal course of business, you meet with clients, patients or customers in your home office. For example, a therapist might regularly use his home office for meetings with clients after-hours and on weekends. The principal-place-of-business issue doesn’t apply in this case, and it doesn’t matter if you have another office elsewhere.
- You are entitled to deduction if your office is detached from your home and used in your business for any purpose. Again, the principal-place-of-business test does not apply here, and you can have another office somewhere else. Just think of it as a branch location. In fact, there’s nothing to prevent you from decking out the facility in lavish fashion—with full kitchen facilities, a deluxe bathroom and even a pool. Just make sure there is absolutely no non-business usage.
What if you and your spouse both share the space for your respective businesses? As long as you both pass one of the three tests explained above then all is good. Similarly, you can use the space for two or more of your own separate businesses. In either of these scenarios, it’s also okay to use separate areas for your different businesses.
Don’t forget, under any of the circumstances described here, you must use the space in your home regularly and exclusively for business. “Regularly” means often, rather than occasionally. More importantly, “exclusively” means absolutely no personal use during the year. None. Zip. Zero. Spending a lost weekend playing computer games at your desk means no deductions, according to the IRS (I know, how can they prove that, well, I’m just passing along the rules and will leave risk analysis to you).
Tax return ‘side effects’
Careful though, your home office situation also affects how much you can write off for business use of your car. If the office meets the principal-place-of-business definition explained earlier, you can deduct the cost of driving to your first business appointment plus the trip back home from your last business stop.
By contrast, if your office is not your principal place of business, the IRS says those first and last trips are nondeductible commuting. You can still write off the cost of driving between your various business stops during the day, however.
Deduct areas used for storage space
If you use an area of your house as the only fixed location for storing product samples or inventory for your retail or wholesale business, you can take advantage of a special rule. In this case, you need not use the area strictly for business.
For example, if you are a multilevel marketer and store products in part of your family room for eight months out of the year, you are still entitled to a write-off even though you slide the pool table over into that space during the rest of the year.
Home office used for your job
Although the home office rules for self-employed individuals have been liberalized, the same is not true for employees who use space in their homes for company business. If you are in this situation, all the above rules apply equally to you (even if you are employed by your own corporation), but you get no deductions unless both of the following apply:
- The work-at-home arrangement is for the convenience of your employer.
- Your unreimbursed office expenses exceed 2 percent of your adjusted gross income when lumped together with all your other “miscellaneous itemized deductions” on Schedule A.
As for the convenience-of-the-employer part, forget about claiming any deduction if you are allowed to telecommute as an accommodation to you. By contrast, if your company booted everyone in your job class out of company-provided space to save money, you pass the test.
However, even if you clear the second hurdle by having expenses in excess of 2 percent of adjusted gross income, your deduction is subject to phaseout rules if you income is too high. If you pay the alternative minimum tax, your deduction is entirely disallowed.
Home office used for investing activities
Using a home office to keep track of your investments counts as a personal activity. No deductions. That’s bad enough, but the real problem with such usage is that it could negate an otherwise allowable deduction for business use of the same space. Why? Because you must use the office exclusively for business. Remember that.
Strategy: To preserve your business-related home office write-off, set up your investment headquarters on the kitchen table or in another room of the house.
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