Use of the Home as a Place of Business
Certain expenses related to maintaining a home, such as mortgage interest and property taxes, are deductible from gross income for taxpayers able to itemize deductions, i.e., they can reduce the amount of income subject to federal income tax. In general, however, personal expenses related to running a home, such as the cost of utilities, insurance, and repairs, are not deductible.
U.S. tax laws, however, permit deduction of certain personal expenses if they are related to the business use of a home. The term “home” is defined broadly to include houses, apartments, condos, mobile homes, boats, and other structures on the property, such as unattached garages, guest houses, barns, or even greenhouses. The term does not include property used exclusively as a hotel or inn. The entire home does not have to be used for business to secure the tax benefits; one room or even a portion of a room may be dedicated to business use.
Qualification for Business Use Deductions – Tests
The business use must be exclusive (the business-use portion of the home must be used only for the taxpayer’s trade or business – no personal use is allowed), regular (the business use must be on a continuing basis, not merely occasional or incidental), and for the taxpayer’s trade or business. There are exceptions to the “exclusive use” requirement for storage of inventory or product samples and use of the home as a day-care facility.
The part of the home used for business must be: the taxpayer’s principal place of business; a place where the taxpayer meets or deals with patients, clients, or customers in the normal course of the trade or business; or a separate structure, not attached to the home, and used in connection with the trade or business.
It is possible for the taxpayer to have more than one business location. For the home office to qualify as the “principal” place of business, the taxpayer must generally:
- Use the home exclusively and regularly for administrative or management activities, such as billing, keeping books and records, ordering supplies, and setting appointments.
- Have no other fixed location where substantial administrative or management activities of the trade or business are conducted.
When the taxpayer is the employee of another (such as a “telecommuter”) and wants to use part of the taxpayer’s home for business, to qualify to deduct the expenses, the above tests must be met, plus:
- The business use must be for the convenience of the employer, not the employee; and
- The taxpayer may not rent any part of the home to the employer and use the rented portion of the home to perform services as an employee.
Once the portion of the home, or the building on the property, is qualified as used for business, some types of expenses may be deducted as business expenses, such as:
- Those attributable directly to the part of the home used for business, such as painting or repairs only in that area. These expenses are deductible in full from business income.
- Expenses for the upkeep and running of the entire home, such as real estate taxes, deductible mortgage interest, casualty losses, insurance, rent, repairs, a security system, utilities, and services, such as trash pick up. These expenses are usually only partially deductible.
- Expenses related only to that portion of the home not used for business, such as lawn care or painting of another room, are not deductible as a rule.
Figuring the Deduction – Limitations on Deductions
Usually, only a fraction of the home is used for business. That fraction can be calculated by dividing the square footage of the business use portion by the total square footage of the home, i.e., if the office is 300 sq. ft. and the home 1,200 sq. ft., the business area represents one-fourth of the total square footage. For expenses that are used for the upkeep and running of the whole home, as listed above, the taxpayer is only allowed to deduct one-fourth of such expenses from business income.
There is also a limit on the amount of such deductions that can be taken in any one year. Where the total business expenses exceed gross income from the business, the allowable deductions may be reduced or even eliminated entirely for that year (some deduction may still be taken as a personal deduction). Business deductions that cannot also be taken as personal deductions (utilities, rent, etc.) may not exceed the gross income from the business. Such amounts may, however, be “carried over” and deducted from business income in a following tax year.
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