There are some small silver linings in our new quarantined world: shorter commutes, easier access to the fridge, more facetime with family and pets, and comfier clothing. And while we may miss the free coffee and in-office interactions with our coworkers, we’ve managed to carve out successful work environments from the confines of our homes.
But can we make lemonade from the lemons of 2020 and pick up extra tax perks for the trouble of converting spare bedrooms or kitchen counters to workspaces? This article answers common questions about who is eligible for the home office deduction and who is not and tackles other important considerations when claiming the home office deduction.
I’m an employee working from home because of COVID-19. Can I deduct my new home office?
Unfortunately, no. If you are a regular, pay-rolled employee for a firm and are forced to work from home due to the Coronavirus, you cannot claim the home office deduction. It’s a bit of a double whammy. You cannot claim individual expenses on your own return, nor can you claim the home office deduction for your involuntarily converted spare bedroom.
Can I take a deduction for out-of-pocket work expenses?
Another unfortunate no. There’s a good bit of confusion on this particular topic because the answer used to be yes.
Prior to the Tax Cuts and Jobs Act of 2017 (TCJA), unreimbursed work-related expenses in excess of two percent of your adjusted gross income could be deducted on your individual tax return. Additionally, employees who worked remotely for the benefit of their employer could claim home office deductions.
This all changed with the TCJA, which eliminated these (and many other) individual deductions.
Is there anything I can do for all of these newly incurred work expenses?
Potentially, yes. You can work with your employer about invoicing your firm for the business-related costs you now incur, such as increase WiFi, printer paper and ink cartridges, etc.
Note, though, that there are no federal guidelines that would require a company to reimburse you, outside of minimum wage requirements. Several states, though, have enacted laws that require firms to have reimbursement policies.
Who is eligible for the home office deduction?
The short answer is that as long as you are self-employed and part of your home is used for business use, you can take advantage of the home office deduction.
It’s not as simple as that single statement, though. The next question answers the specific requirements you need to satisfy in order to be able to claim the home office deduction.
Additionally, there is a subset of workers that may stand to benefit from claiming the home office deduction if they have not done so already. Partners who used to work out of a joint office and decide they no longer need a physical location may be eligible to claim the home office deduction as long as the home office is their regular and principal place of business.
This is a gray area, so please consult with your legal or tax advisors to determine whether or not you are able to claim the home office deduction.
What are the requirements for the home office deduction?
The IRS is concerned with three concepts when evaluating the merits of a home office deduction: exclusivity, regularity, and precedence.
Exclusivity means a spare bedroom that doubles as both an office and a room for occasional mother-in-law visits will not count as a home office. The space within your home needs to be dedicated solely to business use, with clear boundaries. An exception to this rule exists if you use your primary residence for a certified daycare business.
Regularity means you need to keep a regular and predictable work schedule. This doesn’t mean you need to adhere to a 60+ hour workweek, but occasional freelance work likely will not qualify. Just make sure you can show a regular and predictable schedule, even if it’s part-time.
Precedence means you need to use your home as your principal place of business. This doesn’t preclude having other office locations; the home office should take precedence over all others.
Can I claim the home office deduction if I rent?
Yes, if you satisfy the conditions laid out above. If you rent a home or apartment and conduct business in a dedicated work area that satisfies exclusivity, regularity, and precedence, then you can deduct a portion of your rent and other expenses, such as utilities and insurance. The percentage you can deduct is equal to the percentage of the home or apartment’s square footage used as a work area.
What kind of expenses can I deduct?
The IRS provides guidance for two types of expenses: direct and indirect expenses.
Direct expenses are expenses incurred solely for the portion of your residence used as a working area. Common items in this category include office furniture, paint, or repair to the work area itself. These expenses are 100% deductible.
Indirect expenses are expenses that apply both to the personal portion of your residence, as well as the business portion of your residence. Common expenses in this category include insurance, mortgage interest (not principal), real estate taxes, security, and other home-related expenses.
Indirect expenses are calculated according to the percentage of the home used for business.
Can my S-Corp claim the home office deduction?
This is more complicated than a simple yes or no. Corporations (S-corporations, C-corporations, and LLCs electing to be taxed as corporations) cannot take the home office deduction.
However, there are two alternatives. One can rent the office to the corporation, or one can create an “accountable plan,” which is a formal reimbursement arrangement between the corporation and all employees.
The “accountable plan” allows for the corporation to reimburse employees for business-related expenses, including the setup and operation of a home office. Since this type of plan can unfortunately be abused, it’s critical to speak with an accountant or tax attorney to properly structure an agreement that explicitly spells out the types of expenses that can be incurred, the regularity of reimbursement requests, and the manner and method of payment of the expenses.
Are there any other issues when claiming the home office deduction?
Yes. State, county, and city regulations may impose additional restrictions or requirements on your ability to conduct business within a residential area. For instance, if you plan on having clients visit your home office, you may be subject to the American Disabilities Act, which would require proper access to your office for all individuals. Further, some local governments may restrict the display of business signage or the congregation of employee cars in a residential area.
Insurance concerns are paramount. Consult with an accredited insurance specialist to ensure that your principal residence and office are properly covered.
Finally, additional tax considerations come into play when you have a home office. You may be able to claim depreciation on the portion of your home that’s a work area, but this is further complicated by any future sale of the property. Please consult with your financial or tax advisors to better understand how the tax implications of a home office affect your situation.
Tax Planning with Harbor Crest Wealth Advisors
The Coronavirus has forced many employees and business owners to work from home, raising questions about how to make the best of the situation. If you have any additional questions about home office deductions or would like learn more about our approach to tax planning, reach out to us today.