Claiming the Home Office Deduction
With the passing of the Tax Cuts and Jobs Act in 2018, the tax deduction benefit you have received in the past for your home’s property taxes and home mortgage interest will most likely be limited in 2018 and future years. If you are a small business owner with a home office, it may be time to reconsider claiming a home office deduction if you haven’t been doing so in the past. If you qualify, not only can you move a portion of the limited home property tax and home mortgage interest tax deduction to your business’s bottom line, but you can also allocate and deduct other home expenses. You can take this deduction regardless of what type of entity your business is organized as (C-Corporation, S-Corporation, LLCs, Partnerships, and Sole-Proprietor).
Owners of C or S Corporations who qualify as employees and work out of home offices are eligible for reimbursement through an accountable plan. This allows the business to take a deduction for a portion of the home’s expenses. An accountable plan is set up by your company to reimburse employees for a variety of expenses, the most common being travel and meals. These plans can also apply to reimbursement for the use of a home office.
To have a valid accountable plan you must be able to show the business connection, adequate substantiation of the expenses, and return of excess advances.
To show the business connection of a home office you need the office to qualify as a home office under IRS rules. The first way a home office qualifies is by being a room, used exclusively and regularly for either meeting clients, or conducting administrative work. The second way is by being used to store inventory or product samples. If you use a room to store inventory, you need to show you use the space regularly, but you do not need to show the room is used exclusively for business.
In order for either scenario to qualify under an accountable plan, you must also show that the Company does not have any alternative location that you could perform these activities.
To show adequate substantiation of the expenses you should submit an expense report to the company listing the qualifying expenses you paid each month and the percent of square feet the home office makes up. Attach copies of any receipts or invoices to the report and retain them with your other tax documents.
The last point of returning excess advances can easily be avoided by not reimbursing yourself until after you pay the expenses. If you advance yourself the funds before you pay the expenses, you need to support the calculation of the advance and to show that any excess amount was refunded to the company.
Proper documentation is key when considering a home office deduction, and an accountable plan. The office should be kept clean of personal items. Reimbursements should be made on a regular basis(not at the end of the year). All expenses should be supported with documentation. If you fail to do any of these steps, it is more likely to have the IRS disallow your deductions.
If you are a partner or sole-proprietor, and have a room that qualifies as a home office, you are eligible to take the deduction on your individual return without having to run it through an accountable plan for the business. You also have the option of electing a simplified calculation that requires minimal record keeping.
Sole-proprietors take the deduction on the bottom of Schedule C. Partners or members of LLCs filing as a partnership claim the deduction on Schedule E with their entity’s activity. Partnerships and LLC’s need to include appropriate language in their operating agreement in order to qualify.