Business Entities & Owners - Are You Taking Advantage of the Home Office?
We are often asked if a company can take a home office deduction and the correct answer is “only if you’re a sole proprietor.” If you are the owner of an S corporation or a C corporation, you are not entitled to a home office deduction. The reason for this is that the business entity itself is not legally obligated for the expenses of your household. But there is good news. Business entities can reimburse their owners for their home office. The keyword here is reimburse. And you like the word reimburse because reimbursements are deductible by your company but non-taxable to you as the owner. This is much better than having your business entity pay rent to you for your home office for two reasons: First, the rent paid by the company to the owner is taxable. This is rental income and will need to be reported on the owner’s individual tax return. Second, under Internal Revenue Code Section 280, the business owner isn’t allowed to take any deductions against the rental income so what you have here is a situation where your company profits go down by the rent expense but your personal income goes up by the same amount and you don’t get anywhere. So what you really want is the home office reimbursement. That is because the company can deduct the home office reimbursement and that reimbursement is non-taxable to the business owner. Again, rent paid for your home office is deductible to the company but taxable to the owner. So clearly the home office reimbursement is the way to go.
Another thing we like about the home office reimbursement is you’re getting a deduction for items you already pay. This is done by deducting a portion of your household expenses. There are some rules you need to be aware of with this, however. Specifically, let’s look at a common situation where the business has a location to meet or service clients. In this scenario, the business owner will want to maintain an administrative office in their home. To qualify for the home office reimbursement, business owners must complete at least 50 percent of their administrative time at their home office. It does not matter what the other employees do or what their administrative functions are. Focus on the business owner. What administrative tasks or duties do they have and where/how are they performed? Again, you need to have 50 percent of the business owner’s administrative functions performed at their home office. Common duties you can do at your home office include billing, banking, invoicing, bookkeeping, ordering supplies, scheduling, emailing clients or prospects, education, research, reading journals or publications just to name a few. The important point is that the business owner needs to complete at least 50 percent of their administrative time from the home office.
So how do you determine the reimbursement amount? First, you need to determine the usable square footage of your home and the usable square footage of your home office. This will determine the home office percentage. Then you multiply the home office percentage by the monthly expenses of your home. This includes mortgage interest, property taxes, homeowners insurance, utilities, association dues, security monitoring, repairs and maintenance. The business needs to reimburse the business owner every month. This expense should be recorded in the company’s accounting system as an office expense. Remember, this is not rent and should not be recorded as rent.
What other items can you deduct? Your business can pay for and deduct 100 percent of the items you put into your home office like furniture such as desks, chairs, file cabinets, lighting, artwork etc. and also for your computer and software needs such as printers, scanners, monitors...the whole works. You can also deduct a reasonable part of your home’s internet service. All businesses need connectivity and that includes you at your home office. You can estimate your home internet usage and have your business reimburse you for the business portion.
There’s another big reason you want to maintain an administrative office in your home. That reason is business mileage. The IRS is very clear on this issue. If you have a home office, your business mileage starts at your doorstep thus eliminating the commuting rules. Normally, your drive from your home to your work location is non-deductible. By maintaining a home office, you increase your deductible business miles. Oftentimes, this is much more than your actual home office reimbursement. But the point is that you’re gaining deductions at the same time as you’re receiving non-taxable reimbursements.
It is very common for a business owner to maintain a home office. Special rules apply if your business has a separate location to meet or serve clients. To qualify for the home office reimbursement, the business owner must complete at least 50 percent of their administrative time at the home office. By doing so, the business can deduct a portion of the business owner’s household expenses and increase their mileage deductions.