By Dave Barnett, CPA
There was a time when many taxpayers shied away from the home office deduction because of its reputation as an “audit red flag.” However, since a 1993 court ruling led to congress expanding the qualifications, it has become a much more commonly claimed deduction. In fact, the home office deduction didn’t even make a recent Kiplinger list of the top 15 audit red flags. (Commissioner v. Soliman, 506 U.S. 168 (1993), Taxpayer Relief Act of 1997.)
The requirements for claiming the home office deduction are detailed in the Internal Revenue Code Section 280A.
To qualify for a deduction, a portion of the home must be used exclusively and regularly:
(A) as the principal place of business for any trade or business of the taxpayer,
(B) as a place of business which is used by patients, clients, or customers in meeting or dealing with
the taxpayer in the normal course of his trade or business, or
(C) in the case of a separate structure which is not attached to the dwelling unit, in connection with the taxpayer’s trade or business.
“Exclusively used” means any non-business use of the space disqualifies it. The term “principal place of business” also includes a place of business the taxpayer uses for administrative or management activities, if there is no other location where those activities are also conducted.
Employees have an additional hurdle to clear as Sec 280A also states that an employee’s home office expenses only qualify if the home office is for the convenience of the employer.
What expenses are eligible for the home office allocation? Home mortgage interest, property taxes, rent, insurance, and home maintenance costs qualify. Depreciation expense is allowable, but can also result in recapture income if you eventually sell your home. Form 8929 is used to calculate the deduction. Remember that your direct business expenses, including computers, fax machines, internet, and office supplies, could still be deductible even if your space doesn’t qualify for home office treatment.
Beginning in 2013, the IRS introduced a simplified method whereby taxpayers can elect to take a home office deduction of $5 per square foot, up to $1500, without filling out form 8929. The qualifications outlined above still apply.
Does the IRS still consider the home office deduction a “red flag” for audits? Only in the sense that sole proprietors filing Schedule C are more likely to be audited, whether the home office deduction is claimed or not. Ask yourself these questions… Does your space meet the IRS requirements outlined above? Are the allocated expenses reasonable and documented? Does the deduction reduce your tax liability enough to justify gathering and documenting the expenses, and filling out the form 8929? If so, then taking the deduction should create no more audit risk than claiming any other Schedule C business expense.
Dave Barnett attended the Centenary College of Louisiana where he received a Bachelor’s in Accounting. He’s been practicing public accounting for 32 years. Dave Barnett is a member of the Georgia Society of CPA’s. On his off time, he enjoys jogging and golfing.