Home Office Is Tax-Deductible . . . Sometimes

The opportunity to write off a portion of one’s home on personal income taxes has long been a favorite deduction of home office workers. The allowance has somehow made the risks of home-based work worthwhile.

However, the fear associated with Form 8829, created in 1991 for the exclusive reporting of home office income and expenses, can dampen the glee. Some fear the form is a red flag that can trigger an audit. Others, like an anesthesiologist named Dr. Solomon,have been uncertain if their home office deduction could hold water.

Earlier this year the Supreme Court ruled that Solomon, who spent up to 35 hours each week attending to patients in hospitals while maintaining a home office for billing and storing files, was not allowed a home office deduction.

“Because of the ruling, the IRS now scrutinizes the essence of a business--where the bulk of important functions are performed,” said Gregg Ritchie, a partner at the accounting firm of KPMG Peat Marwick. “If most of the business functions are not performed at home, chances are the IRS will invalidate the deduction.”

Home office deductions are allowed, according to IRS tax code, if a site is “exclusively used on a regular basis as the principal place of business,” as a place to meet customers or functions as a separate structure.

Those criteria are used to weigh time spent working outside the home and the importance of functions performed there. The words “exclusively used on a regular basis,” for instance, should apply toward a deduction if a worker spends more than 50% of his time at a home office.

“The ruling and new tax form clearly indicate that taxpayers need to keep better accounting records,” said Ritchie, adding that documents of home telephone calls, client visits and calendar records should help. “This shouldn’t scare taxpayers away from taking home office deductions. Many have good facts to back them up and they deserve the write-off.”

An important exception to the deduction rule involves those who provide home-based child care. The tax code states that as long as a room is used regularly for a child-care business, it need not be used exclusively.

For example, a woman who uses her family’s den for children’s naps, her kitchen for cooking children’s meals and the family room for playtime can deduct all three rooms even though her family also uses the areas. A percentage deduction of the rooms would be taken, depending on how much time was spent performing child care duties in each area.

As with any home office deduction, a percentage of the square-footage of the home used for office space must be calculated. For example, a 200-square-foot spare bedroom used exclusively and regularly as an office in a 2,000-square foot house could be used to write off 10% of all household expenses, including rent or mortgage payments, utilities, house insurance and cleaning services.

For homeowners, the IRS allows an annual depreciation of the business portion of homes (counted as non-residential real estate), over a period of 29 1/2 years.

It’s unwise to claim a home office deduction during the year a home is sold. For tax purposes, the profit from selling the business part of the home must be recognized immediately. The profit cannot be rolled over into the new home, as allowed with the non-business portion.

For example, a $3,500 gain from a home’s business portion would far outstrip the $300 deduction received as a home office write-off.

For business equipment, Section 179 deductions allow an annual write off of up to $10,000 of equipment. The deduction can be claimed all in the first year. Computers, calculators, copiers and the like can be depreciated over five years or in the case of files, desks and fixtures, over seven years.

The IRS distributes free booklets about home office deductions: “Business Use of Your Home,” Publication 587; “Depreciation,” Publication 534 and “Selling Your Home,” Publication 523. Phone (800) TAX-FORM. For additional questions call (800) TAX-1040.