The home office needs to be used 100% exclusively for business
You need to determine the square footage of the office room
You need to determine the square footage of the home's living area as
total sq ft of the structure, less the stairways, landings, closets
and so forth.
Take a few pictures of the office each year and keep them, in case
there's an audit
You should be able to document how the office is used, how often it is
used. It needs to be used with "regularity" meaning
minimum of three or four days a week and for 10 hours of more per
week. A log book showing the time spent in the office is helpful.
For trading activity, this doubles to show that trading also was does
with "regularity" and with "continuity." For trading the time
spent should be for a good part of most every day watching and trading
the markets during trading hours Research done before
trading hours and after trading hours, while helpful, is likely not
enough to achieve trader status.
Each year, list all the expenses which will be allocated using the
percentage determined from the above square footage results:
Real Estate Property Taxes
Home Owner's Insurance
General Repairs and Maintenance
- Security System
- Condominium Common Charges
- Co-op Maintenance Fees
- Homeowner Association Dues
Rev. Rul. 99-17 Circumstances where daily transportation
between residence and work location is deductible
Telephone is usually listed separately. The first phone line
coming into the home is not deductible for the basic fees and local
phone calls §262(b). Separately listed long-distance charges for
the business can be deductible. A second line for the business
can be deductible.
Improvements, Additions, Major Construction may be capitalized and
depreciated over 39 years. Likewise the initial purchase price
may be allocated between Land/Building Lot and the Structure leaving
the Structure to be depreciated over 39 years.
Depreciation (Allowed or Allowable)
Some people say taking the depreciation deduction is a no-brainer.
And under current law, if that law remains unchanged until you sell
your home, it likely is a no-brainer. But history tells us that
every three to ten years the law regarding the Office in the Home is
turned upside down and a whole new ball game begins. (update
the 1997 law was changed for sales of taxpayer's residence after
12/23/08 and again for sales after 2008)
Here is an example of what the Depreciation deduction allows you:
Purchase price $750,000
Value of an improved Building Lot in that area. $325,000
Value remaining allocatable to the Structure: $425,000
Kitchen Remodeling $25,000
Depreciable amount $450,000
39 years life = $11,538 per year
sq ft of office: 144
sq ft of the home's living area 3,800
ratio of 144/3800 = 3.79%
Depreciation deduction 3.79% of $11,538 = $437
Assumed federal income tax rate 35%
35% of $437 = $153 in your pocket.
Hey $153 is still $153!
But consider this alternative: Take your special someone out to
a nice dinner once per month spending $65 on wine and a fine meal.
Have an substantial, earnest business discussion about the activity on
your monthly brokerage statement as you are waiting for the meal to
arrive. 12 months @ $65 + tip = $875 or more. $875
for business meals deductible at 50% @ 35% = $153 in your pocket.
Two law changes since the 1997 Taxpayer Relief Act allowing for the
exclusion of $250,000 of gain on a taxpayer's personal residence
($500,000 for married filing jointly):
or exchanges on or after December 24, 2008 - The $250,000 exclusion
will not apply to any part of the residence that is not used as a
principal residence if that part of the residence is separate from the
rest of the residence. (Regs. §1.121-1(e)(1) (generally
effective for sales or exchanges on or after Dec. 24, 2002). No
allocation required if both the residential and nonresidential
portions are within the same dwelling unit.)
For sales or exchanges after December
31, 2008 - The $250,000 exclusion will also not apply to gain
allocated to periods of nonqualified use. (Regs.1 §121(b)(4),
added by P.L. 110-289, §3092(a) )
More information is found in IRS Publication 587 -
A special exemption to the "allowed or allowable" rule for
depreciating the office is found on page 14.
The complications of electing to depreciate the structure and
improvements are found in IRS Publication 523 -
To avoid these complication, a special exemption to the "allowed or
allowable" rule for depreciating the office is found on pages 16 & 17.
More information is found here:
121(d)(6) RECOGNITION OF GAIN ATTRIBUTABLE TO DEPRECIATION. --
Subsection (a) shall not apply to so much of the gain from the sale of
any property as does not exceed the portion of the depreciation
adjustments (as defined in section 1250(b)(3)) attributable to periods
after May 6, 1997, in respect of such property."
"1250(b)(3) DEPRECIATION ADJUSTMENTS. --The term "depreciation
adjustments" means, in respect of any property, all adjustments
attributable to periods after December 31, 1963, reflected in the
adjusted basis of such property on account of deductions (whether in
respect of the same or other property) allowed or allowable to the
taxpayer or to any other person for exhaustion, wear and tear,
obsolescence, or amortization (other than amortization under section
168 (as in effect before its repeal by the Tax Reform Act of 1976),
169, 185 (as in effect before its repeal by the Tax Reform Act of
1986), 188 (as in effect before its repeal by the Revenue
Reconciliation Act of 1990), 190, or 193). For purposes of the
preceding sentence, if the
taxpayer can establish by adequate records or other sufficient
evidence that the amount allowed as a deduction for any period was
less than the amount allowable, the amount taken into account for such
period shall be the amount allowed."
Therefore, the only home office depreciation that needs to be
recaptured upon sale of a primary residence is the depreciated
actually deducted by the taxpayer.
(note: On 8-24-08 I am seeking verification from
12/06 JofA author who had conflicting opinion - on 8/27/08
verified with the author that the above position is correct)
When the business is an entity, but the office is in the home of the
owner of the entity:
If you are an owner the entity you have several choices for
handling the costs of a qualifying home office:
You might deduct the costs as an
unreimbursed employee business expense under on Schedule A. These
are itemized deduction are only deductible to the extent that the
total exceeds 2% of your Adjusted Gross Income.
The entity can pay you rent for the
home office. The entity might deduct the rent expense, the owner
would pick up the rent expense (basically a wash) and then your
expenses/depreciation are then deducted. There are numerous
complications and limitations using this method.
The entity might reimburse you for
the out-of-pocket costs of a home office under an accountable plan.
- The entity might require the
owners to provide a home office as a condition of ownership.
restrictions prohibiting the deduction when the entity is a
Home Office Deduction: Basic Requirements
Generally, expenses related to the rent, purchase, maintenance and
repair of a personal residence may not be deducted as a business
expense. However, taxpayers who use a portion of their home for
business purposes may be able to take a home office deduction if they
meet certain requirements. Expenses that may be deducted include the
business portion of real estate taxes, mortgage interest, rent,
utilities, insurance, painting, repairs and depreciation. Note: The
amount of depreciation deducted, or that could have been deducted,
decreases the basis of your property.
In order to claim a deduction for that part of a home used for
business, taxpayers must use that part of the home:
Exclusively and regularly as their
principal place of business, as a place to meet or deal with
patients, clients or customers in the normal course of their
business, or in connection with their trade or business where there
is a separate structure not attached to the home; or
On a regular basis for certain
storage use such as inventory or product samples, as rental
property, or as a home daycare facility.
In addition, taxpayers working as employees can claim this deduction
only if the regular and exclusive business use of the home is for the
convenience of their employer and the portion of the home is not
rented by the employer.
"Exclusive use" means a specific area of the home is used only for
trade or business. "Regular use" means the area is used regularly for
trade or business. Incidental or occasional business use is not
Non-business profit-seeking endeavors such as investment activities do
not qualify for a home office deduction, nor do not-for-profit
activities such as hobbies.
Example: An attorney uses the den in his home to write legal briefs or
prepare clients’ tax returns. The family also uses the den for
recreation. The den is not used exclusively in the attorney’s
profession, so a business deduction cannot be claimed for its use.
These requirements are discussed in greater detail in Publication 587,
Business Use of Your Home.
Computing the Amount of Home Office Deduction
Generally, the amount of the deduction depends on the percentage of
the home that is used for business. The deduction will be limited if
gross income from the business is less than the total business
A taxpayer can use any reasonable method to compute business
percentage, but the most common methods are to:
Divide the area of the home used for
business by the total area of the home, or
Divide the number of rooms used for
business by the total number of rooms in the home if all rooms in
the home are about the same size.
Taxpayers may not deduct expenses for any portion of the year during
which there was no business use of the home. If the gross income from
business use of the home is less than the total business expenses, the
deduction for certain expenses is limited. Publication 587 includes
examples, worksheets and additional information on computing the
Personal Expenses Are Not Business Expenses
It is important for taxpayers to realize that business expenses may be
deducted only if they are ordinary and necessary for the particular
type of business. Personal, family and living expenses are not
deductible under any circumstances. A common error is to deduct
expenses for a portion of the home that is not used regularly and
exclusively for business.
Example: The basic local telephone service charge, including taxes,
for the first telephone line into a home is a nondeductible personal
expense. However, charges for business long-distance phone calls on
that line, as well as the cost of a second line into a home used
exclusively for business, are deductible business expenses.
The IRS encourages taxpayers to familiarize themselves with the
requirements before taking a home office deduction and to keep
complete and accurate records to substantiate deductions. According to
IRS research, understated business income, including underreported
receipts and overstated expenses, is an area where compliance is a
concern. In addition to increasing outreach and education in these
areas, the IRS will also be focusing enforcement efforts, including
examinations, on these issues.
Issue Number: Summertime Tax Tip 2009-16
Five Facts about the Home
With technology making it easier than ever for
people to operate a business out of their house, many taxpayers may be
able to take a home office deduction when filing their 2009 federal
tax return next year.
Here are five important things the IRS wants you to
know about claiming the home office deduction.
1. Generally, in order to claim a business deduction
for your home, you must use part of your home exclusively and
- As your principal place of business, or
- As a place to meet or deal with patients, clients
or customers in the normal course of your business, or
- In the case of a separate structure which is not
attached to your home, it must be used in connection with your trade
For certain storage use, rental use or
daycare-facility use, you are required to use the property regularly
but not exclusively.
2. Generally, the amount you can deduct depends on
the percentage of your home that you used for business. Your deduction
for certain expenses will be limited if your gross income from your
business is less than your total business expenses.
3. There are special rules for qualified daycare
providers and for persons storing business inventory or product
4. If you are self-employed, use Form 8829, Expenses
for Business Use of Your Home, to figure your home office deduction.
Report the deduction on line 30 of Schedule C, Form 1040.
5. Different rules apply to claiming the home office
deduction if you are an employee. For example, the regular and
exclusive business use must be for the convenience of your employer.