Taking a deduction for your home office is a scary endeavor for many tax payers. They hear the horror stories about people getting audited because they took the deduction. There’s nothing to fear! As long as you fit the requirements and legitimately have home office expenses, then it’s a deduction that can save you a lot of money every year. Official IRS information can be Found Here.
The task, however, gets a little more complicated when you are a greater than 2% shareholder of an S-Corp. Prior to the IRS making a recommendation to use the Accountable Plan and subsequent reimbursements to the employee (or shareholders), taxpayers would charge their corporation rent and declare the rent as income on Schedule E. While this plan works, it’s not ideal and doesn’t save the most money. The new way is to use an Accountable Plan and reimburse yourself for expenses associated with the home office. Remember, if you are an S Corp owner, you are both shareholder and employee.
Reimburse Yourself for the Home Office
The expense report should detail several items: (1) the space used as a home office as a percentage of overall square footage of the home, (2) this percentage is then applied against (a) rent, (b) mortgage interest, (c) property tax, (d) utilities, (e) HOA dues, (f) insurance, (g) repairs, and (h) other miscellaneous expenses to determine the expense amount to be reimbursed.
Unlike deducting a home office on your personal return, there is no depreciation or mortgage principal payments that can be expensed and reimbursed. Depreciation would normally be allowed under the traditional home office deduction on your individual tax return. The nice thing is you don’t have to carry forward the depreciation schedule to recapture it when you sell or worry about recapturing income.
Remember that two biggest expenses associated with a home office are mortgage interest and property taxes. These expenses are already deductible on your personal Form 1040, Schedule A. When deducting these expenses on your personal return, you must reduce your mortgage interest and property taxes being deducted on Schedule A by the amounts reimbursed by your company. The IRS doesn’t allow you to take the same deduction twice.
Basically, with a home office you are only deducting the items that you otherwise cannot deduct on Form 1040, Schedule A. However, for those taxpayers who are seeing Schedule A deductions being phased out due to high income and / or Alternative Minimum Tax (AMT), using the home office reimbursement is a way to ensure these deductions are not phased out.
This can get complicated pretty quickly which is why we suggest hiring a professional to get involved. By using Nottingham CPA PC to prepare both your personal and business return, it can be advantageous in seeing the big picture and taking the proper deductions by using the proper vehicle.
Sample Agreement to Adopt an Accountable Plan document thanks to wilsonrodgers.
Remember, there is a safe harbor provision for your home office where you can deduct $5 per square foot of your exclusively used office space. This deduction is taken on Form 8829 for LLCs and Form 2106 for S corporation shareholders / employees.
Using the reimbursement method for home office use means you cannot use the safe harbor method. You must use your actual expenses. Contrast this to the mileage reimbursement deduction since the IRS gives you the option to use a rate per mile regardless of what you spend.
A shout out to Watson CPA Group for their thorough investigation into this issue.