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Unlock a home office deduction

by on
in Small Business Tax,Small Business Tax Deduction Strategies

A reader recently made an interesting point regarding an article on home office deductions. It concerned the issue of a taxpayer’s “principal place of business” when he or she doesn’t have a primary business location.

Strategy: Follow the letter of the tax law. If you conduct administrative duties at home and you have no other fixed location where you conduct such activities, you can qualify for home office deductions.

The rules in this area were changed by the Tax­­payer Relief Act of 1997 in the wake of a land­­mark Supreme Court case. (Soliman, 506 U.S. 168, 1/12/93) Now it’s easier for self-employed individuals to take write-offs.  

Here’s the whole story: You may be eligible for a home office deduction if your home is your principal place of business (meaning the place where you conduct most of your income-earning activities) or the place where you meet or deal with customers, clients or patients in the normal course of business. The deduction is based on percentage of business use of the home.

But what happens if you have, say, a landscaping business where you work at a different business location virtually every day? In that case, it’s more difficult to establish where your principal place of business is located.

Key facts of the case: The Supreme Court case involved Dr. Soliman, an anesthesiologist who performed services in three different hospitals for about 30 to 35 hours a week. He didn’t have an office in any of the hospitals.

Soliman’s only office was a room in his condominium. He worked there two to three hours a day on administrative matters, contacting patients, surgeons and hospitals by telephone, maintaining billing records and patient logs, preparing for treatments and presentations, etc. Soliman didn’t see any patients at his office.

The Supreme Court test required a comparison of all the locations where work is performed to see which one is most important to the business. Each case was to be decided on its own merits. While the top court said no one factor is necessarily determinative, it placed great weight on where the goods and services of the businesses were delivered.

But the 1997 tax law effectively repealed this arbitrary standard. It added two criteria that allowed more taxpayers to meet the principal place of business test. Under the existing rules, you may qualify for the deduction if:

  1. You use the home office to conduct administrative or management activities of your trade or business
  2. The trade or business has no other fixed location where you conduct substantial administrative or management activities.

Also, the law allows a deduction only if the office is exclusively used on a regular basis as a place of business. If you’re an employee, the exclusive use must be for the employer’s convenience. 

These rules now recognize administrative and management services as a valuable component of the “principal place of business” test in a wide range of fields. Going back to the landscaper, a home office where administrative matters are handled can qualify as the principal place of business, even though the taxpayer’s income-earning activities are conducted elsewhere.

Tip: The IRS is providing a simplified home office deduction, capped at $1,500 per year, beginning in 2013.

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