Qualifying for a Home Office Deduction

April 13, 2006

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The requirements of the home office deduction are strict. To qualify, your home office must be used exclusively and regularly for business and:

be your principal place of business, or
be used to personally meet with clients or customers in the normal course of your business

Exclusive and regular business use. You don't necessarily have to use a portion of your home as an office; it could be a showroom, lab, or storage area. However, you must use it regularly, not just occasionally. "Exclusive use" means that the business part of the home may not be used for any personal, family, or investment activities, or for any other business activities that don't meet the home office requirements.

There is an exception to the "exclusive use" requirement if your home is the only fixed location of a retail or wholesale business. In that case, you can deduct expenses that pertain to the use of part of your home for the storage of inventory or product samples.

Patrick Daley's home is the sole, fixed place of his business selling personal computers at retail. He regularly uses half of his basement for inventory storage, although he also uses that part of the basement for personal purposes when his inventory is low.

The expenses allocated to the storage space are deductible even though he does not use that part of the basement exclusively for business.

There is also an exception to this exclusive use requirement for those who operate a child care business in their home. The portion of the home that is used regularly for day care qualifies as a "home office," even if it is also used for personal and family living space. However, day care operators face an additional time restriction: they may only deduct expenses for the actual time the day care center was open.

The "principal place of business" test is significantly easier to meet than it once was. Currently, a home office will qualify as the principal place of business if: (a) the office is used by the taxpayer to conduct administrative or management activities of a trade or business, and (b) there is no other fixed location where the taxpayer conducts substantial administrative or management activities of the trade or business.

Separate structures. If your home office is a separate structure that is not attached to your residence, you may qualify for the home office deduction without meeting the exclusive use requirement. In this situation, the structure merely has to be used in your trade or business.

The fact that you may conduct management activities in a non-fixed location, such as a car or hotel room, will not cause you to lose the deduction. Similarly, the fact that you conduct some management activities in another fixed location of the business will not cause you to lose the deduction, as long as those activities are not "substantial."

Are you eligible as an employee? If you or your spouse is an employee, including an employee/shareholder of a small corporation, you must be using your home for the convenience of your employer in order to qualify for the home office deduction. If your employer provides you with office space elsewhere, you probably can't take the home office deduction because your home would not be considered your principal place of business.

The IRS specifically prohibits you from taking the home office deduction if you rent all or part of your home to your employer and then use the rented portion to work in as an employee.

Personal Checklist: See if you meet the requirements to qualify for the home office deduction

If you don't qualify. Even if you don't meet these strict requirements, you can still deduct certain expenses that are directly related to your business activities.