Taking a deduction for home office expenses is trickier for an S Corp business but it it still a legitimate deduction if done properly. It is important that you carefully structure the relationship between yourself and the S corporation. Done properly, the deduction is available to those who use a portion of their homes regularly and exclusively for conducting business and for whom the home is their principal place of business.
Unlike a sole proprietorship or a partnership, the business owner is an employee of the corporation. Because of that, there are additional tests the S Corp must meet to take the deduction legitimately. First, the business must use the property for the convenience of the employer. Second, the employee cannot rent any part of the home to the employer. Rent payments for home use have been specifically disallowed by the tax courts.
That being said, there are 2 ways the S corporation owner can claim a deduction for home office expenses. The first is to claim a miscellaneous deduction for unreimbursed employee expenses. Their are two problems with this approach. First, this deduction is claimed on Schedule A and is only available if you itemize. Second, if you do itemize, the deduction is limited to that expense which exceeds 2% of your adjusted gross income, reducing its benefit.
The second way is to have the S corporation reimburse the expenses that are allocable to the business use of home. If the S corporation has set up a valid reimbursement plan, the taxpayer can exclude those reimbursements from income on his personal tax return under the fringe-benefits provisions of the tax law.
This requires good record keeping showing expenses submitted to the corporation and payments made to the business owner as support for the deduction if audited by the IRS, as well as a written reimbursement plan as mentioned above. The payments are not taxable to the owner and are deductible to the business.
Note that if the deduction generates a loss in any given year, it is not deductible in that year but must be carried forward.
The business owner should also have a letter from the corporation to the owner stating why the business use of the property is for the convenience of the employer.
Incorporating and electing to be taxed as an S corporation can be a great way to pay less in taxes on business income. If you are wondering if an S corporation is right for you, let us take a look at your current corporate structure and make a comparison. It is less expensive than you might think to make the change and the tax savings continue each year.
If you already have an S corporation and need help setting up the reimbursement plan, give us a call.
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