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Is the home office deduction a red flag for an IRS audit?

By Sean M. Hugo, CPA

Business owners, freelancers and contractors alike have all too often heard a well-intentioned friend say, "Don't take the home office deduction! You'll get audited!" So, is it true? Is the home office deduction a red flag for an IRS audit? Are there requirements for the home office deducation?

Tax Fun Fact 1.pngAccording to IRS.gov, "If you use part of your home for business, you may be able to deduct expenses for the business use of your home. The home office deduction is available for homeowners and renters, and applies to all types of homes. "

While it used to be a red flag, this is no longer true--as long as you keep excellent records that satisfy IRS requirements. Because of the proliferation of home offices, tax officials cannot possibly audit all tax returns containing the home office deduction.

In other words, there is no need to fear an audit just because you take the home office deduction. A high deduction-to-income ratio however, may raise a red flag and lead to an audit.

What Are the Requirements for the Home Office Deduction?

For a full explanation of tax deductions for your home office refer to the IRS's Publication 587, Business Use of Your Home. Here is a broad overview of the home office tax deduction rules:

1. Regular & Exclusive Use

You must regularly use part of your home exclusively for conducting business. For example, if you use an extra room to run your business, you can take a home office deduction for that extra room.

2. Principal Place of Your Business.

You must show that you use your home as your principal place of business. If you conduct business at a location outside of your home, but also use your home substantially and regularly to conduct business, you may qualify for a home office deduction.

Additional tests for employee use. If you are an employee and you use a part of your home for business, you may qualify for a deduction for its business use. You must meet the tests discussed above plus:

  • Your business use must be for the convenience of your employer, and
  • You must not rent any part of your home to your employer and use the rented portion to perform services as an employee for that employer.

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