An Overview of the Home Office Deduction for Doctors
Are you a self-employed physician? Learn how to make the most of the home office deduction come tax time
The home office deduction can provide significant tax benefits for self-employed physicians. But being aware of the right way to go about claiming it is essential to maximize this tax benefit for your specific situation.
Here’s what you need to know about getting the most out of your home office deduction:
Home and eligibility requirements
First, what is considered a “home” according to the IRS? A home is any property that provides basic living amenities and lodging. This could be a house, apartment, condo, mobile home, boat, barn, studio, unattached garage, and more. The definition is pretty broad.
Any self-employed individual or business owner of a C corporation, S corporation, or partnership qualifies for the home office deduction.
It’s important to note that employee expenses for the use of their home for business purposes are no longer deductible. However, employees can receive tax-free reimbursements for home office expenses.
For example, if the hospital does not allow a physician to get 1099 income, just W-2 income, part of the contract negotiation strategy could be to specify that some compensation is a home office expense. This would mean the organization gets that deduction, but it’s tax-free to the physician.
Requirements for a home office
For your home workspace to be considered a home office, it must be exclusively and regularly used as a principal place of business—where one meets or deals with patients, clients, or customers. Exclusive means that this is all the room is used for.
For example, if a doctor uses their living room to see patients but that room is primarily used for family gatherings, it is not exclusive. While there can be some overlap, a room that clearly has another purpose aside from seeing patients or doing other work would not qualify.
The IRS says that regular use is not incidental or occasional business use but on a continuing basis. So, the rule of thumb is that you have to use the office for at least 10 hours per week.
A principal place of business must generally be used for 80 percent of the business’s administrative or management use. Examples of administrative and management activities include billing, record-keeping, ordering supplies, reviewing journals, surgery dictations, and report creation.
How to calculate the deduction
There are two ways to approach the deduction. The first is the simplified method, in which you determine the square footage of your office (which has to be 300 square feet or less) and multiply that square footage by five dollars.
The second option is the reasonable actual expense method, and there are three approaches here. The first is the gross square footage method, which requires you to figure out the square footage of the entire home and divide the office’s square footage by that figure. The second method in this category is based on the number of rooms within the overall home (if they’re similar in size), which uses that number as the denominator in your calculations.
The third type of reasonable actual expense calculation would be to use the net square footage. This is calculated by subtracting the square footage of all hallways, bathrooms, stairways, foyers, water heaters, and heating and cooling equipment from the overall square footage, and using the remaining number as the denominator. It allows you to eliminate the common areas that other people use in the home.
The good news is that these calculations only have to be done one time and can be used year over year.
The simplified deduction is usually the smallest home office deduction amount, so it’s likely worth the extra work to go for the reasonable actual expense method. And the net square footage will result in the highest fraction since common spaces are eliminated from the denominator.
It’s wise to go through all of these methods to see which one gives you the best result.
Qualifying expenses
Next, you need to understand which expenses qualify for the home office deduction. These include costs related to your home, like your insurance, maintenance and repair fees, interest in your mortgage, property taxes, rent payments, security, utilities, and even pest control. Also, note that home depreciation is another qualifying expense.
It’s wise to move interest and property tax expenses from Schedule A to Schedule C. In doing so, you can save up to 15.3 percent in self-employment taxes.
Another important note is that you can actually write off all business miles you travel from home to work when you have a home office, as long as you eliminate standard commuting miles, which are not deductible.
Using a management or administrative company
There are two options for using a management or administrative company: you can either rent the home office out to the company or create what’s called an accountable plan. When you rent, there may actually be little to no tax benefit. And with an accountable plan, there are some requirements to be aware of:
- The deductible expense must be related to the business
- There must be adequate substantiation from the employee showing how the expense is connected to the business
- The employee has to prove that the expense meets tax law requirements
- Excess reimbursements, if applicable, must be returned within a reasonable period, or the excess will be taxed as income
Deductions involving COVID-19
There are also home office deductions related to COVID-19 relief that you could qualify for. Tax law indicates that certain payments are exempt in the event of a disaster, including those received for personal, family, living, or funeral expenses that were directly caused by COVID-19, and those received for personal residence repair or rehabilitation due to the disease.
These payments will not be taxed and can be deducted by the business. Examples include:
- Out-of-pocket medical expenses
- Equipment for remote work
- Funeral costs (employee or family member)
- Expenses related to childcare
Record-keeping tips
To get the most out of your home office deduction, make sure you keep detailed records so you can provide evidence of business-related expenses. Documents should provide information about your physical home office and proof that it is used exclusively and regularly for business purposes. Also, make sure you keep records about your home’s depreciation information, including if you’d updated the home, when you bought it, and the initial purchase price.
You need to maintain these records for either three years after the date you filed the tax return or two years after you paid the tax, whichever is later.
Make the most of your home office deduction by following all guidelines and knowing what you qualify for. It’s always smart to work with a tax professional so that you’re getting the best option possible. Contact the team at PhysicianTaxSolutions to learn more.