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Ruling

Subject: Income tax: deductibility of home office expenses

Issue 1

Question 1

Are you entitled to a deduction for occupancy and running expenses for an area of the home used as a place of business under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Advice/Answers

Yes

Question 2

What percentage of the occupancy and running costs can you claim as a deduction?

Advice/Answers

You can claim a deduction of A% of the total occupancy expenses of your home including rent, council rates, water rates and house insurance if they are incurred by you.

In relation to the running expenses including electricity charges for heating/cooling and lighting, cleaning costs, decline in value, and repairs to equipment, you are entitled to a deduction for the expenditure actually incurred through the income earning activities which is additional to the private expenditure. You can use one of the two options discussed below for your calculation.

Relevant facts

You incorporated a company on 12 January 2009 with its registered address being the residential home of you and your spouse. You are the sole director of the company and your spouse is employed full time by the company.

Your residential home now functions predominantly as a place of business. This is your only place of business.

The following changes have been implemented in the home:

· Sign placed at front door.

· Conversion of second bedroom into an office.

· The living room primarily became a meeting room to receive clients featuring a meeting table, 3 seats and a sofa.

· Downstairs bathroom containing toilet facility is used by clients.

· Coffee making facilities placed on top of minimal table in the storage.

· Fax machine placed in the kitchen.

· Garage is used for parking commercial vehicle and storing tools.

· A portion of the backyard space is used for storing trade tools and materials for the business.

You also provided a copy of the floor plan which specified the function of each room and the area involved.

Your business card shows this residential home address as the place of business of the company.

You and your spouse currently rent the property. You do not have another residence besides this property.

Your clients visit the office twice a week to discuss plans and ongoing works. You provided a copy of the records of time spent in business.

Relevant legislative provisions

Section 8-1 the Income Tax Assessment Act 1997

Reasons for decision

Issue 1

Question 1:

Are you entitled to a deduction for occupancy and running expenses for an area of the home used as a place of business under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Home office expenses

Section 8-1 of the ITAA 1997 allows a deduction for any loss or outgoing to the extent that it is incurred in gaining or producing your assessable income, or it is necessarily incurred in carrying on a business for the purpose of gaining or producing your assessable income. However, you cannot deduct a loss or outgoing to the extent that it is capital, or of a private or domestic nature.

You will be entitled to claim a deduction in respect of your home office expenses if they satisfy the requirements of section 8-1 of the ITAA 1997.

Generally, expenses associated with a taxpayer's home are private or domestic in nature and therefore do not qualify as allowable deductions for taxation purposes. However, where the home is used for income producing activities and has the character of a place of business, a deduction may be allowable for a portion of the expenses.

Taxation Ruling TR 93/30 discusses the deductibility of home office expenses in respect of section 8-1 of the ITAA 1997. It classifies home offices into two categories:

· occupancy expenses relating to ownership or use of a home. These include rent, mortgage interest, municipal and water rates and house insurance premiums, and

· running expenses relating to the use of facilities within the home. These include electricity charges for heating/cooling and lighting, cleaning costs, decline in value, and repairs to equipment.

Place of business

Whether an area of the home has the character of a place of business is a question of fact which depends on the particular circumstances of each case. This is likely to be the case where a part of a residence is set aside exclusively for the carrying on of a business by a self employed person or where part of the home is used as a taxpayer's sole base of operations for income producing activities (for example, where no other work location is provided to an employee by an employer).

Taxation Ruling TR 93/30 sets out the following criteria, none of which are necessarily conclusive on their own, to be considered in determining whether a home office is a place of business:

· the area is clearly identifiable as a place of business;

· the area is not readily suitable or adaptable for use for private or domestic purposes in association with the home generally;

· the area is used exclusively or almost exclusively for carrying on a business or income producing purposes;

· the area is used regularly for visits of clients or customers;

· it is a requirement inherent in the nature of the taxpayers activities that the taxpayer needs a place of business, and/or

· the taxpayers circumstances are such that there is no alternative place of business and it was necessary to work from home.

Application to your circumstances

In your case, you have formed a company to operate your business. Both you and your spouse work full time in this business and a part of the residence is set aside exclusively for the carrying on of a business. You have implemented changes to necessitate the conversion of the family home into offices and meeting room.

Additionally, the home office is used as the sole base of operations for income producing activities, and you have no alternative place of business. It is necessary therefore, to work from home.

By having a sign placed at the front door of the house and home address printed on the business card, the property is easily identifiable as a place of business by the public.

You are seeking to claim home office type expenses for a number of areas of your home. These are now examined below:

(a) Living room - meet & greet area

In relation to the meet & greet area, the following points need to be taken into account:

· The area would not be exclusive for business use. You would be walking through this area on a regular basis when you use the front door to enter your home. The reason is that the door at the front of your property near the meet & greet area is the only access from the front.

· Furthermore, the area is readily suitable or adaptable for use for private or domestic purposes in association with the home generally. It would be reasonable to expect that you and your family would use the living room as a place to rest and entertain, as you do not have another living room in the house. On that basis, the private use that this area experiences could be expected to far exceed the use of the area for business meetings or as an access point for clients.

· You only use the living room to meet clients twice a week. This frequency is not considered high enough for the living room to be regarded as a place of business.

Given this situation it has to be concluded that the meet and greet area would not be used predominantly for business purposes. Therefore this area does not form a part of the business area of your home.

(b) Downstairs bathroom/toilet

In relation to the bathroom / toilet, the following points need to be taken into account:

· The area is for exclusive business use only. There is another bathroom / toilet area that you use for your own purposes elsewhere in the house.

· This room is used on a regular basis by clients of the business.

· It would not be considered unreasonable for someone in your profession to provide an area for personal hygiene. As such, it can be said that a bathroom/toilet area is part of an identifiable place of business.

In this case, it is evident that the bathroom / toilet is to be used for business purposes. Although an area such as this one can easily be used for private purposes, in this case this factor would not weigh heavily against this area being considered a place of business. The reason is that you have your own personal facilities separate from this elsewhere in the house. On that basis, the bathroom / toilet area would be regarded as a place of business.

(c) Storage and fax in the kitchen

In relation to the storage and fax in the kitchen, the following points need to be taken into account:

· The area would not be exclusive for business use. Having a fax machine or coffee making facility placed in the room does not mean that room becomes a place of business. Fax machine and coffee machine are not exclusive business assets. It would be reasonable to expect you and your family to use the fax machine and coffee making facility for private purpose.

· It would also be reasonable to expect that you would be storing personal items in the storage.

In this case, the storage and fax in the kitchen do not form a part of the business area of your home.

(d) Office

In relation to the office, the following points need to be taken into account:

· The area is for exclusive business use only. This room is designed to give you a place where you can perform administration tasks relating to your business.

· A home office which is used for administrative type work such as that which you are required to perform would generally be regarded as difficult to convert to a private use area.

· It would be reasonable for a business person to have an area set aside where administrative work can be readily conducted. In that room you would have desks and chairs, telephones and equipment required. To be able to use this room for personal use, you would have to remove all of these items and place them elsewhere. Given that this is not easy, the office would be regarded as a room that could not be easily converted to private use.

Given this situation, the office would be regarded as a part of the area of your house that is used in connection with your business.

(e) Garage

In relation to the garage, the following points need to be taken into account:

· The garage would be used to park cars that are used for both private and business purposes. It would also be reasonable to expect that in the garage you would be storing personal property associated with the garden such as lawn mowers and outdoor equipment that you may have eg. barbecue. The storage of such items would be regarded as a private purpose as there is no connection between such items and your business. Given this situation, the garage could not be regarded as being used exclusively for business purposes.

· Your garage would not be frequented by your clients.

· The garage of a home is generally not an identifiable place of business

Given this situation it has to be concluded that the garage area would not be used predominantly for business purposes. Therefore this area does not form a part of the business area of your home.

(f) Backyard

You set aside a portion of the backyard space as storage for trade tools and materials. In relation to that business use area of the backyard, the following points need to be taken into account:

· The area is for exclusive business use only for storing trade tools and materials that are associated with your business.

· It would not be considered unreasonable for someone in your profession to have a place where equipment and business tools can be stored. As such, it can be said that this area could be regarded as an identifiable place of business.

In this case it is evident that a portion of the backyard space is used exclusively for business purposes in association with the other areas of your house that are used as such. Given this situation, that portion of the area would be regarded as a part of the area of your house that is used in connection with your business. The other area of the backyard does not form a part of the place of business.

Conclusion

The above consideration shows that the downstairs bathroom, office and a portion of the backyard space are used as a place of business. You will be entitled to claim a deduction for both occupancy and running expenses for this area of your home under subsection 8-1(1) of the ITAA 1997.

Question 2:

What percentage of the occupancy and running costs can you claim as a deduction?

Taxation Ruling TR 93/30 discusses the deductibility of home office expenses in respect of section 8-1 of the ITAA 1997. It classifies home offices into two categories:

· occupancy expenses relating to ownership or use of a home. These include rent, mortgage interest, municipal and water rates and house insurance premiums, and

· running expenses relating to the use of facilities within the home. These include electricity charges for heating/cooling and lighting, cleaning costs, decline in value, and repairs to equipment.

You seek to claim a deduction for both the occupancy expenses and running expenses of your home. You are entitled to claim a deduction for this expenditure to the extent that it relates to the area of your home that is considered to be a place of business. This means that it will be necessary to apportion the total expenditure that you have incurred for these items between your personal living areas and the area used for business purposes.

Apportionment - Occupancy expenses

To calculate a deduction for occupancy expenses, it is necessary to apportion expenses between private and business/employment use. In most cases apportionment of expenses should be made on a floor area basis, and in addition, where the area of the home is a place of business for only part of the income year, a time basis.

Apportionment - Running expenses

You are entitled to claim a deduction for the running expenses in relation to the home office that is actually incurred through the income producing activities which is additional to the private expenditure.

To calculate running expenses, the Tax Office accepts a diary kept for a period of four weeks in order to establish the pattern of use for the whole income year. Two acceptable methods taxpayers can use are:

· option one - calculating the actual running expenses and apportioning them according to the pattern of business use shown in the diary, or

· option two - claiming a rate of 26 cents for each hour of business/employment use in respect of heating, cooling, lighting and depreciation of furniture. A diary can show the pattern of use. Note that decline in value of home office furniture is included in this calculation but you need to separately calculate some items (for example, telephone expenses, and decline in value of computers) and apportion according to the business use.

When calculating telephone/mobile phone deductions, an itemised phone bill can be useful to show the number of business/work calls made. Alternatively, you must record the use of the phone in a diary for a representative four-week period, to show the pattern of use, so that a reasonable estimate can be made.

Application to your circumstances

Occupancy expenses

As the rooms that have been set aside to perform the income earning activities are considered to be a place of business, you are entitled to a deduction for a portion of the occupancy and running expenses under section 8-1 of the ITAA 1997.

As discussed above, we have decided that the downstairs bathroom, office and part of the backyard space are used as a place of business. The total area of the place of business in your home is X square metres.

The total area of the property plus the backyard is Y sm.

Therefore, the percentage of the occupancy expenses you can claim as a deduction under section 8-1 of the ITAA 1997 is A% calculated as X divided by Y.

Running expenses

Option 1:

1) Heating/Cooling and Lighting Expenses:

The amount that you are entitled to claim is the difference between what was actually paid for heating/cooling and lighting and what would have been paid had you not carried on your business from home.

You can use the formula below for calculating the additional expense for an appliance:

Formula: (a) x (b) x (c)

where -

(a) is the cost per unit of power used;

(b) is the average units used per hour; and

(c) is the total annual hours used for income producing purposes, which is determined according to the pattern of business use shown in the diary.

Generally speaking however, the quantum of any allowable deduction for the additional expense will be small. Accordingly, a bona fide estimate based on a reasonable percentage of the household annual bill will be acceptable.

2) Depreciation

You are entitled to claim depreciation on items which are used wholly or partly for carrying out income producing activities. Where items used for business purposes are also used for domestic or private purposes you will need to apportion the depreciation allowance. To do this, a bona fide estimate of the percentage of business use of the item should be made. This is the proportion of the annual depreciation which you are entitled to claim.

Option 2:

You can claim a rate of 26 cents for each hour of business use in respect of heating, cooling, lighting and depreciation of furniture. Your diary can show the pattern of use.

However you still need to separately calculate some items (for example, telephone expenses, and decline in value of computers) and apportion according to the business use.

Telephone/mobile phone expenses

You can use an itemised phone bill which shows the number of business/work calls made to determine your entitlement to a claim. Alternatively, you must record the use of the phone in a diary for a representative four-week period, to show the pattern of use, so that a reasonable estimate can be made.

ATO view documents

Taxation Ruling TR 93/30

Keywords

Home office expenses

Deductions

Place of business

Apportionment