Since the pandemic, there has been an upward trajectory of home offices being set up by employees. Whilst previously, home office expenses were mostly claimed and deducted by business owners operating out of their houses, the dynamic has now changed. Today, with an increasing trend of work from home culture, home office expenses claimed by employees are now more prevalent than ever.
Home office expenses are claimed by employees in two ways:
- Home office expenses claimed by employees to the IRS
- Home office expenses claimed by employees to the employer
What are home office expenses?
Home office expenses are expenses that are incurred by individuals that use their personal home (or property) for office related expenses. Home office expenses are costs that are incurred as a result of employees operating from their houses. Home office expenses are mostly tax deductible. However, they need to include a multitude of different factors, based on which the decisions are made.
Home office expenses are claimed by employees because they imply that the personal space is used by the individuals for office work.
Examples of home office expenses
Home office expenses can be broadly segregated into two categories:
- Totally deductible home office expenses: These are the expenses that can be claimed altogether by the taxpayers. In this regard, it can be seen that there are several expenses that are relevant to the home office only. For example, home office stationery, and home office furniture are altogether relevant to the home office only, since they are not used domestically.
- Partially deductible home office expenses: Partially deductible home office expenses include expenses that are used by both, domestically, as well as for the home office. It can be seen there is a need to segregate these expenses so that the portion relevant to the home office can be categorized accordingly. Furthermore, it is also critical to ensure that only those expenses can be claimed that are relevant to the home office only.
Overview of tax rules for home office expenses
Under normal situations, all employees who want to deduct their home office expenses are supposed to meet two different conditions.
Firstly, it can be seen that employee is required by the contract of the employee to maintain workspace at their property, and pay for all the related expenses. Employers are also supposed to validate this particular requirement and hence, they are only eligible to claim deductions in case these forms are present in hand.
The second condition that is in place for home office employee should meet either of the following conditions:
- The workspace should be used for a majority amount of time – this implies that the workspace should be used by the employee more than 50% of the time.
- The employee should also use the workspace exclusively for earning employment income. This place should also be used for meeting customers, or any other clients while they are performing their work.
Employer Convenience Test
Employees are only supposed to claim for home office deductions if they maintain the home office primarily to suit the needs of the employer. In this regard, an employee’s home office is also deemed to be for employer’s convenience if the following conditions are met:
- Working from home should a condition of the employment contract
- It is necessary for the employer’s business to have the employee working from home
The aforementioned conditions need to be fulfilled in order for the employer convenience test to hold. If an employee chooses to work from home solely based on his own personal preferences, then the convenience test would no longer hold.
In case where individuals do not qualify for employer convenience test, they cannot claim for home office expenses under the rules laid down by the IRS. However, they can still claim these expenses from their employer.
Accounting for Home Office Expenses – claimed by the employees
From the perspective of the employer, in case an employee claims for reimbursement against the home office expenses, there is a need for a swift action to be taken place.
Depending on the covenants mentioned in the employment contract, the employer can then decide the way forward when it comes to these claims. In most cases, employers do end up reimbursing the employees, since it is only fair to do so. However, in case when it happens, it is important to make sure that companies are able to factor in the following aspects pertaining to the employers:
- Usage Ratio: Employers, just like the IRS, need to make sure that the employee has a specially designated office area in their house. For example, home office expenses for the entire house cannot be claimed. Expenses can only be claimed if there is reasonable evidence that the employee has made a place specific for working from home.
- Segregation of expenses: When they are claiming for utilities, the segregation of expenses should be very discrete. In this regard, it is imperative to understand that employees who claim for home office deductions are able to proportionately divide the expenses between the home office, as well as the general utilities of the household. Hence, this is done using the percentage method. For example, if the total area of the house is 1000 square yards, and the area designated for the home office is 100 square yard, this would imply that the utility and other costs will be multiplied by a factor of 0.1 in order to determine the costs relevant to the home office.
Therefore, once the employee claims for home office deductions, the employer then makes sure that all home office related regulations are taken care of, after which they can proceed on with the reimbursement process.
Accounting Treatment for home office expenses
Home office expenses that are reimbursed after employee claims are considered to be cash outflows from the perspective of the company. Hence, they are treated in a similar manner too. The journal entry to record this is as following:
|Home Office Deduction||xxx|
The accounting treatment for home office expenses claim by employees is only recorded once there is a significant probability that the amount will have to be paid for by the company. This implies that it is only recorded once there is reasonable evidence that the payment will eventually go through.