Do you claim a tax deduction for a home office? Should you include or exclude your garage space in your calculations of business-use percentage?
Usable Space Concept
Ronald Culp earned an office deduction for 78 percent of his home. That’s a nice percentage, but what’s really interesting is how the court looked at Mr. Culp’s home in deciding that 78 percent business use.
Here’s how the court made the computation that produced the 78 percent business use of Mr. Culp’s home:
- The court counted the garage as office space because it could find no basis in law or fact for excluding it. (The garage held two printing presses and a large paper cutter that were integral to Mr. Culp’s business.)
- Regarding the utility room in the basement where the water heater and furnace were located, the court said this space failed the exclusive business-use standard for the home-office deduction and that such space counted as personal space.
- The attic, which measured 1,128 square feet, contained only 100 square feet of usable space. The court ruled that the other 1,028 square feet were not functional, because that footage was not accessible due to the slope of the roofline and/or the lack of flooring.
Observation. The printing took place in the garage, but the IRS said that such space was not usable space, and the IRS did not want it counted in the calculations. The taxpayer and the court agreed that the space should be counted in the calculations. Will this be true for other garages?
Garage Not Counted
According to the court’s description, Gene Moretti rented a 5.5-room house consisting of two bedrooms, a den, a living room, a dining room, and a half-kitchen. The court noted that “the house also had a garage” and that Mr. Moretti claimed business use of the den, living room, dining room, and garage.
The court concluded that only the den met the regular and exclusive use requirements for qualification as an office in the home.
To calculate the business percentage, the court used the number-of-rooms method and calculated that one room (the den) of the 5.5 rooms represented the business-use percentage of this home. The court ignored the garage even though Mr. Moretti tried to claim it as office space.
The Two Garage Case
In an effort to save time, the court tried two separate day-care cases together. Each case involved the use of a garage.
In both of these court cases, the IRS excluded the garages from its computations.
The court took the opposite view. First, it included both garages in the business-use-of-home calculations. Although it found that one garage met the requirements for the home-office deduction and one garage did not, the key point is that both garages were included in the calculations.
Detached Garage Triggers Different Rules
Tax law states that the term “dwelling unit” includes a house, apartment, condominium, mobile home, boat, or similar property and all structures or other property appurtenant to such dwelling unit. Thus, the IRS in its proposed regulations considers the detached garage part of the home because the garage is appurtenant to the home.
Does tax law treat the detached garage differently from the attached garage? Yes! The following two rules apply to the detached garage and not to the attached garage:
- To deduct an office in a detached garage, you do not have to meet the tough tests for a principal place of business or the alternative test for a place to physically see clients, patients, or customers. Instead, the test to claim an office in the detached garage is simply that you use the office in the normal course of business. (Beware: To eliminate commuting, which is the prime purpose for many home offices, you need the home office to be your principal place of business. With correct use, the detached garage can qualify as your principal place of business, just as a bedroom or an attached garage can qualify.)
- Unlike for the office inside the walls of your dwelling unit, where the $250,000/$500,000 exclusions are available to offset gain on sale of the home office, the business use of the detached garage requires a separate calculation of gain based on the allocation of proceeds from the sale. In other words, the office inside the walls of the home can escape taxes on the gain, using the home-sale exclusions, but the office in the detached garage has no such escape.
Takeaways
When you claim a deduction for an office in the home that includes business use of your garage, there’s no question that the garage space is part of the calculation.
There is no rule that says you have to give your garage space less weight than other space. Thus, if the garage is part of your calculation, your position is best served by counting the garage in full.
If you are using the number-of-rooms method and want to include the garage in your computations, the size of the garage might dictate two rooms or some other number. The half-kitchen in Moretti gives you a basis for why that should work.
If the garage is not part of your calculation, you might take the IRS position from Culp that the garage is not usable office space and thus should not count. The attic with the missing floor was not usable space. The garage with no heat and only a concrete floor should produce a similar result.
What is interesting in these court cases is that the IRS often excluded the garages, whereas the courts were eager to include them. Since you start any disagreement over your tax return with the IRS, this should work to your advantage.
You might think that the rules are a little unclear in this area. That’s true.
The science involved in tax law is finding cases, rulings, procedures, and publications that support your position. The art form is putting your spin on the deduction. That’s all you can do when neither the law nor the regulations give clear advice.
As you can see, the garage presents possibilities for the home-office deduction. If you would like to discuss your garage, please call me on my direct line at 509-543-7600 or send a request HERE.
August 2021
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