Small Business - A Special Advertising Supplement sponsored by Scotiabank - Monday, October 22, 2001
How SOHOs can make the most of deductions
Monday, October 22, 2001
Self-employment at home is a mixed blessing. There may be fewer interruptions than at an office, though there can be more distractions. There may be no need to buy an extensive wardrobe, as one might for working at an office away from home, but there's also a loss in terms of being able to query colleagues about problems and get instant answers.
In terms of income taxation, however, working at home has distinct benefits: An employee in a regular office has very few writeoffs, but a person with a home office usually has many.
"If you are self-employed, you have more discretion over expenses and you have more flexibility in being able to deduct expenses against your business," says Paul Hickey, a national tax partner at KPMG in Toronto.
The problem in preparing a tax strategy for a home office comes down to the self-assessment issue. One should be thorough in finding deductions but honest in measuring them. Good, detailed records are the starting point. Then comes a sense of what can and cannot be deducted.
Generally, those who have home offices can deduct rent or mortgage interest in proportion to the space used in the home. If a sixth of the house is used for a home office, then a sixth of house expenses should be deductible from income coming from the business done in the home.
Tax authorities recommend that one never deduct depreciation on the home. Doing so will cause a proportion of the exemption from capital-gains taxes on the sale of a principal residence to be lost. However, expenses related to the home, such as a proportion of property taxes, utilities, telephone and home insurance also may be deductible. As well, a homeowner can deduct a reasonable proportion of the amount spent on snow plowing, a garden service and structural repairs to the house as business expenses.
Still, there are limits to how much home-office expenses one can claim. Gena Katz, a principal at Ernst & Young in Toronto, notes that "you cannot create a loss with home-office expenses in any one year, not even for a startup business."
The home-office loss limitation applies to the current year. But losses in excess of the limit can be carried forward and used in future years against income generated by the business.
Not everyone who does business at home can claim home-office expenses. To be able to use the home-office deduction, a self-employed person must use the space claimed on a regular and continuous basis for business. A person who is an employee can deduct home-office expenses if it is the place where he or she mainly performs the duties of employment and/or if the home office is the place where the employer designates that work be done. Federal form T2200 can be signed by an employer to certify that the home office is the principal place of employment and then kept on file, Ms. Katz says.
These rules and limitations apply to the home office as the shell of the business. Within the office, the same rules applicable to most other businesses apply. The expenses of owning and running computers, printers and other peripherals, software, photocopiers and laser printers are deductible, as are the costs of business licences, business taxes, industry publications and other inputs to the business.
Owners of small or home businesses also can deduct the cost of health-insurance premiums for themselves and their family members, provided that the insurance is not superior to that given to other employees, Mr. Hickey says. There are limits to these premiums as well. For premiums to be deducted, business income must be at least half of the taxpayer's total income. Alternatively, income from sources other than the business cannot exceed $10,000 a year, he says. As well, there are limits to premiums that can be deducted: $1,500 for the business owner and spouse and $750 per child.
Automobile expenses are deductible to the extent that they are incurred in business use of the vehicle. Capital-cost allowance, gas, repairs, interest paid to finance the car, any leasing costs, oil changes and so on are deductible in an amount proportionate to the business use of the vehicle, measured against overall use. Logs should be kept showing the distances driven for business, the purpose of trips and the dates they occurred, and so forth.
Whether -- on an after-tax basis -- being self-employed in a home office is better than being employed in a conventional office is hard to assess. A sole proprietor tends not to be able to buy disability insurance in group plans and thus pays dearly for separate coverage. Intangibles such as being able to be near one's children or, for that matter, one's pets are hard to value. Yet there are significant tax benefits in self-employment, even if calculating them is complex.