Tax advice for home-based businesses

This article appeared in Issue 3#2 (January/February 2009) of Business Franchise Australia & New Zealand

If you operate a business and do most of its work at or from your home, you are running a home based business. Running a home-based business is similar to running any other business and you can generally claim similar expenses to those conducted on dedicated premises.

However, there are two things specific to home-based businesses:

• expenses relating to the area of the home used for the business;
• motor vehicle expenses you incur travelling between your home and other business locations.

If you’ve been running a home-based business, you generally won’t qualify for a full exemption from capital gains tax (CGT) for your home when you sell it.

Expenses relating to the work area

If you carry out work relating to your business at or from your home, you may be entitled to claim a deduction for some of the expenses relating to the area you use for business purposes. These expenses fall into two broad categories:  occupancy and running expenses.

Occupancy expenses

Occupancy expenses are those expenses you pay to own, rent or use your home, even if you aren’t running a home-based business. You can claim a percentage of the occupancy expenses that relate to the area of your home you use to run your business activities.

These may include:

• rent or mortgage interest;
• council rates;
• house insurance premiums.

To be able to claim a deduction for occupancy expenses, an area of your home must be set aside exclusively as a place of business, must be clearly identifiable as a place of business, and must not be adaptable for private or domestic use.

A common way of working out how much to claim is to calculate the floor area you use for your business as a proportion of the floor area of your whole home. For example, if the floor area of your home office is approximately 10% of the total area of your home, you can claim 10% of your rent or mortgage interest, council rates and insurance.

In some circumstances, using the floor area of your home as the basis of your claim may not be the best method of determining how much to claim. In these cases, you can use an alternative method to work out how much of your home you use for business purposes. However, you will need to show that the method you use is reasonable and based on accurate information.

If you can claim a deduction for occupancy expenses, you won’t qualify for a full exemption from CGT for your home when you sell it.

Running expenses

Running expenses relate to the increased costs of using facilities within your home because of your business activities.

Running expenses may include:

• the cost of using a room (such as electricity and gas costs for heating, cooling and lighting);
• business phone and internet costs;
• the decline in value of plant and equipment (eg chairs, bookcases, computers, filing cabinets);
• the decline in value of furniture and furnishings (eg curtains, carpets, light fittings);
• the cost of repairs to furniture and furnishings;
• cleaning costs.

If you work at or from your home, you can claim a deduction for the additional expenses you incur in running your business. This means you must work out how much of the expense relates to your business and how much was private use to work out how much you can claim. 

You may be able to use your floor area to calculate some running expenses. For example, if the floor area of your home office is 10% of the total area of your home, you can claim 10% of heating costs.

Where you don’t have an area of your home set aside exclusively for business, you would need to show how you arrived at the amount you are claiming. Another method you could use is comparing utility accounts from before and after you started business to assess increased costs.

How you work out these additional costs is up to you, but you should be able to provide enough information to show your claim is reasonable and you have excluded the private proportion of expenses associated with normal living costs. 

If you are eligible to claim your running expenses but not any occupation expenses, you may be able to claim a full exemption from CGT for your home when you sell it. 

What deductions can you claim?

The tax deductions you can claim depend on the type of home-based business. There are three types:

1. those that have an area set aside exclusively for business activities;
2. those that have an area set aside primarily for business activities;
3. those that conduct some business activities at home.

1. Home is the principal place of business

This applies when an area of your house is set aside exclusively for business activities. This generally applies to a small business operator who has a main office set up in their home, a tradesperson who has their workshop at home, and a doctor, dentist or vet who has their surgery or consulting room at home.

If your home is the principal place of business you can claim a deduction for the following:

• The cost of using a room’s utilities, such as gas and electricity – These must be apportioned. If the business portion is based on anything other than the floor area (eg on actual electricity usage), you will need to clearly document your claim.
• Business phone costs – If a telephone is used exclusively for business activities you can claim for the rental and calls, but not the installation costs. If the telephone is used for both business and private calls you can only claim a deduction for business calls.
• Decline in value of office plant and equipment (eg desks, chairs, computers) – If the equipment (such as a computer) is also used for non-business purposes, your claim must be apportioned.
• Decline in value of curtains, carpets and light fittings.
• Part of your cost of owning or renting the house (such as rent, mortgage interest, insurance, rates), provided an area of your home is set aside exclusively as a place of business, is clearly identifiable as a place of business, and adaptable for private or domestic use.

You can claim the portion of these costs that relates to the room or workshop you use as a place of business. A common method of working out how much to claim is the floor area (as a proportion of the floor area in your whole home).

Something important to keep in mind is there may be capital gains tax implications when you sell your home.

2. You have a home work area

This applies when your principal place of business isn’t your home but you have set aside an area where you primarily conduct business activities. 

You can claim deductions for:

• the cost of using a room’s utilities, such as gas and electricity;
• business phone costs;
• the decline in value of office plant and equipment (eg desks, chairs and computers);
• the decline in value of curtains, carpets and light fittings.

You can’t claim a deduction for any part of the cost of owning or renting the house such as rent, mortgage interest, insurance and rates.

3. Work is done at home but not in a specific work area

This applies when your principal place of business isn’t at home, and you don’t have an area or room primarily or exclusively set aside, but you work from home. For example, you might bring work home and work on it for a few hours in the lounge room.

You can claim deductions for:

• the cost of using a room’s utilities, such as gas and electricity
• business phone costs
• the decline in value of office plant and equipment (eg desks, chairs and computers).

You can’t claim a deduction for the following:

• decline in value of curtains, carpets and light fittings
• any part of the cost of owning or renting the house (such as, rent, mortgage interest, insurance and rates).

If you claim a deduction on your utilities you will have to apportion these expenses and show how you worked out your deduction. You can’t base your claim on a floor area basis as the area is also used for non-business purposes.

Motor vehicle expenses

If you are carrying on a home-based business, you can claim the cost of trips between your home and other places if the travel is for business purposes.

For example, you could claim the cost of travel to:

• a client’s premises if you are working there or delivering some documents;
• purchase equipment or supplies;
• do your banking;
• the post office to mail out invoices;
• see your tax adviser about a matter related to your business.

There are a number of approved methods available to calculate motor vehicle expense claims. You can choose the method that suits your circumstances best.

Guide for home-based businesses

The Tax Office has developed a guide specifically for people who operate a business from home. 

The guide Home-based business can be used to help you:

• work out what home-based business expenses you can claim;
• understand how capital gains tax can apply to you;
• find out where to go for more information.

The guide contains examples, formulas and case studies to help you understand your business expenses and how capital gains tax may apply to you. If you do some work at home but do not run a business at or from your home, refer to the Tax basics for small business publications available from www.ato.gov.au/onlineordering or by phoning 1300 720 092.

Need help?

Online services

The Tax Office has a range of fast, convenient and secure online tools and calculators available from www.ato.gov.au/onlineservices to make it easier for you to comply with your business tax obligations. The Tax Office business portal www.bp.ato.gov.au can help reduce the time and paperwork associated with your tax transactions.

Free seminars

The Tax Office runs small business seminars on a range of topics, including GST, PAYG, activity statements and record keeping. To find out about your nearest seminar, or to make a booking, phone 1300 661 104.

Small business assistance program

The Tax Office’s small business assistance program is a free and confidential service tailored to suit the needs of any business, no matter how small. 

Visits are conducted by experienced tax officers at the business owner’s chosen location between 8am and 6pm on weekdays. Topics covered include registering for an ABN, paying GST, understanding tax obligations, record keeping and lodging activity statements.

Businesses can view a short presentation and arrange a visit by registering online at www.ato.gov.au/business or by calling 13 28 66 between 8am and 6pm weekdays.

More information

More information is available from the Tax Office website www.ato.gov.au or by calling 13 28 66.