Tax Shelters for Small Business Owners (Part 2)

Two of the most classic phrases you hear thrown around by water-cooler tax experts are the “home-office deduction” and “writing off your equipment.” Everyone who knows nothing will insist that you can write-off just about every inch of your home, as well as your laptop, just because you return business emails from your couch.

While that would be nice, it’s the stuff of “IRS Urban Legends”. There are deductions, quite juicy ones in fact, that are offered for your home office use and equipment purchases. However, they are surrounded by complex rules to keep taxpayer abuse to a minimum.

The Home Office Deduction
Just because you occasionally work out of your house, doesn’t mean you can claim the home office deduction. In fact, if your employer (which includes yourself if you own the business) offers you a primary place to work, you are generally excluded from claiming the home office deduction.

In a nutshell, to claim the home office deduction, your home office must be your primary place of business and the space must be used for the exclusive use of the business. If you work at home full-time, but do not have a dedicated area that is not used for anything else, you cannot claim the deduction. Eligible taxpayers can deduct a proportionate percentage (based on home office square footage vs. total home square footage) of everything from property taxes to utilities.

The home office deduction is one of the more common audit triggers, so it’s generally recommended that you have a strong understanding of the rules before you try to claim it. IRS Publication 587 is a 30+ page guide to all the rules and calculations surrounding the home office deduction.

Deductions for Purchasing Equipment
If you’ve been around small businesses long enough, you’ll remember a day when all your long-term equipment purchases (a useful life longer than 12 months) had to be depreciated. Essentially, a portion of the equipment’s cost could be deducted every year against your business income.

Thanks to the Section 179 deduction, this is no longer true. The Section 179 deduction allows a business owner to deduct the entire cost of certain equipment, up to an overall limit, in the year that it is purchased. Proper use of the Section 179 deduction can effectively reduce a small business owner’s tax burden down to zero in any given year.

Eligible equipment includes things like manufacturing equipment, computer hardware, certain types of livestock, and storage equipment. Ineligible equipment generally includes land, intangible property, and inventory.

The maximum Section 179 deduction for 2007 is $125,000, subject to certain rules and limitations. For more information on the Section 179 deduction, check out IRS Publication 946.