The usual S corporation treatment of a shareholder's home office costs is an accountable-plan reimbursement, not a direct deduction on Form 1120-S. For the, the corporation can generally deduct a valid reimbursement as a business expense, while the shareholder generally does not claim a separate home office deduction on Form 1040.

Question Answer
Can Form 1120-S include the shareholder's home-office costs? Yes, through a valid corporate reimbursement
Should the shareholder file Form 8829 for S corporation work? Generally, no
Is the reimbursement taxable wages? Not if the accountable-plan rules are satisfied
Can the shareholder claim unreimbursed home-office expenses personally? Generally, no
Does the home office need to qualify for business use? Yes

How Does an S Corporation Claim the Home Office Expense?

An S corporation generally handles the expense through an accountable reimbursement plan. The shareholder submits records showing the business-use portion of eligible home expenses, and the corporation reimburses that amount.

An accountable plan must meet three requirements:

  1. The expense has a business connection and relates to services performed for the S corporation.
  2. The shareholder adequately substantiates the expense within a reasonable period.
  3. The shareholder returns any excess reimbursement within a reasonable period.

Reimbursements that meet these requirements generally are not treated as wages. They are also not subject to federal income tax withholding, Social Security tax, Medicare tax, or FUTA tax.

The S corporation records the reimbursement as an ordinary business expense. The deduction reduces the corporation's income that passes through to the shareholder on Schedule K-1.

What Home Office Requirements Must Be Met?

The home office must generally be used regularly and exclusively for the S corporation's business. It must usually be one of the following:

  • The principal place of business for the S corporation's activities;
  • A place where the shareholder regularly meets clients, customers, or patients; or
  • A separate structure used in connection with the business.

A desk in a room that is also regularly used for personal activities may not meet the exclusive-use requirement. Occasional work at home, occasional telephone calls, or working from home for personal convenience may not establish a qualifying business-use area.

Which Expenses Can the S Corporation Reimburse?

The reimbursement should be based on a reasonable allocation of actual expenses supported by records. Depending on the facts, the costs may include:

  • Rent, if the shareholder rents the home;
  • Utilities and business-use portions of internet service;
  • Homeowners or renters insurance;
  • Repairs that benefit the business-use area;
  • A business-use share of general home repairs;
  • Office furniture and equipment used for the S corporation's business; and
  • Other documented costs connected with the business use of the home.

For example, assume the office measures 200 square feet and the home measures 2,000 square feet. The business-use percentage may be 10%. If eligible indirect home expenses total $6,000, the initial reimbursement calculation could be $600, subject to the corporation's policy and the type of expense.

The corporation should retain:

  • The allocation calculation;
  • Receipts and proof of payment;
  • The home's total square footage;
  • The office's measurements;
  • The business purpose; and
  • The reimbursement date.

Can You Use the $5-per-Square-Foot Simplified Method?

Do not automatically use the $5-per-square-foot simplified method for an S corporation reimbursement.

The IRS describes the simplified home-office method mainly as an option for taxpayers claiming a business-use-of-home deduction, such as a sole proprietor reporting income on Schedule C. The IRS instructions for Form 8829 also state that the form is not used for employee home-office expenses.

For an S corporation, the usual approach is a written reimbursement policy based on actual, supportable expenses. A tax professional should review any different method before the corporation uses it.

Can the Shareholder Deduct Unreimbursed Expenses Personally?

Usually, no. An S corporation shareholder who performs services for the corporation is generally treated as an employee for employment-tax purposes. Under current federal rules, most employees cannot claim unreimbursed employee business expenses, including home-office expenses, as miscellaneous itemized deductions.

Special rules apply to limited categories, including certain Armed Forces reservists, qualified performing artists, fee-basis state or local government officials, and employees with impairment-related work expenses.

A shareholder generally should not:

  • Pay home-office costs personally and deduct them on Schedule E;
  • Attach Form 8829 to Form 1120-S;
  • Deduct the same expense personally and through the corporation; or
  • Treat a personal expense as a corporate deduction without supporting records.

What Happens If the S Corporation Pays the Expenses Without an Accountable Plan?

An unsupported reimbursement or payment of personal costs can be treated as taxable compensation, a distribution, or another payment that requires correct reporting. The IRS warns that personal expenses paid by an S corporation for a shareholder may be treated as compensation for services.

A reimbursement that does not meet accountable-plan rules is generally included in the employee's wages and may be subject to payroll taxes. Calling a payment a "home office reimbursement" does not make it tax-free.

The reimbursement also does not replace the S corporation's obligation to pay reasonable compensation to a shareholder-employee who performs services for the corporation.

What If You Also Have a Separate Schedule C Business?

If the shareholder operates a separate sole proprietorship or single-member LLC, the shareholder may be able to claim a home-office deduction on Schedule C for that separate business.

The home office must be allocated between the S corporation and the separate business. The same expense cannot be claimed twice. Schedule C taxpayers generally use Form 8829 or the simplified method when applicable.

Bottom Line

Use this process for an S corporation home-office reimbursement:

  1. Establish a written accountable plan.
  2. Confirm that the office is used regularly and exclusively for the business.
  3. Calculate the business-use percentage.
  4. Keep receipts and other supporting records.
  5. Reimburse the shareholder through the S corporation.
  6. Record the payment correctly in the corporation's books and payroll records.

Home-office reimbursements can affect payroll, shareholder compensation, depreciation, and state tax reporting. Have the plan reviewed by a tax professional before using it.