In this episode of Coffee with Carl, attorney Carl Zoellner goes over the basics of using the Section 280A deduction for tax-free income.
Updated March 30, 2021
Wouldn’t it be incredible to make tax-free income and write it off as a business expense at the same time? It probably seems impossible. It’s possible with IRC Section 280a(g), which allows business owners to rent their home to their business.
How to Rent Your Home to Your Business with Section 280a:
- Schedule Meetings at Your House
- Take Corporate Minutes
- Find Comparables
- Invoice the Business
- Pay the Expense
- Issue a 1099 to Yourself
- Document Income/Expense Write Off
If you are self-employed, you are probably already aware of the home office deduction. The standard home office deduction allows you to write off up to 300 square feet of workspace in your residence at five dollars per square foot for a $1,500 annual deduction. If you use more space than that in your home to run a business, the area method and number of rooms method can be used to write off a larger portion of your home.
But Section 280a(g) offers business owners an additional perk: it lets them rent out their home to their business for 14 days out of the calendar year. That means your business can write off business events and meetings as a business expense, and you can collect the income. To make matters even better, this rental income is tax-free.
This may seem like a dishonest loophole, but it’s not. Businesses need meetings. Board meetings, tax planning meetings, shareholder meetings, and strategic planning meetings are just a few of the meetings that are necessary for a legitimate business. In most cases, a business would rent out a meeting room, conference room, or even a ballroom at a hotel. This rental would include charges for the space, state and local taxes, food, drinks, Wi-Fi, and any additional services.
You probably have a lot of the same things at your home: chairs, tables, food, drinks, and Wi-Fi. Why not just put that money in your own pocket, instead of paying a hospitality venue, like a hotel or restaurant?
This is where the IRS comes in. IRC 280A(g), or the “14 Day Rental Rule”, allows business owners to claim a home rental fee as a business expense. After all, if you weren’t renting the space from yourself, you would be renting it from someone else. And as long as the number of days on which you rent out your domicile to your business is less than 15 days, the income your business pays to your personal account is tax-free.
How to Rent Your Home to Your Business with Section 280a
Schedule Meetings at Your House
Put these meetings on your calendar, and know that you cannot claim more than 14 days worth of meetings at your residence. Note that these meetings cannot be for entertainment purposes.
Keep it on the safe side and only schedule these meetings with current clients and people in the business, not potential clients. Part of the advantage of scheduling these rental days over the course of the tax year is that you can write the charges for these rental services into your income ahead of time, which can help you map out your income plan for the rest of the year, such as trying to avoid a certain tax threshold or reach a certain gross income goal.
Take Corporate Minutes
These meetings need to be conducted for legitimate business purposes. Take minutes of these meetings, because you will likely need to submit them to the IRS if they decide to examine your business. In fact, you can even be proactive and submit them alongside your business tax filings.
You do not have to hire a notetaker for these corporate minutes, you can just take notes and transcribe them into a presentable format. If you are running a business, you are probably already familiar with the idea of accounting and notetaking to corroborate operating expenses and miscellaneous itemized deductions. The same principle is at work here: whether or not you usually take notes at meetings, if you are taking advantage of a tax deduction, you want to be able to back that claim up legitimately in case of an audit.
Shop around and find out how much hospitality venues charge for the type of meeting you would be hosting at your home. This will vary from area to area and require a little footwork. It’s often not necessary to call more than one hotel or restaurant and get their rates for events and services; you probably don’t need to do a thorough comparison of several venues. When it comes to buying and selling real estate, we typically recommend pulling a number of comparables, but in this case, it’s a safe bet that if one hotel is charging $1,000 for a one-day conference event, most other hotels in the area are charging a similar rate.
Invoice the Business
Create an invoice from you to your business. This invoice should specify all the charges and reflect the numbers indicated by your search for comparables. These invoices will come from you, the property owner renting out your qualified residence, to be paid by your business, the entity renting out the home instead of a typical business meeting venue.
The rental portion of your income will also be tax-free, so these invoices are important to save not only as indicators of operating expenses for your business, but also as an indication of tax-free income for personal purposes. Though an invoice can technically be as informal as an email exchange, it is better to use some sort of software or template that creates a standard invoice you can replicate 14 times so that it looks like a legitimate invoice.
Pay the Expense
Have the business pay this expense, for example, with a business check. Keep a paper trail to solidify the legitimacy of this transaction.
For example, you might stamp yourself served invoice as PAID, or issue a receipt. This paid expense will get the tax treatment of a business expense on the side of your business, just like any of the other operating expenses your business must shoulder, which are listed as a deduction against its gross income.
Again, you will want to make sure the pricing point of renting out your own personal real estate looks legitimate. An overgenerous amount paid on the side of your business, listed as an operating expense, could also be a red flag, just as much as overpricing your personal residence for tax-free income could look like a red flag on your personal tax return.
Issue a 1099 to Yourself
Any business that solicits the services or goods of someone who is not on their payroll needs to issue a 1099 at the end of the year. Contractors rendering services, suppliers, and venues providing meeting spaces are all entities that would receive such a tax reporting form.
Issue one to yourself (not your business). This form is in contradiction to the W2 the employers issue to employees. There are many stores and online venues that sell tax forms, including office supply stores and accounting software. You can also order them directly from the IRS. Remember to have at least two copies of the 1099, a copy for you and a copy for your business.
Document Income/Expense Write Off
Document this income on your own personal tax form, and write it off on your business taxes.
For most self-employed individuals, that means using Schedule C (Form 1040 or 1040-SR) to write off the rental expense. If you have a different type of business entity formation than the typical LLC or sole proprietorship (such as an S-corp) you may want to talk to your tax advisor.
The dispensation provided by IRC Section 280a is just one of the many beneficial tax breaks the IRS provides to self-employed individuals who own a qualified residence (which also allows you to take advantage of mortgage interest and property tax as write-offs against the income tax).
How Much Rental Expenses Can You Deduct?
Remember that IRC Section 280a(g) is meant to facilitate a tax benefit for legitimate businesses with legitimate business activity. If a local hotel would charge $1,000 for a one-day rental of a boardroom with drinks and snacks included, you should not rent space from yourself for $4,000.
Likewise, if you are having a business meeting of two individuals at your own residence, you should not use the comparison of a hotel ballroom for a shareholder meeting of 500 individuals.
Use common sense and good old honesty to gauge how much you should deduct, and do your research on comparable venue prices. In some cases, the IRS can actually limit how much you deduct for your home office expenses if you use the area method or number of rooms method, and certainly if you use the standard deduction for a home office, which is 1,500 square feet for the whole year. But there is no limit to what you can deduct in terms of a rental expense, other than what is legitimate and normal.
Can You Deduct Expenses if Your Property is Vacant?
In the wording of the legal language used by the IRS, IRC Section 280a relates to a dwelling unit. And according to the IRS, a dwelling unit “includes a house, apartment, condominium, mobile home, boat, or similar property, and all structures or other property appurtenant to such dwelling unit.” It does not include “that portion of a unit which is used exclusively as a hotel, motel, inn, or similar establishment.” It would seem from the wording of this statement that any property you own can be leveraged for the purpose of professional tax strategies, like renting your own dwelling to your business…even if it’s a vacation home or vacant property.
Keep in mind that the property in question must be something you own personally. If you have it under the umbrella of a business or LLC, you might want to consult with a tax professional.
A Business Owner Can Lower Their Personal Tax Burden with IRC Section 280a
Both businesses and individuals are always looking for ways to save money and learn how to pay less taxes. Unfortunately, most businesses and individuals (and individuals running their own businesses) often have their taxes done by someone with a limited understanding of the tax code and the many advantages it offers. That’s why it’s so beneficial, even crucial, for a business to work with a tax advisor who is familiar with federal and local tax codes, and who is also familiar with the business of their client, so they can make recommendations that will help them keep more money in their pocket.
Schedule a consultation with one of Anderson Advisor’s business tax experts today to determine whether it’s possible to rent your personal residence to your business in an effort to lower your tax burden!
Watch as Carl breaks down using the Section 280A deduction with your entity structure for legal, unreported (AKA tax-free!) income.
Resources mentioned in this video:
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