Reimbursing Your Home Office Expenses

The COVID-19 pandemic has led to a large number of people working from home, and with that comes the question of reimbursements for home office expenses. While federal law does not require employers to pay for work-related expenses incurred by employees working from home, many state laws do. These state laws often require reimbursement for necessary job expenses such as office supplies and equipment.

Some companies give employees a set allowance to help with the financial burden of setting up a home office, while others offer a one-time setup allowance with either complete or partial ongoing reimbursement for the employee's home internet service and mobile phone service.

Understand the requirements for reimbursement

To understand the requirements for reimbursement of home office expenses, it is important to first clarify your employment status. If your employer lists you as an employee for tax purposes, then you are an employee. This means your employer is responsible for issuing a W-2 form every year, reporting your income and other compensations to the IRS.

If you are an employee, you cannot take the home office deduction on your tax return. This rule came into effect with the Tax Cuts and Jobs Act of 2018 and will remain in place until 2025. However, you may be able to get reimbursed for your home office expenses by your employer. This reimbursement can be tax-free for you and deductible for your employer if certain requirements are met.

The first requirement for reimbursement is that you must work at home for your employer's convenience. This means that working remotely must be a necessity or a requirement by your employer, not a choice. For example, if your office was closed temporarily due to COVID-19 lockdowns, this requirement would be met.

The second requirement is that you must use a portion of your home regularly and exclusively as your employee office. This means that the space should be used only for business purposes and with regularity. The size of your home office will impact the amount of reimbursement you can receive, with larger home offices resulting in larger reimbursements.

The third requirement is that you must be reimbursed under an accountable plan. This means you must make an "adequate accounting" of your expenses, submit expense reports and receipts to your employer in a timely manner, and promptly return any excess reimbursement. If these rules are not followed, your employer must treat the reimbursement as taxable employee wages.

In addition to these requirements, some state laws mandate reimbursement for job-related remote employee expenses. These states include California, Illinois, Montana, New Hampshire, Iowa, and Pennsylvania. Even in states where reimbursement is not legally required, some employers may choose to cover these expenses to maintain fairness and boost employee morale and productivity.

Know the difference between direct and indirect expenses

When it comes to reimbursing yourself for your home office, it's essential to understand the difference between direct and indirect expenses. This distinction is crucial for accurate financial reporting and tax purposes. So, let's delve into the details of these two types of expenses.

Direct expenses are those directly linked to the production of goods or services. They are traceable and confined to a particular department or area of your business. For instance, if you pay for painting or repairs only in the area used for business, this would be a direct expense. These expenses are variable, meaning they fluctuate based on the production rate or the number of items produced. Direct expenses are essential for evaluating the gross profit of your company and determining the actual cost of producing a product or service.

On the other hand, indirect expenses are not directly tied to the production of goods or services. They are spread across multiple areas of your business and are often related to general office expenditures. For example, insurance, utilities, and general home repairs are typically considered indirect expenses. Like direct expenses, indirect expenses can also be fixed or variable. Fixed indirect expenses remain constant over time, while variable indirect expenses may change. These expenses are crucial for evaluating the net profit of your business and understanding its income statement.

It's important to note that the distinction between direct and indirect expenses is crucial for tax purposes. Direct expenses are typically included in the cost of goods sold, while indirect expenses are classified as business expenses. This differentiation is essential when claiming tax deductions, as the Internal Revenue Service (IRS) requires a clear separation between these two types of expenses. Misclassifying them can lead to scrutiny from the IRS and potentially missed tax deductions.

Additionally, understanding direct and indirect expenses is vital for pricing your products or services. Direct costs play a key role in determining the pricing of your offerings, as you want to ensure that your revenue exceeds these expenses. Indirect costs, on the other hand, are essential for understanding your overall business expenses and allocating resources effectively.

In conclusion, knowing the difference between direct and indirect expenses is crucial for maintaining accurate financial records, making informed business decisions, and ensuring compliance with tax regulations. By properly categorizing and tracking these expenses, you can make more informed decisions about your business operations and maximize your tax benefits.

Learn about accountable plans

An accountable plan is a reimbursement program that allows employers to reimburse employees for business expenses incurred while performing their jobs, including home office expenses. This plan outlines how a company will reimburse expenses and which expenses qualify for reimbursement. When using an accountable plan, reimbursed business expenses are not considered compensation, and are therefore tax-free for employees, while the business is allowed to deduct these expenses.

There are three rules for implementing an accountable plan:

• Expenses must have a business connection: The employer must authorize the purchase for a legitimate business purpose. Home office expenses can include a portion of the home's mortgage interest, real estate taxes, utilities, home insurance, or rent.
• Adequate accounting of expenses: Employees must account for their expenses to their employer within a reasonable period, usually 60 days. This can be done through an expense report, trip sheet, or log.
• Any excess advances to the employee must be timely repaid: Employees who receive advances for expenses must return any unused funds to the employer within a reasonable period, usually 120 days.

If any of these standards are not met, the plan is considered non-accountable, and reimbursements become taxable compensation for the employee.

The accountable plan is a valuable tool for encouraging employees to pursue business goals and for employers to deduct expenses incurred while pursuing these goals. It is also a way for employees to be reimbursed for expenses when an employer does not offer reimbursement or when reimbursement is not available due to changes in tax laws.

Calculate the percentage of your home used for work

When calculating the percentage of your home used for work, you must first determine the size of your home and workspace. Measure the total area of your home in square metres or square feet. Then, measure the size of your workspace. If your workspace is a designated room, this is straightforward. If you work in a common area, such as a dining room table, you must calculate the percentage of that space used for work.

Next, you must divide the size of your workspace by the size of your home and multiply the result by 100 to get the percentage of your home used for work.

For example, if your home office is 150 square feet and your house is 3,000 square feet, your workspace is 5% of your home.

If you work in a common area, you must also determine the percentage of time you use that space for work. For example, if you work 40 hours a week at the kitchen table, you divide 40 by 168 (the total hours in a week) and multiply the result by 100 to get the percentage of time you can claim for the workspace.

Finally, to calculate the percentage of your home that is used for work, multiply the percentage of your home that is your workspace by the percentage of time you use that workspace for work.

For example, if your dining room is 12% of the total square footage of your house and you use it for work for 40 hours out of a total of 168 hours in the week, the percentage of your home used for work is 2.8%.

Check if your state mandates reimbursement

It is important to check the laws of your state to see if reimbursement for home office expenses is mandated. While federal law does not require employers to reimburse employees for remote work expenses, some states have specific statutes that do.

As of 2023, 11 US jurisdictions require businesses to reimburse employees for certain necessary expenses. These include:

• California
• District of Columbia
• Illinois
• Minnesota
• Montana
• New Hampshire
• North Dakota
• South Dakota
• Seattle
• Iowa
• New York

In California, employees are entitled to reimbursement for all reasonable financial losses that occur from doing their job. This includes home utilities, travel expenses, and attorneys' fees incurred while recovering reimbursement for other expenses.

In the District of Columbia, employers are required to reimburse employees for the cost of purchasing and maintaining any tools required for the employee's job. This can include internet and cell phone costs for remote workers.

Illinois law mandates that employers reimburse employees for all necessary expenses or losses, including phone and internet reimbursement when used for remote work. Employers can specify what they will pay for each type of expense, and employees must submit reimbursement requests within 30 days of incurring the expense.

Minnesota law requires employers to provide a policy that offers reimbursement for certain expenses upon termination of employment. Reimbursable expenses for remote workers can include consumable supplies or purchased or rented equipment that can't be used outside of employment.

Montana employers are required to reimburse employees for all necessary expenses, which can include remote work expenses such as internet and cell phone bills.

New Hampshire law mandates that employers reimburse employees within 30 days for expenses connected with employment, including those incurred while working remotely.

North Dakota employers are required by law to reimburse employees for expenses related to necessary duties or incurred at the employer's direction. This can include cell phone or internet costs for remote workers.

South Dakota employers must reimburse employees for necessary expenses, which can include cell phone and internet expenses for remote workers.

Seattle employers must reimburse employees for any necessary expenses or losses incurred while performing their job duties or following the employer's directions. This can include remote work-related expenses.

Iowa's expense reimbursement law only applies to expenses authorized by the employer. Employers must provide a policy that reimburses employees for authorized necessary business expenses and provide payment within 30 days of receiving a claim.

New York law states that employers are guilty of a misdemeanour if they fail to abide by the terms of any benefit or wage supplement agreements, including expense reimbursement agreements.

Frequently asked questions