Because of COVID-19, millions of people no longer go to the office but work from home instead, where they have had to set up workstations with desks, printers, high-speed internet, and other pricey items, often paid for out of their own pockets.
Many other workers have temporarily (or maybe permanently) fled expensive big cities for cheaper, more remote locations, often with lower taxes.
This article will walk through the tax treatment of home office-related expenses for employees and contractors as well as differences in taxes for those who relocate permanently or temporarily while working from home.
Employees Miss Out on Deductions
After-tax reform became law in 2018, employees lost the ability to deduct expenses related to maintaining a home office. Previously, employees could claim an itemized deduction for unreimbursed business expenses that exceeded 2% of their adjusted gross income. This included any work-related expenses for the business you conduct at home. For employees, those deductions are now gone.
Despite this unfavorable rule change, employees still need supplies and equipment to function effectively in their jobs at home. In an office work environment, the employer provides these necessities. Now, many employees working from home will need to procure these items for themselves. If you find yourself in this situation, you face one of three outcomes with respect to the financial and related tax implications:
- Your employer purchases the items and provides them to you.
- You purchase items and receive reimbursement from your employer.
- You purchase items and do not receive reimbursement.
In the first situation, these items would qualify as an employer-owned supply and thus would be a deductible expense on their tax return. Assuming the employer provides these supplies and equipment for non-compensatory business reasons, employees will not need to pay taxes on these items. This includes items that employees may also have available for personal use, such as a cellphone or computer because the IRS deems these as “de minimus fringe benefits.”
The second situation is similar. If the expenses count as “ordinary and necessary,” or those which your industry considers commonly accepted for conducting your trade or business, these reimbursements will not count as taxable income to the employee. To avoid having employees count these expenses as taxable income, employers should lay out an “accountable plan,” or a set of policies that state what qualifies for reimbursement when employees need to purchase supplies and equipment at home.
In the final situation, employees purchase the needed supplies and equipment but have no expectation of receiving reimbursement from their employers. Prior to the Tax Cuts and Jobs Act, if these expenses exceeded 2% of employees’ adjusted gross income, they could claim these deductions on their tax returns. This would offset some of the expenses picked up by employees. Unfortunately, that’s no longer true. No federal tax benefits exist at the moment.
Independent Contractors Get a Break
For independent contractors who buy home office equipment and supplies without being reimbursed, the tax picture is brighter. Independent contractors often have no expectation of reimbursement from their contracting company. As a result, people working in this capacity have access to self-employment tax deductions to lower their taxable income. They can also claim expenses such as depreciation on certain types of property, utilities, insurance, and more.
In the event a company provides equipment to the independent contractor or reimburses expenses, these items would fall under the first and second situations above, respectively. This allows the company to claim these expenses as deductions on their business tax return, not the contractor.
Relocating to Save on Taxes
Given the fact that many people can work from anywhere these days, it might not be news that many people have decided to relocate from higher cost of living areas to cheaper areas. Doing so might allow you to keep more of what you make through lower costs or tax savings.
In the event you’ve decided to relocate permanently to a locale different from the one you started in 2020, you might face a complex tax situation come 2021. If you’ve made a permanent move, you will need to file a tax return in both states this coming year. Going forward, you will only need to file a tax return in your new state as you would in any event where you move across state lines permanently.
If you stay away longer than six months on a temporary relocation, you will likely face a tax obligation in your home state as well as your temporary location. That means you may be required to file tax returns in both states.
Given the substantial drops seen in tax revenues across the nation, states will be keeping a close eye out for people trying to game the system by claiming to have moved to a lower-tax state permanently or have chosen to make it their primary residence when they really haven’t. States look for definitive links connecting the state and the resident. Such examples could include individuals establishing residency, owning or leasing residential property assets that produced income, making money from a job, or engaging in some other financial arrangement tied to a location. Saying you have permanently relocated will require you to prove your change of scenery comes as more than just a transitory decision. Most locations will require you to document this change by living in your new location for at least 183 days. You can back this up by officially changing items like your voter registration and driver’s license.
Bottom line, because states will be keen to review any relocations, you will want to take extra precautions when it comes to legitimizing your relocation in the name of saving on taxes.
Now, if only employees could deduct those moving costs alongside their work-from-home related expenses. Sadly, tax reform put an end to claiming both as an employee.