The tax laws concerning home office deductions have changed significantly over the last two decades. During this time, the Tax Court has failed to provide a consistent interpretation of the law; in particular, the court has grappled with the principal-place-of-business requirement, which allows an individual to deduct home office expenses. With the 1990 Tax Court decision, Soliman v. Commissioner, the court finally has a handle on this complicated issue and has allowed greater leniency in home office deductions.
Taxpayers and practitioners need to be aware of these recent changes. The Tax Court gave a favorable decision in Soliman, in which a doctor took a home office deduction for a room he set aside in his apartment for the administrative duties he could not perform in his place of work; the Internal Revenue Service's response has been to vigorously oppose the opinion. However, taxpayers claiming similar deductions must understand the implications of the case to make optimum use of Soliman. An in-depth study of the legislation and court cases leading up to the Soliman decision follows. Understanding what has happened in the recent past will make it easier to understand the impact of Soliman and what it means for those taxpayers wishing to deduct home office expenses.
LEGISLATION BEFORE 1976
Before the Tax Reform Act of 1976, there was very little structure to the laws concerning home office deductions. Business expenses were allowed as deductions for three types of taxpayers:
* Self-employed individuals who used part of their home for trade or business purposes.
* Employees who maintained an office at home in connection with their duties as an employee.
* Investors who performed investment activities at home.
For these individuals, depreciation, rent, maintenance, utility and insurance expenses were allowed up to the allocable share used for business purposes. A deduction was allowed only if the office was required by the employer as a condition of employment and was regularly used for business. Some courts took a more liberal approach to home office deductions and allowed employees a deduction if maintenance of the office was "appropriate and helpful" to the employees' trade or business.
The appropriate and helpful test was a subjective one; it allowed expenses to be deducted if they helped the taxpayer perform some portion of the business in his or her personal residence. In application, however, this test caused some problems. Taxpayers were able to deduct personal expenses that would ordinarily be nondeductible under Internal Revenue Code section 262.
A 1970 decision, Newi v. Commissioney, sheds some light on the situation prior to the passage of the '76 act. (For a listing of relevant home office deduction cases, including complete citations, see the exhibit on pages 46-47.) Newi sold television time for a TV network. He did his work at night in his den, which was set off by partitions and a door. The network did not require Newi to set aside part of his home for office activities. Also, office space and equipment were available at the network in the evenings.
The Tax Court allowed an ordinary and necessary business expense deduction for a portion of Newi's rent, light and cleaning bills. The deduction was allowed even though the home office was not a requirement of the employer and the portion used for business was also used for personal activities at other times. This is just one case where the court used the "appropriate and helpful" test as a basis for the decision. Rulings such as this one caused much tension between the IRS and the Tax Court. THE TAX REFORM ACT OF 1976 Congress clarified and expanded certain areas of tax law regarding home office deductions by including new rules in the Tax Reform Act of 1976. Congress enacted IRC section 280A to clear up any discrepancies. It concluded the "appropriate and helpful" standard previously used by the courts in evaluating home office deductions was too ambiguous. …