Where a taxpayer’s Schedule C is negative or close to negative, there are issues that should be considered when claiming the home office, the Sec 179 expense, and the 50% bonus depreciation. Determining which combination produces the best current result while preserving future deductions may require trial and error with combinations in your tax software.
Section 179 Expensing – The amount of Section 179 expense deduction is limited to the amount of taxable income from any of a taxpayer's active trades or businesses. For this purpose, taxable income is computed without regard to:
1. The cost of any qualified expense property,
2. The above-the-line deduction for a portion of self-employment tax,
3. Any net operating loss carryback or carryforward, and
4. Any deductions suspended under the passive activity rules.
Employees are considered to be engaged in the active conduct of the trade or business of their employment. Thus, wages, salaries, tips and other compensation (not reduced by unreimbursed employee business expenses) derived by an employee are included for purposes of the taxable income limit (Reg § 1.179-2(c)(6)(iv)).
So, if the taxpayer or spouse has other sources of earned income besides the Sch C business, the Sec 179 expense can produce a negative Schedule C. But doing that can impact the deductibility of the home office deduction.
Example - Computing Taxable Income Limits for Section 179: Joe purchased and placed in service some office equipment at a cost of $12,000. Joe's taxable income from his business was $7,000 (without regard to any Section 179 deduction for the equipment). Joe has a W-2 for $2,000 from a part-time job. His Section 179 deduction is limited to $9,000, but he may carry $3,000 of the expense forward to future years.
Bonus Depreciation – There are no income limitations associated with utilizing the 50% bonus depreciation or the de minimis expensing allowances permitted under the cap and repair regulations. Thus they can produce a business loss. However, one must consider whether it is better to limit these deductions and utilize longer-term depreciation to produce future deductions, rather than limiting the home office deduction. It is also better to utilize the bonus depreciation rather than the Sec 179 expense since Sec 179 has recapture provisions if the asset is taken out of service early.
Home Office - The deduction for the business use of a home is subject to the gross income limit from the business. Gross income for this purpose is defined as total income from the business less:
a. The business portion of expenses deductible even if the home was not used for business (e.g., mortgage interest, taxes, casualties), plus
b. The business expenses relating to the business, but not to the use of the home (e.g., supplies, advertising, etc.)
However, home mortgage interest, property taxes and casualty losses are always deductible whether or not a taxpayer claims a deduction for the business use of the home (Sec 280A(b)). Therefore, the prorated deduction for these expenses will always be allowed and is not subject to the gross income test. However, mortgage interest, taxes and casualty losses are used in the computation to determine whether the other expenses of the home’s use and depreciation are deductible, as illustrated in the four examples that follow.
Assume the taxpayer uses his home 20% for business.