BUSINESS-USE-OF-HOME EXPENSES

A sole proprietor who works from home can deduct part of the cost of running the home, but only if the workspace meets one of two tests and only up to the business income left after all other expenses. The claim is calculated in Part 7 of Form T2125 and carried to line 9945. This page explains the two tests, how to work out the business-use percentage, which home costs qualify for owners and renters, how the income limit and carryforward work, and the consequences when the home is sold.

THE TWO TESTS

At least one of the following must be met. Meeting neither means no home expenses can be claimed, however much the space is used.

• Principal place of business: the home is where the business is mainly carried on. A consultant or online seller whose only workplace is the home office meets this test, even if the room is also used personally outside business hours.

• Exclusive use and regular client meetings: the space is used only to earn business income and is used on a regular and continuous basis to meet clients, customers or patients. Occasional meetings are not enough, and any personal use disqualifies the space under this test.

WORKING OUT THE BUSINESS-USE PERCENTAGE

• Area method: divide the area of the workspace by the total finished area of the home, including hallways, bathrooms and kitchens. A 15 m² office in a 150 m² home gives 10%.

• Shared space: where a room is used for the business only part of the time, the area percentage is multiplied by the proportion of hours it is used for business. A room that is 20% of the home and used for business 40 of the 168 hours in a week gives roughly 20% × 40/168 = 4.8%.

• Consistency: the method should be reasonable, applied the same way each year, and supported by a floor plan or measurements kept with the records.

ELIGIBLE COSTS

• Homeowners: heat, electricity, water, home insurance, maintenance and minor repairs, mortgage interest and property taxes. Mortgage principal is never deductible.

• Renters: rent, plus utilities and tenant insurance if paid separately. Renters have no mortgage interest, property taxes or CCA to claim.

• Repairs to the workspace only: a repair that relates only to the office, such as repainting it, can be deducted in full rather than by percentage.

• Not part of the home claim: a separate business phone line and the business share of internet are deducted on their own Part 4 lines, not through Part 7.

• Capital improvements: renovations and new roofs are capital and cannot be deducted as maintenance.

HOW PART 7 IS COMPLETED

• Amounts 7A to 7G: heat, electricity, insurance, maintenance, mortgage interest, property taxes and other expenses for the whole home.

• Amount 7I, personal-use part: the non-business share is removed, leaving the business portion.

• Carryforward from last year: any home expenses that could not be deducted in the prior year are added.

• Income limit (7N): net income after adjustments, before home expenses, is the ceiling. If it is zero or negative, no home expenses can be deducted this year.

• Allowable claim (7P) and carryforward (7O): the lower of the available expenses and the income limit goes to line 9945. The excess is carried forward to the next year.

WORKED EXAMPLE

A sole proprietor owns a 2,000 square foot home and uses a 200 square foot room only as the principal place of business (10%). Annual home costs: heat $1,800, electricity $1,200, insurance $1,500, maintenance $900, mortgage interest $9,000 and property taxes $4,600, totalling $19,000.

• Business portion: 10% × $19,000 = $1,900.

• Year with enough income: if net income before home expenses is $40,000, the full $1,900 is deducted and net income falls to $38,100.

• Year with low income: if net income before home expenses is only $1,500, the claim is limited to $1,500, net income becomes zero, and $400 is carried forward.

CARRYFORWARD RULES

• No time limit: unused home expenses can be carried forward indefinitely and deducted in any later year in which the same business has enough income.

• Same business only: the carryforward can only be used against income from the business that generated it.

• Not a loss: because the claim can never create a loss, home expenses are not part of a non-capital loss and cannot be carried back or applied against other income.

SELLING THE HOME

• No CCA claimed: where no CCA has been claimed and the workspace has not been structurally changed for the business, the entire home can usually still be designated as a principal residence.

• CCA claimed: claiming CCA on the business part of the home can lead to recaptured CCA on sale and make that part ineligible for the principal residence exemption, so it is usually avoided.

• Structural change: converting part of the home into a self-contained business area, such as a shop with a separate entrance, may mean that part is treated as business property on sale.

KEY POINTS

• Two tests: principal place of business, or exclusive use with regular client meetings.

• Reasonable percentage: area-based, adjusted for time where the space is shared.

• Income limit: the claim cannot create or increase a loss; the excess carries forward without expiry.

• Keep it simple on sale: avoid claiming CCA on the home to protect the principal residence exemption.

SOURCES

• Canada Revenue Agency: Guide T4002, Business-use-of-home expenses.

• Canada Revenue Agency: Form T2125, Part 7.

• Canada Revenue Agency: Income Tax Folio S4-F2-C2, Business Use of Home Expenses.