Workspace

Deducting the cost of space used for a business is one of the beneficial aspects of being self-employed. For purposes of this discussion, an individual’s art practice is considered self-employment, not a hobby.

The deductions described below are viable for all artists, even those not making a living off their artwork. In addition, these deductions can be used whether an artist has an in-house studio/workspace or utilizes an off-site location.

The information presented in this section is geared primarily to individuals. Nonprofits and businesses should seek the services of an accountant or other tax specialist when preparing their taxes.

Key factors for taking "business use of the home" deductions on federal income taxes include:

• The percentage of your space exclusively used for business purposes will determine the amount of rent/mortgage and utilities you can take as a tax deduction.
  
• To take business use deductions from your home expenses, the space must be used regularly and exclusively for business only. If you do anything else in that space aside from conducting business, you will not be allowed to take the deduction. For example, if you use your bedroom as your office or art workspace, you cannot take the deduction.
  
• The federal deduction you are allowed to take may affect your state and local taxes, depending upon the state’s particular tax-reporting forms.
  
• See www.irs.gov for more information on tax forms.

• Form 1040 Used to report individual income tax returns.
  
• Form 4562 Used to claim depreciation and/or amortization on your property, and to report information about the property. Depreciation is the amount the property declines in value each year. Amortization is the elimination of the mortgage debt through regular payments over a specific length of time.
  
• Form 8829 Used to report expenses you incurred when using your residential space for business purposes.
  
• Schedule A Used to take itemized deductions such as your mortgage interest, property taxes and other casualty losses. If your business is based in your home, the deductions you take here would not be related to the business use of the space, only the residential use. The deductions you would take for your in-house studio space would not be documented here.
  
• 1040 Schedule C Used to report self-employment income.
  

If possible, and depending on how complicated your tax returns are, seek the services of an accountant or other tax preparation specialist. You may think you cannot afford this service, but accounting fees are a tax-deductible business expense. Also, you may receive a larger refund, and will have less chance of an audit.

The remainder of this section discusses how to deduct from your federal income taxes the costs associated with maintaining a workspace, specifically in live/work or work-only arrangements.

Workspace in Your Living Space
If your business is located in a residence that you own, you are allowed to deduct a percentage of your mortgage interest and property taxes annually from your federal income taxes. If you lease (residential or commercial/industrial), you can deduct a portion of your monthly rental payments. In both cases – purchase and rental -- the deductible percentage is based on how much of the space is dedicated to the business.

If 15% of your overall space is dedicated solely to the business, then 15% of your mortgage interest and property taxes or rent can be deducted from your taxes. You would report this deduction on Form 8829 and on your 1040 Schedule C. So, if you paid $1,500 in mortgage interest over the year, but your business used only 15% of the space, then you can deduct $225 or $1,500 x 0.15 in expenses.

You are also allowed to deduct the mortgage interest and real estate taxes for the non-business portion (i.e. the living side) of your space. Take this deduction on Schedule A of Form 1040. This situations involves taking itemized deductions rather than the standard deduction, because you usually get a larger deduction.

Utilizing the above example, if you paid $8,000 in rent over the year, then you would be allowed to take $1,200 in deductions.

Whether you rent or own, other expenses related to your business use of the home (i.e. heating, electricity, etc.) can only be deducted if the business that occupies the space makes a profit. Any business use of the home expenses not deducted from your taxes (because the business does not generate a profit) can be carried forward to years when the business does generate a net income. At this time, you would then be allowed to deduct any business use of the home expenses carried forward from previous years.

For example, in 2001 the business portion of your space expenses equaled $1,500. However, you did not sell any paintings that year, and your primary source of income came from an office job. The same scenario repeats itself the next year. In this situation, you are not allowed to take any deductions for the space either year, because your use of the space for business purposes did not yield a profit. So far, you have accumulated $3,000 in expenses that you cannot deduct.

However, two years later you start selling enough paintings that your art business generates a net income of $5,000 after all business expenses are paid. Finally, the $1,500 in space-related expenses you sustained for that year can be deducted from your taxes, as well as the accumulated $3,000 you could not deduct for the previous two years. When you combine the total deductions you are eligible to take, they are worth $4,500.

As mentioned previously, the amount of the deduction you can take for business costs is directly proportional to the percentage of space the business uses in the property. To calculate the percentage of space used for the business, divide the business square feet by the total square feet of the living space. Maintain thorough records of your art business, in case you need to justify your art proceeds or space use to the Internal Revenue Service.

Workspace Separate from Your Living Space
When your living space and workspace are separate, you can take a tax deduction for business expenses even if your business does not make a profit. This includes any rent you pay for storage, renting a studio or access to specialized space (i.e. you rent time to use the rehearsal space at a dance school, or use the dark room at an arts center). You can make these deductions regardless of whether you rent or own your workspace. See the previous section for more information about deducting workspace that is a part of your living space. In this situation, simply deduct the business portion of your expenses on Schedule C of Federal Form 1040.

For example, if you own a two flat, and work in one unit and live in the other -- or if you have a storefront property, run a business in the first floor space, and live in an upstairs residential unit -- you can deduct your business expenses. If you rent a workspace separate from your home (i.e. studio space, office space, etc.), the full amount of the business expense is deducted on Schedule C of Form 1040.