Running your business from home? There’s a tax trap you need to know about

Did you find working from home during COVID-19 lockdown to be a success? Are you considering giving up your leased commercial business premises to instead run your business from home?

This choice may result in the Australian Taxation Office taking a slice of the capital gain that you make when you eventually sell your home. If you have been using your home to run your business and are considering selling it, speak to your accountant before you sign a contract to sell so you have the best chance to minimise any capital gains tax (CGT) on the sale.

CGT explained
Generally, you are eligible for the full main residence CGT exemption if you make a capital gain when you sell your home. If your home has been rented out, used to run a business, or ‘flipped’ (purchased with the intention of a quick turnaround sale and profit), you are entitled only to a partial CGT exemption.

Casual use of part of your home does not qualify as being ‘used to run a business’. The area in your home must be set aside exclusively as a place of business and not readily adaptable for private domestic use — for example, a doctor’s surgery attached to the doctor’s home. If the use is exclusive in this way, you are likely to be able to claim a tax deduction against your business income for part of the interest on your mortgage and other similar expenses, but the catch is that part of any future gain becomes taxable.

If you have lived in your home and convert part of it to run your business, when you eventually sell the house, you usually calculate the taxable portion of the capital gain as follows:

Percentage of use × (proceeds – market value of house when first used to produce income) = capital gain

How it works in practice
For example, Helen is an interior designer who operates as a sole trader. She converts two rooms in her home for use as consulting rooms for her business in April 2020. The rooms are exclusively used for business purposes and are not easily adaptable for private use. The square-metre area of the rooms represents about 30% of the total area of the house. The house was purchased 10 years ago for $500,000. Helen started to use the house as her business premises on May 1, 2020, when the property was valued at $600,000. The property market picked up, and in February 2021 the house was sold for $700,000.

Helen’s taxable capital gain is $30,000, and income tax on this could be up to $14,100.

If Helen waited until June 2021 to sell, she could use the 50% discount and reduce the tax by at least half.

If the business had never been run from the house, the entire gain of $200,000 would have been tax free.

It may also be possible to use the small business CGT concessions to reduce or eliminate the taxable capital gain in this scenario. This is why a call to your accountant before you sign the contract to sell is always a good idea.

HEATHER MOORE – NKH Associate Director
JUNE 17, 2020
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