Whether you are self-employed or operate a business, it is possible to write off rent as a business expense if you meet certain eligibility requirements and follow the correct documentation procedures.
By understanding these guidelines and keeping accurate records, you can reduce your taxable income and benefit from legitimate deductions.
Business Rent Expense Write-Off: Do You Qualify?
According to the IRS, you cannot deduct rent expenses from your federal income taxes unless you use part or all of the property for your business. You may qualify for business rental expense write-offs if your situation meets one of two qualifying criteria: the home office deduction and rent reduction for office space renters.
Situation #1: Home Office Deduction
The IRS outlines six possible situations allowing self-employed individuals and company partners to deduct rent and other deductible expenses:
- Taxpayers using part of their home exclusively or regularly as their primary place of business, such as an office within the home used five days a week exclusively for the company or self-employed business.
- Taxpayers using part of their homes regularly to meet or deal with clients, customers, patients, and others as a normal part of the business.
- If your primary place of business is a separate structure or building, not attached to your home and used regularly or exclusively for business operations.
- If the business is in the retail or wholesale industry and you use part of your home for storage or inventory management for the business.
- If you reserve a part of your home for rental use.
- If you are a daycare provider and use a part of your home as a daycare facility.
Situation #2: Office Space Rent Reduction
If you rent an office space for your company or self-employed business, you may be eligible to deduct the rent as a business expense if you meet the specific conditions outlined in IRS Publication 535.
You may only write off rent on your business’s office space if:
- You do not own the property or receive equity in the property
- You rent the space exclusively for use in your company or self-employed business.
- Rent passes the reasonableness test. Rent is considered reasonable if the landlord charges the same amount they would to a stranger for the same space. In most cases, you only need to pass the test if your office space’s landlord is related to you.
Deductible vs. Non-Deductible Rent Expenses
The types of rental expenses you can write off vary depending on whether you are a self-employed individual, a single-member LLC, or the owner of an LLC, partnership, or corporation.
Self-Employed or Single-Member LLCs
If you own a single-member limited liability company (LLC) and have not elected to be treated as a corporation, the IRS treats your organization as a disregarded entity, subjecting you to the same rules as sole proprietorships and self-employed individuals.
Typical Deductible Rent Expenses for Self-Employed or Single-Member LLCs
As a self-employed individual or owner of a single-member LLC, the two most common types of rental expense deductions are home office deductions and office space rent.
Expense #1: Home Office Deduction
Self-employed individuals, sole proprietorships, and owners of single-member LLCs can deduct a portion of their home’s rent expenses if they use part of the home for business purposes.
You may only deduct home expenses equal to the percentage of your home used for business purposes. For example, if your home office is 300 square feet in a 2,000-square-foot residence, the office makes up 15% of your home’s surface. If your yearly rent is $14,400, you can only deduct 15% of your rent (in this case, $2,160) as a business expense.
Expense #2: Office Space Rental
If you qualify for an office space rent reduction, you can generally write off 100% of the rent as a business expense. For example, if you rent an office for your self-employed business with a yearly rent of $8,000, you can typically deduct your rent from your federal taxes.
Typical Non-Deductible Rent Expenses for Self-Employed or Single-Member LLCs
Not all types of rental expenses are eligible for a tax deduction. Examples of rental expenses that do not qualify for federal tax write-offs include:
Expense #1: Rent for Personal Living Spaces
Even if your home is your principal place of business, you cannot deduct rent for the parts of your home you use for personal purposes. For instance, if you only use 20% of your home for business purposes, you cannot deduct more than 20% of the rent on your federal tax return.
Expense #2: Rent for Non-Business Use
If you rent a property for non-business applications, such as a home you don’t use to conduct business operations, you may not deduct the rent for this property from your taxes.
Expense #3: Unreasonable Rent
According to IRS Publication 535, you may be ineligible for a rent deduction if your rent doesn’t pass the reasonableness test. For instance, if your home’s fair market rental value is $800 per month and the landlord is a member of your family imposing a monthly rent of only $300, the IRS may consider your rent unreasonable and ineligible for a deduction.
Multi-Member LLCs, Partnerships, or Corporations
If you are part of a multi-member LLC, a partnership, or a corporation, your business may qualify for different deductible rental expenses than sole proprietorships, single-member LLCs, and self-employed businesses.
Typical Deductible Rent Expenses for Multi-Member LLCs, Partnerships, and Corporations
Non-sole proprietorship businesses may qualify for the following deductible rental expenses:
Expense #1: General Business Use
If a business entity such as a multi-member LLC, partnership, and corporation rents a building exclusively for business operations, they can claim the total rent amount paid as a business expense on their tax return. Examples of buildings typically used solely for business purposes include retail space, offices, and warehouses.
Partnerships may claim rent as a business expense on an IRS Form 1065. Multi-member LLCs are taxed as partnerships and must use the same form as partnerships. For C corporations, the income tax return form is IRS Form 1120.
S Corporations report business expenses on a dedicated income tax return, IRS Form 1120S; then taxable income is passed through to the S corporation’s shareholders, who must report their respective income on their individual tax returns (IRS Form 1040).
Expense #2: Rent Allocation
Multi-member LLCs and partnerships are pass-through entities, meaning they do not directly pay federal income taxes. Instead, all profits and losses pass through to the LLC or partnership members. This principle also applies to rent expenses.
Generally, these expenses are allocated to each member based on the terms of their partnership agreement or LLC operating agreement. Each partner or member can then deduct the cost of their allocated share of the business’s rent expenses on their individual income tax returns.
Expense #3: Leasehold Improvements
If a multi-member LLC, partnership, or corporation conducts renovations, builds additions, or makes other qualified improvements to the property they rent for business purposes, these expenses may be deductible.
Typical Non-Deductible Rent Expenses for Multi-Member LLCs, Partnerships, and Corporations
Not all rental expenses incurred by a multi-member LLC, partnership, S corporation, or C corporation are deductible. Below are some of the most common rental expenses that cannot be written off.
Expense #1: Rent for Personal Use
If a corporation, partnership, or multi-member LLC rents a property for non-business applications, such as a residential home unrelated to the business’s operations, the renting business entity may not deduct rent from their expenses.
For example, a business engaged in real estate may rent a residential home and deduct the rent from federal taxes if the rental arrangement serves a legitimate business purpose. If the property is rented for the personal use of a company employee or shareholder, it falls under the purview of personal use. In that case, the rent on that property becomes non-deductible.
Expense #2: Rent of Non-Business Property
Business entities such as corporations, multi-member LLCs, and partnerships may not deduct rent on properties if they cannot demonstrate a legitimate business purpose for these properties. Rent is one of the many types of business expenses that can be deducted, provided it is both ordinary and necessary for that business.
According to IRS Publication 535, an expense is considered ordinary if it is commonly accepted in your industry or business sector. An expense becomes necessary when it is considered helpful or indispensable to conduct business in your sector.
Expense #3: Illegal Activities
Per Section 162(c) of the Internal Revenue Code (IRC), a business entity may not deduct any kind of business expense, including rent expenses, if they are engaged in illegal activities or connected to illegal payments. IRC Section 280E also excludes businesses violating the Controlled Substances Act from deducting business expenses, including rent.
How to Write Off Rent Expenses for Business
Whether you run a sole proprietorship, an S corporation, or any other business entity, the only way to claim tax deductions on your rent expenses is to track, calculate, and document them as accurately as possible.
Documentation and Record-Keeping
Before writing off rent as a business expense, recording and keeping copies of all documentation relevant to the business’s rent or lease is critical. These documents are necessary to calculate your rent expenses and how much you are entitled to write off.
Examples of documents to keep include:
- Your lease agreement documents, which contain essential information such as the rental period, payment terms, and rent amounts.
- Bank statements and electronic receipts confirming your business’s rent payments to the landlord. They can help you track how much your business spends on rent each month.
- Landlord invoices contain detailed breakdowns of your rental expenses, such as property taxes, power, water, gas, maintenance fees, and other charges.
- Consider building a rent ledger or an expense log to keep track of your rental expenses. It can serve as a reference document for calculating your total expenses and potential deductions.
- Supporting documents, such as communication records with the landlord or property tax statements, can help you track changes to your rent expenses or demonstrate an ongoing rental arrangement.
Homeowners running a business from their residential property should keep the following documents:
- A floor plan of the property detailing which parts of the home are used for business purposes, such as the location and dimensions of the home office area. They are used to calculate the percentage of the home used for business purposes.
- Records of your home’s property taxes and, if applicable, mortgage interest statements (IRS Form 1098)
- Copies of your home’s utility bills, such as power, water, gas, homeowners insurance premiums, and Internet bills.
- Records of repairs, maintenance, and capital improvements made to your home office or parts of your home used for the business
- Other records documenting proof you use the parts of your home for business applications, such as photographs or video recordings.
How to Calculate Rent Expense
The quickest method to calculate your business’s total rental expenses is to check your lease agreement documents and supporting documentation for related expenses, such as utilities. Cross-check them with your bank statements, and record the amount spent each month in a ledger. Keep records of amounts spent each month.
If your business entity passes its expenses through to its members, partners, or shareholders, you must also check the business’s operating or partnership agreement. The agreement documents contain details regarding each business member’s responsibilities, including the percentage of rental expenses each member must pay.
Additionally, if you are a member of a multi-member LLC, a partner in a partnership, or an S corporation shareholder, you must report your rental expenses on your individual income tax returns.
How to Write Off Your Rent Expense
Once the business entity has documented and recorded its rental expenses, they can be reported on that business’s tax return form. The correct forms and steps to follow vary depending on the business’s structure.
Self-Employed or Single-Member LLC
If you are self-employed or operate a single-member LLC and you have earned more than $400 in net earnings during the tax year, you must report your business expenses to the IRS.
Self-employed individuals and single-member LLC owners may report their rental expenses when filling out the IRS Schedule C (Form 1040). In Part II of the form, Line 20 is dedicated to rent and lease expenses for business use.
Partnerships
A partnership must report its business expenses using IRS Form 1065. The form is divided into three primary sections: Income, Deductions, and Tax and Payment. Partnerships report rental expenses in the Deductions section at Line 13.
C-Corporation
A real estate property transfer is considered a gift transfer if the donor does not receive anything from the recipient in return. This type of transfer is exempt from the Real Estate Transfer Tax in Georgia.
S-Corporation
While S corporations must report their income, deductions, credits, and tax liabilities to the federal government using IRS Form 1120-S, this business entity passes its net income through to each shareholder, meaning each must report their share of the corporation’s rental expenses on their individual tax returns.
Multi-Member LLC
The IRS treats multi-member LLCs as partnerships for federal income tax purposes unless they have elected to be treated as a corporation. Depending on whether they are treated as partnerships or as corporations by the IRS, a multi-member LLC follows the same steps and reports rental expenses on the corresponding forms.
- Multi-member LLCs treated as partnerships must follow the same steps as standard partnerships to report their rental expenses, including filling out IRS Form 1065.
- Multi-member LLCs treated as C corporations must complete an IRS Form 1120 to report their rental expenses.
- Multi-member LLCs treated as S corporations must fill out IRS Form 1120-S, and each member of the LLC must report their share of the rental expenses on a Schedule E.
Common Mistakes to Avoid When Writing Off Business Rent Expenses
Some business owners may make mistakes when filing their business taxes and calculating their rental expenses. However, these mistakes can be costly, with consequences ranging from IRS audits to damaging the business’s bottom line.
Recognizing and avoiding these common mistakes is crucial to take advantage of as many deductions as possible without incurring penalties from the IRS.
Mistake #1: Failing to Keep Business and Personal Rental Expenses Separate
Whether you are a small business owner or manage a larger corporation, keeping business and personal expenses separated is a challenge, especially when using a home or property that serves both purposes.
Consequences of Mistake #1
Neglecting to claim a rental deduction for the parts of your home you use for business means paying more taxes because you haven’t deducted rent as a business operating expense.
On the other hand, trying to claim 100% of your rent as a business deduction when you also use the home for personal use can result in claiming too many deductions, which can trigger an IRS audit.
Mistake #2: Not Meeting the Exclusive Use Requirement
Ensure that the space you are renting is used exclusively for business purposes. Non-business activities may impact your ability to deduct the rental expense. Maintain clear records that show that the space is dedicated to business operations.
Consequences of Mistake #2
The IRS subjects claiming ineligible deductions to accuracy-related penalties because it results in an understatement of your business’s tax liability. Accuracy-related penalties may be up to 20% of underpaid taxes plus interest, if applicable. Claiming ineligible deductions can also increase the likelihood of an IRS audit.
Mistake #3: Not Keeping Records of Rental Expenses
Besides being a good business management practice, keeping accurate, detailed records of your business’s rental expenses is essential to accurately calculate how much you spend on rent every month and tax year. The information is necessary to determine how much you can deduct and maximize your savings.
If your business does claim deductions, keeping records becomes a legal requirement. The IRS requires all businesses claiming rental deductions to maintain appropriate records and prove they are eligible for these deductions.
Consequences of Mistake #3
Failing to keep detailed records of your business rental expenses can cause your business to miss out on deductions you might benefit from. If you do claim deductions but fail to keep appropriate records, the IRS may investigate your claims with an audit. Improper recordkeeping may result in your deduction claims being denied and potential additional scrutiny of your business activities.
Mistake #3: Not Keeping Records of Rental Expenses
Besides being a good business management practice, keeping accurate, detailed records of your business’s rental expenses is essential to accurately calculate how much you spend on rent every month and tax year. The information is necessary to determine how much you can deduct and maximize your savings.
If your business does claim deductions, keeping records becomes a legal requirement. The IRS requires all businesses claiming rental deductions to maintain appropriate records and prove they are eligible for these deductions.
Consequences of Mistake #3
Failing to keep detailed records of your business rental expenses can cause your business to miss out on deductions you might benefit from. If you do claim deductions but fail to keep appropriate records, the IRS may investigate your claims with an audit. Improper recordkeeping may result in your deduction claims being denied and potential additional scrutiny of your business activities.
FAQs
Here are the answers to some common questions about business property lease expenses.
Yes. Rental expense deductions do not depend on your business’s profitability. The only requirement is ensuring the rental expenses are legitimate for your business and industry.
Failing to claim a deduction for a specific tax year will simply result in missing out on the opportunity to save money, causing your business to pay more taxes than necessary.
Business rent can 100% qualify as a tax deduction if the building or property is exclusively used for business activities. Rent in properties used for personal and business purposes, such as a rented residence with a home office is not 100% tax deductible.
If you work from home, you can deduct a portion of your rent equivalent to the percentage of your home used for business purposes, provided the area is exclusively used to conduct business operations. For example, if your home office is 15% of the residence’s total square footage and is not used for other purposes (e.g., personal living space), you can write off 15% of your rent as a business expense.
Yes. Repairs and renovations to a rented business space can be fully deducted, provided they restore the building to its original condition and do not result in enlargements or additions to the property. According to IRS Publication 535, these improvements must be capitalized instead, meaning the owner must treat those costs as an investment into the property’s value.
Yes. Leasehold payments and lease expenses can be deducted, provided they are not part of a conditional sales contract or leveraged lease transactions.
Yes. If you are part of a co-working membership, most expenses incurred in a co-working space are tax deductible, including rent payments to your co-working space provider.
Typically, yes. According to the IRS, any business rent paid is deductible in the year it is paid. However, paying business rent in advance only entitles you to a deduction up to the amount that applies to the property’s usage for the current tax year. The business must deduct the rest of the payment over the periods to which the payment applies.
