Pennsylvania issues COVID home-office expense deduction guidance

TAX ALERT  |  March 11, 2021

On March 9, 2021, the Pennsylvania Department of Revenue issued guidance addressing the application of the state’s home office deduction to individuals working from home during the COVID-19 pandemic. Although the guidance does not materially change the state’s general approach to determining whether a home office expense qualifies for deduction, it makes clear that the state will treat the home office as a business, and not residential, location for the purposes of all the state’s taxes. This treatment may result in costs far exceeding the value of the deduction and may discourage individuals who work from home from claiming the deduction.

Qualifying for the deduction is straightforward, and, for many individuals, is a matter of course during 2020. First, an individual must be working from home because either their employer does not provide a suitable work area, or the individual is not permitted to report to their normal employer-provided work area due to the pandemic. Second, the individual’s employer must require the employee to maintain a suitable place of work outside of their normal employer-provided work area, and that place must be where the individual principally and regularly performs their work. Third, the individual must use that work area solely for work-related purposes, and may not use that area for any personal reasons. Particularly during the pandemic, any individual working remotely from a dedicated home office would have little trouble meeting these requirements.

However, qualifying for the deduction is just the beginning, and the department makes clear that any space claimed for a home office deduction will be treated indefinitely as a business location for Pennsylvania tax purposes. What does this mean? On the front end, an individual claiming the deduction will have to track utility use related to their home office space, and pay the 6% state, and any applicable local, use tax on the utilities used. This is necessary because residential use of utilities are not subject to the sales and use tax. At the back end, when the individual eventually sells their home, they will have to pay income tax on the portion of their gain related to their home office space. In the aggregate, these costs could substantially outweigh any benefit of taking the deduction, particularly for individuals with a large amount of accumulated value in their home. 

Although this is an individual deduction, businesses that were able to transition to a virtual environment in 2020 and are contemplating a permanent virtual transformation or some form of hybrid in-person/virtual workforce in the future should be aware of the potential impact of these types of rules on employee relations and their approaches to making the home office work. Pennsylvania is not the only state wrestling with the potential revenue cost of an increase in individual home office deductions. Remote workers and businesses are encouraged to follow this issue closely as it may significantly impact individual tax liability, employee relations and how businesses move forward with home office expense reimbursement or stipends in a virtual future.