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New IRS Audit Techniques Guide on Family Child Care Clarifies the Time-Space Percentage |
by Tom Copeland, Consultant to NAFCC
The IRS has recently released a new version of its Child Care Audit Techniques Guide that is designed to assist IRS auditors who audit family child care providers. It replaces an earlier version that was published in 2000 and went out of print last year (http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Child-Care-Provider-Audit-Technique-Guide).
The new Guide is very helpful in clarifying a number of tax rules that will make it easier for providers to fill out their tax return and helpful in reducing conflicts during audits. Any providers who is audited should read this Guide very carefully.
One of the most important tax rules that affect family child care is the Time-Space Percentage. This is a formula that is used to calculate how much of house expenses used for both business and personal purposes are deductible as a business expense. Such house expenses include utilities, property tax, mortgage interest, house insurance, house repairs, and house depreciation. These expenses are claimed on Form 8829 Expenses for Business Use of Your Home. Because these expenses can total thousands of dollars, it is important for providers to properly calculate this percentage. The Time-Space Percentage consists of two elements: the space percentage and the time percentage. These two elements are multiplied by each other in Part I of Form 8829.
Here are some of the clarifications made to the latest version of the Guide in dealing with the Tim-Space Percentage:
- The Guide clarifies that a provider can use her Time-Space Percentage for her house expenses if she is licensed, has applied for a license or is exempt from having a license. An unlicensed provider (even an illegal provider) can still claim other business expenses such as food, toys, supplies, etc. on Schedule C.
- Providers often put children in separate bedrooms to take naps so that they can sleep better, and as a result will claim multiple bedrooms as regular use in calculating her space percentage. The Guide says that this is acceptable even when a provider could put all the children in one bedroom. In other words, there is no IRS requirement that providers must use the fewest number of rooms possible.
- The Guide says that providers should count the basement and garage areas as part of the total square feet of the home. This is the first time the IRS has so clearly stated this position. Over the years I have repeatedly won IRS audits after urging providers to claim these areas as regular use in their Time-Space Percentage calculation. Since most providers use these spaces regularly for their business, this new clarification will help increase their Time-Space Percentage. For those providers, however, who do not use these spaces on a regular basis for their business, this clarification will probably cause their Time-Space Percentage to decrease. Regular use of a basement or garage means that the area is used two-three times per week for business activities. Such basement activities could be: furnace/water heater area, storage area for food, toys, other household items, workbench where household tools are kept, laundry room area, etc. Such garage activities could be: storage of tools, household items, garbage cans, car, bicycles, yard furniture, and so on. The Guide is not clear on whether a provider should count an unfinished basement as part of the total square feet of the home.
- In calculating their Time Percentage providers are allowed to count hours spent on business activities in their home when day care children are not present. This includes hours spent on cleaning, cooking, activity preparation, and record keeping. The old version of the Guide cited an IRS Revenue Ruling (92-3) in which the court allowed a provider to claim a half hour each morning and evening on these activities. Since this Ruling was released some auditors have concluded that providers cannot claim more than hour a day on these activities. The new Guide clarifies this by saying that the Revenue Ruling is “not an absolute rule” and therefore providers can claim more hours on such activities.
- The Guide also clarifies that providers should use their Time-Space Percentage on other shared expenses such as office supplies, cleaning supplies, educational and art supplies, and toys that are claimed on Schedule C.
Over the years I have advocated for changes with the IRS that have helped clarify tax rules to make it easier for providers to fill out their tax return. I offered several suggestions to the IRS when they drafted the first version of this Guide. In preparation for revising this Guide the IRS again asked me to offer suggestions for how it could be improved. All of the changes cited above are based on my suggestions and the Guide includes a number of other changes suggested by me.
My work with the IRS is made possible by my partnership with NAFCC. If you are audited by the IRS (or your state) please contact me for free assistance. It’s one of the benefits of membership in NAFCC.
If you wish to contact me about an audit or any business question, call me at 800-359-3817 (ex 321) or email at
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