Before beginning this article, please read our article on Amended Tax Returns here to explore how you can still utilize this benefit even if you failed to claim it in prior years.
Also, for information on the new Section 199A Qualified Business Income Deduction, click here.
Deductibility Under Section 119
Code section 119(a)(2) states “There shall be excluded from gross income of an employee the value of any meals or lodging furnished to him, his spouse, or any of his dependents by or on behalf of his employer for the convenience of the employer, but only if... in the case of lodging, the employee is required to accept such lodging on the business premises of his employer as a condition of his employment.”
In other words, if an employee is contractually required to accept lodging on the business premises as a condition of employment, and this condition of employment is for the benefit of the employer, then it is both deductible to the employer and excludible from income for the employee.
Condition of Employment
Unlike the “for the benefit of the employer” standard, this requirement is easily satisfied by the existence of a legally enforceable contractual provision that makes the acceptance of the lodging a condition of employment. It is important to note that Section 119(b)(1)'s reference to contractual provisions not being determinative are only with regard to the "convenience of the employer" requirement.
On the Business Premises
Code section 119(b)(1) clarifies that “in determining whether meals or lodging are furnished for the convenience of the employer, the provisions of an employment contract or of a State statute fixing terms of employment shall not be determinative of whether the meals or lodging are intended as compensation.” In other words, an employment agreement simply stating “this is for the benefit of the company” will not suffice.
Treasury regulation section 1.119-1(c)(1) has generally defined "business premises of the employer" to mean the place of employment of the employee. The prevailing legal authorities have explained that the premises must either be an integral part of the business property or a place where the employer carried on some business activities.
Both the United States Court of Federal Claims as well the IRS itself have held that a self-employed individual’s in-home activities involving business-related entertaining, working in the evenings, and working on weekends qualify the home as the business premises “of the employer.” This is based on both the judicial interpretation as well as the IRS itself.
The Service has ruled that lodging includes such items as heat, electricity, gas, water and sewerage services. Moreover, where an employer furnishes such services necessary to make the lodging habitable for the employee, the value of those services is excludible as well, which includes renovations and capital improvements that are not lavish or excessive under the circumstances.
For Benefit of the Employer
Both the United States Court of Appeals for the Fifth Circuit as well as the United States Court of Federal Claims have held that the convenience-of-the-employer and condition-of-employment tests are essentially the same. Under both tests, there must be a “direct nexus” between the lodging furnished and the asserted business interests of the employer.
Although an employment agreement may lack the statement of an express requirement to accept lodging, it is not fatal; however, the lodging must be necessary as a practical matter to the performance of the employee’s duties.
A self-employed individual’s wholly-owned company would directly benefit by operating the company from the self-employed individual’s personal residence by avoiding costly commercial office space. By operating from the personal residence, a self-employed individual’s home, for federal income tax purposes only, becomes an integral part of the business property where business activities are conducted from a home-office. As such, the company may directly pay for or reimburse the self-employed individual for personal living expenses in order to effectively provide lodging on what would be deemed to be the business premises. Thus, this may be deducted on Schedule C of the self-employed individual’s U.S. federal income tax return in accordance with federal tax law, established case law, and even the IRS’s own guidance.
Coupled with the full power of Section 132 Fringe Benefits for a sole proprietor, our firm's sophisticated tax planning techniques can reap enormous tax savings.
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“In America, there are two tax systems: one for the informed and one for the uninformed. Both are legal.” The Honorable Learned Hand, United States Court of Appeals (1872-1961)
Footnotes with Legal Authorities
 See Benninghoff v. C.I.R., 71 T.C. 216, aff’d, 614 F.2d 398 (5th Cir. 1980); Dole v. C.I.R., 43 T.C. 697, aff’d, 351 F.2d 308 (1st Cir. 1965) acq., 1966-2 C.B. 3. Also see Jacobs v. C.I.R., 148 T..C. No. 24 (2017) (the "business premises of the employer” can include an off-premises facility leased by the employer). The IRS issued an Action on Decision acquiescing in the result only. IRS AOD 2019-01. Just like tax attorneys, the IRS can effectively announce that they disagree with the federal court ruling. While they're free to publicly disagree with a federal court's ruling without second thought, they hypocritically frown on private practitioners that do the same.
 See Adams v. U.S., 218 Ct. Cl. 322 (1978); Rev. Rul. 75-540 (rental value of governor's mansion is excludible from gross income). Also see Armstrong v. Phinney, 394 F.2d 661 (5th Cir. 1968) (holding that a partner in a partnership can be an employee of his own partnership thereby extending Section 119 to self-employed individuals) overruling C.I.R. v. Moran, 236 F.2d 595 (8th Cir. 1956). The superseded-by-statute Moran case covered years prior to the 1954 enactment of the self-employment tax under the dual hat theory. Moran was grounded on the theory, present throughout the 1939 Code, that a partnership and its partners are one inseparable legal unit. However, in 1954 Congress rejected this ‘aggregate theory’ in favor of the ‘entity theory’ in cases where ‘a partner sells property to, or performs services for the partnership.’ Under the entity approach ‘the transaction is to be treated in the same manner as though the partner were an outsider dealing with the partnership. Although that is factually specific to the Moran case, the underlying theory is the "dual hat" theory whereby a self-employed individual should be subject to both the employer contribution as well as the employee contribution for FICA tax purposes. This shift was reflected throughout the changes in the 1954 Code. A self-employed individual, whether a sole proprietor or partner in a partnership, must be viewed separately as both an employee and an employer; the "dual hat" theory. That change extended Section 119 to self-employed sole proprietors.
 See Rev. Rul. 68-579 (such amounts may not be deducted by the employee since they are personal, family, or living expenses made nondeductible by section 262 but may still be deductible by the business of the self-employed individual, which achieves the same result of nontaxation on those expenses).
 See Rev. Rul. 68-579.
 See Bob Jones University v. U.S., 229 Ct. Cl. 340 (1982); Benninghoff v. C.I.R., 71 T.C. 216 (1978), aff’d, 614 F.2d 398 (5th Cir. 1980).
 See Adams v. U.S., 218 Ct. Cl. 322 (1978); TAM 9404005.
 See Coyner v. Bingler, 344 F.2d 736 (3d Cir. 1965).