WORKING OUT OF a home-office definitely has its perks: There's no commute. You can show up in your pajamas. And you get to deduct a portion of your home's expenses as a business expense. However, when the time comes to sell your home, you'll end up paying a premium for that home-office convenience.

Just ask Alan Schoening, an independent sales representative in Tucson, Ariz., who sold his Palm Desert, Calif., house, which doubled as a home-office, in 2006. Schoening ended up owing nearly $500 in state and federal taxes even though the sale of his home fell squarely within the so-called Home Sale Exclusion. That exclusion allows married couples filing jointly to pocket up to $500,000 ($250,000 for singles) in profits from the sale of a home tax free, as long as the property served as a principal residence for at least two out of the last five years.

So why did Schoening get the tax hit?

The Home Sale Exclusion doesn't apply to home offices. In the eyes of the Internal Revenue Service, a home office is considered to be a commercial property, or more specifically, a Section 1250 Property, which is subject to depreciation — and some hefty tax consequences when the property is sold.

Since a qualifying home office is subject to depreciation, which is an income-tax deduction that generally allows business owners to recover the initial cost of equipment and certain types of property over the asset's useful life, you don't get to exclude the profit from its sale. Instead, you'll likely get hit with both state and federal taxes. While a trusted tax advisor can suggest a number of tax deferral strategies that can help offset some of the cost, it's important to get a handle on your home office's tax implications.

Here's what you should know about selling your home office:

Figuring Out Your Tax Liability

If you expect to make a tidy profit when you sell your home, you'll want to figure out how much you owe to avoid any surprise tax hits. This amount, says David R. Flamer, an accountant in Agoura Hills, Calif., is a product of how much you wrote off in depreciation over the course of operating your home office, whether or not it's attached to the home and the prevailing tax rates.

For attached home offices

If a home-office is attached to the home, gains from depreciation deductions at the time of sale are taxed at a rate of as much as 25%, plus any applicable state income taxes. This 25% "unrecaptured" federal capital-gains tax, which was authorized by the Taxpayer Relief Act of 1997, is much higher than the standard 15% capital-gains tax rate. However, in this situation, says Julie A. Welch, an accountant in Kansas City, Mo., "all you pay tax on is any gain [at the time of sale] up to the amount of depreciation taken since May 6, 1997." Prior to 1997, she adds, business owners paid taxes on the entire gain attributable to the home office. (Note: The old depreciation recapture rules still apply to detached home offices, which are explained below.)

To illustrate this, Bill Fleming, a managing director with PricewaterhouseCoopers' Private Company Services in Hartford, Conn., uses the example of a married, home-based business owner who paid $300,000 for her home five years ago. Now let's say the business owner is looking to sell her home for $700,000. If her office, which is a separate room in the house, accounts for 10% of the home's square footage, or $30,000 of the initial purchase price, she can depreciate nearly $770 a year. (To arrive at this $770 figure, take the original purchase price, multiplied by 10% and divide it by 39 years, which is the set period of time for which this type of asset may be depreciated.) After five years, she will have accumulated $3,850 in depreciation deductions.

While the business owner's home appreciated in value by $400,000 — that is, within the $500,000 gain exclusion for married couples — she still gets hit with the 25% unrecaptured capital-gains tax on the $3,850 that she claimed in depreciation over the five years. That means, when the house sells, she'll owe the government about $963, plus whatever her state charges in taxes.

For detached home offices

If the home office is detached from the rest of the house, the IRS treats a sale as if there are two separate properties: the main residence and the home office. In this situation, the office is seen as a piece of business real estate and gets taxed at different rates than attached home offices.

Fleming from PwC explains how much the fictional business owner we used above might pay in taxes if her home office is detached:

If the home office accounts for 10% of the home's value, and it's detached, a long term capital-gains tax — that is 15% — gets levied on the gain attributed to the home office minus the amount that was depreciated. So 10% of the sale price, or $70,000, minus 10% of the original purchase price, or $30,000, amounts to a $40,000 gain. Reduce this figure by the amount depreciated — $3,850 — and the remaining $36,150 gets taxed at a 15% rate. The amount of depreciation, rather, still gets taxed at 25%. Thus, the total federal tax bill the business owner would pay is $6,385.

Other rules to consider

One last thing to keep in mind, even if home-based business owners don't take the depreciation deduction, they still have to pay taxes when they sell the property at a profit, says Welch, the Kansas City accountant. She suggests that rather than paying the tax and forgoing any benefit, business owners can file an accounting method change form 3115. "That catches you up for as long as you should have been taking it," says Welch, adding that business owners who didn't take enough depreciation can fill out the same form. (For more on depreciating property see IRS publication 946.)

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Write to Diana Ransom at dransom@smartmoney.com.