As more people enjoy the benefits of working from home on either a full- or part-time basis, it’s important to understand what money-saving tax deductions are available. Keep reading and we’ll cover who can claim a home office, the basic requirements, and which expenses are deductible.
I actually take the home office tax deduction for my business. I’m in a good place, where the deduction helps reduce my income — without AMT worries. Additionally, since I don’t include home depreciation in my deduction, I don’t have to worry about what happens if I sell my home for a gain (not that it’s likely to gain in value anytime soon).
However, some are reluctant to take the home office tax deduction because it’s such a complex process. In order to take the deduction, it requires figuring out what percentage of your home you are using, and then calculating your deduction based on that information. You can deduct a portion of your utilities and mortgage/rent, but the whole process can be off-putting.
However, the IRS revised the rules for the 2013 tax year to make the tax deduction easier to calculate. You can use the old method, or you can deduct $5 per square foot, up to 300 square feet (for a $1,500 deduction).
I’ve run the numbers, and, in my case, it will make more sense to take the $5 per square foot. My accountant will probably happy, too, since this is a much easier way to figure up the deduction.
Who Can Claim a Home Office?
No matter if you run your own business from home or work for someone else, there are qualified home office tax deductions that you can claim when you use any portion of your residence in connection with a trade or business. The same benefits apply whether you own the property or rent it, and whether it’s a single family home, condo, or apartment.
What are the Home Office Requirements?
Whether you’re an employee or are self-employed, your home office must meet some basic requirements. It must pass one of the following requirements as:
- Your principal place of business
- A place you regularly do business, such as meeting with clients
- A storage space for business purposes
- A daycare facility
- A rental
Home Office Requirements for Employees
If you’re an employee, you have to meet several more requirements:
- The business use of your home must be for the convenience of your employer—not for you
- You may not rent any part of your home to your employer for business use
- You must itemize deductions on your tax return
Therefore, if your company provides you with a local office where you accomplish your primary work responsibilities—but you choose to do some work from home in the evenings—your situation doesn’t qualify.
To qualify for home office deductions as an employee, you must perform substantial work activities from home as directed and approved by your employer. Or you must be required by your employer to meet with customers, clients, or patients, for instance, at your residence on a regular basis.
Your Home Office Space
The area of your home that you designate and claim for business use is important. You must use a specific room or identifiable space as your office. The only exception to this “exclusive use” rule is when you use part of your home for business storage purposes or as a daycare facility. In these two situations, you can deduct the entire spaces used, even if they’re also used for personal purposes, like watching TV or eating meals.
Which Expenses are Deductible?
Expenses that have nothing to do with your home office, like remodeling in other parts of your home or the addition of a pool, are never deductible. However, direct expenses for the areas of your home that are used for business are 100% deductible. That might include repairs to a home office or the installation of a separate telephone line.
You can also deduct certain expenses that you would have to pay whether you had a home office or not, such as hazard insurance, utilities, real estate taxes, depreciation, and garbage pick up. These “indirect” expenses are deductible only based on the percentage of space that your home office takes up relative to the size of your entire residence.
How to Figure Your Home Office Deduction
To figure your home office deduction, you have to determine the percentage of your home that’s used for business. Divide the square footage of the area used for business by the square footage of your entire home.
For example, if your home office is 12 feet by 12 feet, that’s a total of 144 square feet. If your residence is 1,400 square feet, then diving 144 by 1,400 gives you a home office space that’s 10% of your home. Therefore 10% of the “indirect” qualifying expenses of your home (like insurance and utilities) can be attributed to business use and the remaining 90% are personal use.
For example, if your monthly power bill is $200 and 10% of your home qualifies for business use, you can consider $20 of the bill a business expense and the remaining $180 a personal expense. You will also need to separate your home office deductions from your mortgage interest deductions. Remember that 100% of the direct expenses for a home office, such as furniture, office supplies, or painting the walls are always deductible.
How Much Can You Deduct for a Home Office?
You can deduct expenses associated with a home office only up to the amount of income you earn. If your income from the business use of your home is less than your expenses, your deduction for certain home office expenses will be limited. When your qualified deductions are greater than your income, you can carry over the excess to the next tax year.
Should You Take the Home Office Tax Deduction?
While I take the home office tax deduction, it isn’t something that everyone feels is in their best interest. First of all, you need to make sure that your office space qualifies. Because my home office space is actually located in a room that is used for something else, I can’t actually figure my deduction based on the total square footage of the room. Instead, I can only deduct the area that is actually used to conduct my business. That amounts to about 24 square feet.
For some, taking the deduction isn’t worth the trouble of figuring it. After all, if we’re talking about a small space, it might be more trouble than it’s worth. In my case, even though the deduction isn’t very big, it’s still been enough, in some years, to keep me out of the next highest tax bracket. Indeed, we are often right on the line, and that deduction, small as it is, makes a difference in my taxes. But it might not be such a big deal to you.
For tax year 2013, though, it might be worth it to tax the deduction, since it will be easier to figure out, up to $1,500. If you can get another deduction without much trouble, it might make sense to take the deduction.
You do need to be careful, though. The home office tax deduction is one of those items that can trigger you paying the AMT. Carefully consider your options, and the impact the home office tax deduction might have on your tax situation. Look at the positives and the negatives. Additionally, remember that any business tax deduction that you take can only be used if the expense is truly related to your business.
The IRS doesn’t consider the home office tax deduction as big a red flag for audit as it used to, but there is still a chance that your return might be a little more closely scrutinized if you claim certain deductions. Be scrupulous in the deductions you take so that you avoid problems down the road, and make sure that you carefully document your expenses so that you have records in case you are audited.
More information about the Home Office Deduction:
For more details be sure to refer to IRS Publication 587, Business Use of Your Home. It includes a worksheet to help you figure out your qualified home office tax deductions. If you’re self-employed you must generally report expenses for business use of your home on IRS Form 8829.