Last Updated: Dec 12, 2017
Do you qualify for the home office deduction? Should you take it even if you do? Is it worth the effort? Here’s what you need to know about recent changes to the home office deduction rules.
Wondering what the home office deduction is, and whether it’s something you should take or not? Although many people have heard tales that the taking a deduction for the business use of their home will get their income tax return pulled for a tax audit, the rules for qualifying have eased somewhat in recent years. So if you qualify for the deduction, it’s worth taking. And, the IRS has made it much easier than in years past to file for the deduction.
Here’s what you need to know about the home office deduction. We’ve included a brief overview explaining what it is, how you qualify for it and information about the regular and new simplified option for claiming a deduction for the business use of your home on your annual income tax return.
What Is The Home Office Deduction?
The home office deduction is a deduction that allows qualified individuals to deduct a portion of the cost of running their home as a business deduction. It applies to expenses such as mortgage interest, real estate taxes, utilities and repairs. Individuals who rent a home or apartment and work from their home may also qualify for the deduction.
The home office deduction is separate from and in addition to any deductions the business is entitled to for everyday business expenses. Because it gets deducted from your business income, it reduces the amount of profits that gets recorded as personal income on form 1040 and reduces the amount of income subject to self-employment tax (the self-employed version of Social Security) on the business portion of your return.
Who Can Take The Home Office Deduction?
You may be able to take the home office deduction if you are self-employed and use a portion of your home for business. In some instances, individuals who are employees and use their home may qualify to take the deduction, too. The two general requirements are:
1 – You must use the space regularly and exclusively for business. Your home office won’t qualify for the deduction if you only use it occasionally to catch up on work when you’re home or as an alternative to going into your main location if your kids are sick or out of school. “Exclusively” means that your home office can’t double as the guest bedroom, or be used by the kids to do their homework or by your spouse to manage your investments or the records for the little league team he coaches.
2 – The space must be either your principal place of business or a place where you meet or deal with patients, clients or customers in the normal course of your business. Consultants and physicians and others who deliver services at locations other than their home office, but who conduct the vast majority of their managerial and administrative tasks at an office in their home may also qualify as using the home as their principal place of business.
Daycare businesses can qualify for the home office deduction even if the space is not used exclusively for the business. Business owners who use their home to store inventory or product samples, or who have a separate structure on their property that they use for business may also qualify for the deduction. See the IRS publication The Business Use of Your Home for further information.
How to Take the Home Office Deduction
If you qualify for a deduction for the business use of your home, you have a choice of two methods to declare it on your tax return. You can use either the regular method determining the deduction or a new, simplified method.
With the regular method you have to keep records of the actual expenses for running your home and split the allowable expense between business and personal use. Any home expense that is directly attributable to the business (example: the cost of painting the room you use for your home office) is fully deductible.
Indirect expenses such as mortgage interest, mortgage insurance, real estate taxes, utilities have to be prorated between personal and business use based on the percentage of your home being used for your home office. So, if your home office occupies 100 square feet an your home is 2000 square feet, you’d be able to deduct 5% of the allowable indirect expenses as a home office deduction and the remaining 95% of mortgage interest and taxes on the personal portion of your return. Using the regular method for calculating the home office deduction, you can also take a deduction for depreciation on the house, but that depreciation gets reclaimed when you sell your home.
Expenses that have nothing to do with your home office (example: painting your living room) are not deductible. See the IRS publication The Business Use of Your Home for more details.
The Simplified Method is like a breath of fresh air for many people who run home offices. Instead of all the tedious record keeping requirements and calculations, the simplified method lets you take a deduction of $5 per square foot of your home office up to a maximum of 300 square feet ($1500). Homeowners using the new option cannot depreciate the portion of their home used in a trade or business. However. real estate taxes and mortgage interest you paid out as a home owner are not figured into the home office deduction and are fully deductible on the personal part of your return.
Which method should you use? This IRS comparison chart is a helpful guide:
Deduction for home office use of a portion of a residence allowed only if that portion is exclusively used on a regular basis for business purposes
Allowable square footage of home use for business (not to exceed 300 square feet)
Percentage of home used for business
Standard $5 per square foot used to determine home business deduction
Actual expenses determined and records maintained
Home-related itemized deductions claimed in full on Schedule A
Home-related itemized deductions apportioned between Schedule A and business schedule (Sch. C or Sch. F)
No depreciation deduction
Depreciation deduction for portion of home used for business
No recapture of depreciation upon sale of home
Recapture of depreciation on gain upon sale of home
Deduction cannot exceed gross income from business use of home less business expenses
Amount in excess of gross income limitation may not be carried over
Amount in excess of gross income limitation may be carried over
Loss carryover from use of regular method in prior year may not be claimed
Loss carryover from use of regular method in prior year may be claimed if gross income test is met in current year
Remember, whether or not you choose to take the home office deduction, you are still entitled to deduct the regular and necessary business expenses you incur in the course of the year such as your costs for advertising, promotional materials, paper, toner or ink and other office supplies, and other costs of doing business.
For more information see IRS Publication 587, Business Use of Your Home, available at http://www.IRS.gov or by calling 800-TAX-FORM (800-829-3676).
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About the author:
Janet Attard is the founder of the award-winning Business Know-How small business web site and information resource. Janet is also the author of The Home Office And Small Business Answer Book and of Business Know-How: An Operational Guide For Home-Based and Micro-Sized Businesses with Limited Budgets. Follow Janet on Twitter and on LinkedIn