Simplified Home Office Deduction Option Explained
An Easy Alternative to Form 8829
Owners of home-based businesses now have a second, simpler way to calculate the deduction for the home office space. The simplified deduction doesn't have anything to do with your ability to qualify for a home office deduction; it just changes the way the deduction is calculated.
The simplified deduction is optional. It is capped at $1,500 a year, based on $5 a square foot, for up to 300 square feet. The aim of this option, the IRS says, is to reduce paperwork and recordkeeping burdens on small businesses.
How to Qualify for the Home Business Space Deduction
To be able to deduct expenses for your home business space, you must be able to prove that you use the space regularly and exclusively for business purposes. You must also be able to show that this space is your principal place of business (a specific IRS designation).
Then, you need to calculate the amount of space your office takes up. Find the amount of livable space for your entire home and calculate the percentage of space taken up by your business office. For example, if you have an office space of 150 square feet and your home is 1200 square feet, your office takes up 12.5% of your total home space.
How the Regular Home Office Deduction Calculation Works
Home business owners were previously required to complete Form 8829 to calculate the home business space deduction. The form included:
- Several ways to calculate home business space, as a percentage of the home's overall square footage or as a percentage of the number of rooms.
- Deductions for direct expenses, such as paint, wallpaper, and other expenses directly related to the business space. These expenses could be deducted at 100%. and
- Indirect expenses, such as utilities, rent, or real estate taxes. These indirect expenses were required to be taken against the calculated space, usually a percentage of home square footage. So, for example, if the home business space is 10% of the home's square footage, then 10% of the total of these indirect expenses could be deducted.
How the Simplified Calculation Method Works
The simplified calculation is done by multiplying the allowable square footage of the home business space using a prescribed rate. The allowable square footage must still meet the 'regular and exclusive rule" and be your principal place of business.
To take the simplified deduction, your space must not be more than 300 square feet.The current rate is $5, hence the current deduction limit of $1500. The rate will be adjusted by the IRS from time to time.
Your simplified home office deduction is included in your small business income tax report (Schedule C). The instructions for Schedule C include a simplified deduction worksheet that might help you in this calculation.
Important Points in Understanding the Simplified Calculation
- You can use the new simpler calculation or the current computation using Form 8829, whichever results in a larger deduction.
- If you use the simplified method, you cannot deduct any actual expenses related to the qualified business use of that home for that taxable year. This would include mortgage interest and property taxes.
- If you use the simplified option, you cannot depreciate the portion of your home used for business purposes. But mortgage interest, real estate taxes, and casualty losses can still be claimed on the personal tax return on Schedule A (itemized deductions). These deductions do not need to be allocated between personal and business use, as is required under the regular method.
- You must still adhere to the requirements that the business space must be used "regularly and exclusively" for business purposes. If both of these requirements are not met, the office space cannot be deducted as a business expense.
- Other normal business expenses that are not related to the home business, such as advertising, supplies, and wages, are still fully deductible, in the same way as these expenses are deductible to all non-home-based businesses.
- The amount of the deduction cannot exceed the net income of the business; in other words, the deduction cannot be used to create a business loss for tax purposes.
- If you have more than one home-based business using the same space, you must use the simplified alternative for all businesses.
How Does the Simplified Method Work for My Business Type?
The deduction works the same way whether it's the standard or simplified option.
Sole proprietors and single-owner LLC's include this deduction when they file their business taxes on Schedule C with their personal tax returns.
Partners in partnerships may be able to take a home business deduction (simplified or standard) as an unreimbursed ordinary and necessary expense paid on behalf of the partnership.
S corporation owners may also be able to take the deduction, but it's tricky. Check with your tax professional.
Owners of corporations who work as employees may be able to take the deduction as employees if it's required by the employer.
This is a complicated subject; don't take this deduction without discussing it thoroughly with your tax professional.
Should I take the simplified deduction?
Many home business owners don't take any deduction for the use of their home office, because (a) the paperwork is so complicated there is a risk of making a mistake, and (b) they believe that taking this deduction results in an increased risk of an audit. While the simplified option may not provide as high a deduction, it certainly simplifies the process and it might make sense to take this option if the deduction amount is close to the amount generated by Form 8829.
Disclaimer: It is not the purpose of this article or this website to provide tax or legal advice. Before you consider whether to take a home office space deduction or which deduction to take, discuss your options with your tax advisor. Each circumstance is different, and it is not the purpose of this article or this site, to provide tax or legal advice.
Information was obtained from IRS Revenue Procedure 2013-13