Two Methods for Calculating Home Office Expense Deductions
The home office expense deduction can save you some significant money at tax time if you're self-employed and work out of your home, but it's not for the faint of heart. In fact, it's complicated enough that the Internal Revenue Service has dedicated a 32-page book (Publication 587) to explaining its intricacies.
Who Can Claim the Home Office Expense Deduction?
It's not enough that you take care of business bookkeeping in your den most evenings. If your kids are sprawled on the sofa next to you and your laptop, you can't claim a home office expense deduction because the space in question must be used exclusively for business purposes. Think a spare bedroom you've dedicated entirely to your work or the garage you've adapted to a workshop with no room left over to park your car. This doesn't mean your children or spouse can't enter your workspace, but the interruptions should be no more than they might be if you worked outside your home.
The space in your home that you use for business must also be your principal place of business. This means that you run your operation from this location. If your work involves meeting with clients or customers at their locations, this is permissible if you always return to this work area in your home to deal with the logistics of running your operation -- invoicing clients, scheduling appointments and paying your business's bills. Of course, if you actually meet with clients, customers or patients in your home office, all the better.
The Simplified Method for Calculating Home Office Deductions
You have two options for calculating the amount of your deduction. One is far easier than the other, but you might shortchange yourself if you use it.
The IRS offers a simplified option which may be appropriate if your home office is on the small side, up to 300 square feet. Multiply the area by $5 per square foot. There's your deduction. Obviously, the smaller your space, the less of a deduction you can receive.
The two criteria above still apply. The area must be used regularly and exclusively, and it must be your principal place of business.
"Percentage of Your Home" Method for Home Office Deductions
The simplified option has been available since 2013. Before that, home office entrepreneurs had to go through some complicated calculations to arrive at their deductions, and you might still want to do this because it could ultimately save you more money.
The more complicated option uses IRS Form 8829 to calculate the home office deduction. This requires that you determine the percentage of the total area of your home, then the area that you use exclusively for business purposes. If the total is 2,500 square feet, and if your work area is 250 square feet, you're entitled to deduct 10 percent of qualifying home expenses because they're dedicated to your business. Divide the total usable area of your home by your work area to arrive at your percentage.
You can take a percentage of allowable home-related expenses, based on the percentage of your home used for business, including these expenses:
- Casualty losses (with limits)
- Mortgage interest
- Real estate taxes
- Security system
- Homeowner's insurance
- Direct expenses for improving the business area of your home
- Depreciation on your home's value
- Rent, if you don't own your home
- Repairs made to your work area or that benefit your work area
You can't include expenses for the home that have nothing to do with your business. For example, if you add a patio on the other side of your home, you can't include that in your deduction calculation.
If your total allowable home expenses are $20,000 a year and you're entitled to a 10 percent deduction because you use 10% of your home for business purposes. Your deduction would be $2,000, meaning that you have just saved $2,000 by claiming a home office expense deduction -- most likely more than if you had opted for the simplified calculation.
How to Include a Home Office Deduction on Your Tax Return
If you're self-employed and you pay taxes as a sole proprietor or single-member LLC, you would then report this deduction on Line 30 of Schedule C with your tax return. For other business legal types, research more about home business deductions and business types to learn how and where to enter this deduction in your business tax return. If you are an employee, you can enter this deduction on Schedule A, Itemized Deductions.
Special Rules and Exceptions for Home Business Deductions
Not all home businesses are treated exactly the same. Special rules apply to daycare operations and if you use your home space to store inventory. Consult with an accountant or tax attorney if this is the case.