Do I qualify for the home office deduction?
As long as you are self-employed, and part of your home is for business use, you can take advantage of the home office deduction.
In order to qualify for the home office deduction, there are three concepts that the IRS is particularly concerned with: exclusivity, regularity, and precedence.
Exclusivity
Let’s start with exclusivity. In order to pass the exclusive use test, your working area needs to be used solely for your business activities. The space should be in its own room or identifiably separate area, but “the space does not need to be marked off by a permanent partition.” A corner of your living room that is used entirely for your business activities will pass the test. A desk that doubles as the kitchen table will not. You need to ensure that your work area has clearly identifiable boundaries and that you adhere to them.
The exception to this rule is if you use your home business as a certified daycare.
Regularity
The regular use condition stipulates that you need to use your home office regularly (though not necessarily heavily). For example, if you take on a freelance writing contract every few weeks and use your office for the 10 hours that it takes to complete the assignment (and the office sits unused the rest of the time), you probably won’t qualify for the deduction.
Conversely, if you run a part-time business from home and you work Monday to Friday, you would be more likely to qualify. The key is to be using it according to a regular and predictable schedule—even if it’s only three days per week.
Precedence
The third component says you need to use your home office as the principal place of business. While it’s okay to work out of more than one office, your home office needs to take precedence over other working locations. You should be spending the most time and conducting the most important business activities out of your home office to qualify for the home office deduction.
Where to deduct home office expenses
To claim home office expenses for a sole proprietorship, first calculate your deductible business expenses using Form 8829 for the relevant tax year. Then, report them on Schedule C of Form 1040.
Partners in a partnership, or members of an LLC that hasn’t elected to be taxed as a corporation, can use the worksheet in Publication 587 to calculate the home office deduction and claim it on Schedule E. Unfortunately, other entities, such as S corporations, C corporations, or LLCs that have elected to be taxed as a corporation, cannot claim the home office deduction.
Types of home office expenses
Within the home office deduction, the IRS distinguishes between two different types of expenses: direct and indirect.
Direct expenses are solely for the part of your home used for work and include expenses like painting and repairs. These are 100% deductible.
Indirect expenses are for the maintenance of your entire home and include expenses such as utilities or insurance. These are deductible based on the percentage of your home that is used for business. For instance, if you use 15% of your home’s square footage as an office, and your total electricity expense for the year is $2,000, you can deduct $300—or 15% of that utility bill—on your tax return.
Common home office expenses
Here are some of the expenses most commonly claimed by business owners with home offices.
Common direct deductions
You can deduct the full price of the following home office expenses:
- Office furniture
- Necessary repairs or maintenance, such as fixing a broken window or replacing the lock on your office door
Indirect deductions for homeowners
As a homeowner, you’re able to claim a portion of the mortgage interest (not the principal) that you pay on your home against your business. If 10% of your home is used for business, then you would claim 10% of your yearly mortgage interest on Form 8829, and report the remaining 90% on Schedule A.
In addition to claiming a portion of your mortgage interest, you can also take deductions for homeowner’s insurance, repairs, real estate taxes, security, and other home-related expenses (at the same percentage).
If you own your home outright, you can claim a depreciation deduction for the business percentage of your home. Calculating depreciation can be complex, so talking to a tax professional will ensure you’re getting the most out of this option. You can also consult Publication 587 for an IRS guide on deducting depreciation of your home.
The home office deduction for renters
If you rent (rather than own) your home office space, and you qualify for the home office deduction, you can deduct a percentage of your monthly rent. That percentage is equal to the percentage of your home’s square footage used for work.
You can apply the same percentage to other home office expenses, such as utilities and renter’s insurance.
For example, if your home office is 10% of your home, then you can deduct 10% of your rent, utilities, and insurance for the year. Essentially, this is the home office regular method (covered below), but used for a rental rather than a home you own.
How much you can deduct for your home office
The IRS offers two ways to calculate the amount of deductions you can take for your home office: The regular method and the simplified method.
The home office regular method
The home office regular method requires that you calculate the percentage of your home used for business by dividing the area used for business by the total area of your home. You can’t claim home office deductions greater than your gross income, but you can carry the excess deduction amount over to future years.
To use the home office regular method, you first determine what percentage of your home qualifies as home office space. Then, you multiply that percentage by the total amount of actual expenses.
To take advantage of this, you’ll need good recordkeeping to keep track of each business deduction so you can claim it on your Schedule C.
How to calculate your deduction with the home office regular method
Let’s say your home is 1,200 square feet, and you use 120 square feet as office space. First, you divide to find your percentage:
120 / 1,200 = 0.10
So, you can deduct 10% of your indirect home expenses from your taxes. That includes mortgage interest, homeowner’s insurance, real estate taxes, rent, etc.
By multiplying the cost of each expense by 10% (or 0.10), you get the amount you can deduct. These amounts add up to a total deduction for the year.
The home office simplified method
The home office simplified option allows you to create a standardized deduction of $5 per square foot of home that is used for business, up to a maximum of 300 square feet.
With this method, you cannot deduct more than your gross income (and you can’t carry the excess forward, either).
This is a good option if you want to skip all of the calculations and worry less about tracking your home office deductions. It may not be the best option if you think your home office deductions would exceed the $1,500 cap ($5 x 300 square feet). Also, the depreciation deduction isn’t an option under the home office simplified method.
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Your home office deduction is just the tip of the iceberg. Find more ways to save on taxes with our big list of small business tax deductions.
