The deduction for expenses related to a home office can be attractive, but the rules can be confusing and often leave taxpayers wondering if they should bother with the deduction. Understanding the rules is key. Here we explain what you need to know, so that if you truly have a home office that meets the requirements, you do not walk away from a deduction you are entitled to.
First, you must meet certain requirements to qualify to deduct expenses related to a home office. — Generally, you are entitled to deduct home office expenses only if you use part of your home, regularly and exclusively, as your principal place of business or as a place to meet with clients, customers or patients. If you are an employee, the home office must be for your employer’s convenience, and not merely because you prefer to work from home.
Next, you must calculate the square footage of your home office (the area which is used exclusively for business). — The rules state that the area can be a room or other separately identifiable space. The space does not need to be its own room, but can be a portion of a room. For example, if you use a corner section of a family room as your home office, you would simply calculate the square footage of that portion of the room.
The next step is to decide if you will use the traditional method or the new simplified method for calculating your expenses.
- Traditional method: Taxpayers using the traditional method must determine the actual expenses of their home. This may include mortgage interest, real estate taxes, repairs, insurance, utilities, and depreciation. The deduction amount is based on the percentage of business use. If you use 200 square feet as your home office, and your home is 2,000 square feet total, you are using 10% for business purposes. In this case, 10% of the total home expenses would be deductible on Form 8829.
The portion of your mortgage interest and real estate taxes that is not used for the home office deduction (the other 90% in this example) would be carried to Schedule A, Itemized Deductions. Be sure to refer to the rules for deducting mortgage interest and real estate taxes on your Schedule A.
- Simplified method: The simplified method reduces recordkeeping requirements and simplifies the calculation of the deduction. You may deduct $5 per square foot of the part of your home used for business, up to a maximum deduction of $1,500. It’s that easy.
Obviously, the traditional method requires additional recordkeeping, but it will often provide a larger deduction. The simplified method is an annual election. You can go back and forth between the two methods from one year to the next.
The traditional method allows you to deduct depreciation for the business portion of your home, while the simplified method does not. Depreciation can be a significant deduction, but it also has to be recaptured if the home is sold.
With both methods, the home office deduction cannot take your business income below zero. With the traditional method, the amount that is not allowed will be carried over to the next year. The carryover is not available with the simplified method.
Your tax professional can determine if you meet the requirements to claim this deduction, and help you decide which method is most beneficial in your situation.