The home office deduction is one of the most popular tax deductions for those who work from home. Once you understand how to record, calculate, and report home office expenses, you can qualify for home office tax deductions.
This can reduce your tax burden, freeing up more money to reinvest in your business.
Am I eligible for the home office deduction?
If you are self-employed and part of your home is used for business purposes, you are eligible for the home office deduction.
To qualify for this deduction, there are three things the IRS is particularly concerned about: exclusivity, regularity, and precedence.
Exclusivity
Let's start with exclusivity. The work area must be used exclusively for your business activities to pass the exclusive use test. The space must be in its own room or in a separate identifiable area, but "the space must not be bounded by a permanent partition." A corner of your living room, entirely used for your professional activities, will pass the test. A table that functions as a kitchen table does not count. You must ensure that your work area has clearly identifiable boundaries and respect them.
The exception to the exclusivity rule is if you are operating your home business as a certified daycare.
Regularity
The regular use condition states that you must use your home office regularly (but not necessarily a lot). For example, if you complete a freelance writing activity every few weeks and use your desk for the 10 hours it takes to complete the task (and the desk sits unused the rest of the time), you probably won't qualify for the deduction.
On the other hand, if you have a part-time home business and work Monday through Friday, you are more likely to qualify. The key is to use it on a regular, predictable schedule, even if it's only three days a week.
Precedence
The third element indicates that you should use your home office as your primary workplace. While it's nice to work from multiple offices, your home office should take priority over other workplaces. You must spend most of your time and main activities out of your home office to be eligible for the home office deduction.
Where to deduct home office expenses
First, calculate your deductible business expenses using Form 8829 for the applicable tax year to claim home office expenses. Then report them on Schedule C of your Form 1040.
Partners in a partnership or a member of an LLC who have not elected to pay taxes as a corporation can use the worksheet in IRS Publication 587 to calculate the home office deduction and the claim on Schedule E. Unfortunately, other entities, such as S corporations, C corporations, or LLCs that have elected to pay taxes as a corporation cannot claim the home office deduction.
Types of home office expenses
Under the home office deduction, the IRS distinguishes between two types of expenses: direct and indirect.
Direct expenses relate only to the part of the house used for the work, including expenses such as painting and repairs. These are 100% tax deductible.
Indirect expenses relate to the upkeep of the whole house and include expenses such as insurance or utilities. These are deductible based on the portion of your home that is used for business. For example, if you use 15% of your home as an office and your total electricity bill for the year is $2,000, you can deduct $300 or 15% of that bill on your tax return.
Common home office expenses
These are some of the most common expenses requested by home business owners.
Common Direct Deductions
You can deduct the following home office expenses from the total price:
Office furniture
Necessary maintenance or repairs, such as fixing a broken window or replacing an office door lock
Indirect deductions for homeowners
As a homeowner, you can claim a portion of the mortgage interest (not the principal) you pay on your home against your business. If 10% of your house is used for business purposes, you will claim 10% of the annual mortgage interest on Form 8829 and report the remaining 90% on Schedule A.
In addition to claiming a portion of the mortgage interest, you can also make deductions for home insurance, repairs, property taxes, security, and other home-related expenses (at the same percentage).
If you own your home, you can claim a capital cost allowance for the marketable percentage of your home. Calculating depreciation can be difficult, so talking to a tax professional will ensure you get the most out of this option.
Home office deduction for tenants
If you rent (rather than own the property) your home office space and qualify for the home office deduction, you can deduct a portion of your monthly rent. This percentage is equal to the percentage of the floor area of your home used for the work.
You can apply the same percentage to other home office expenses, such as tenant insurance and utilities.
For instance, if your home office is 15% of your home, you can deduct 15% of your utilities, rent, and insurance for the year. This is basically the normal home office method but is used for renting rather than home ownership.
How much can you deduct for your home office?
The Federal Revenue offers two ways to calculate the number of deductions you can take for your home office: the regular method and the simplified method.
The home office regular method
The regular home office method requires you to calculate the percentage of your home used for business purposes by dividing the square footage used for business purposes by the total square footage of your home. You cannot claim home office deductions that exceed your gross income, but you may carry forward the excess deduction amount in subsequent years.
To use the regular home office method, first determine what percentage of your home is considered home office space. Then multiply this percentage by the total amount of actual expenses.
To take advantage of this, you will need good record-keeping to track each business deduction so you can claim it on Schedule C.
The home office simplified method.
The simplified home office option allows you to create a standard deduction of $5 per square foot of home used for business purposes, up to a maximum of 300 square feet.
With this method, you cannot deduct more than your gross income (and you cannot carry forward the excess).
This is a good option if you want to skip all the calculations and worry less about tracking deductions from your home office. This may not be the best option if you think your home office deductions would exceed the $1,500 mark ($5 x 300 square feet). Also, capital cost allowance is not an option under the home office simplified method.
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