About the Home Office Deduction

Tax clients ask me all the time about taking a home office deduction. That topic has come up even more often since COVID-19 has so many people working at home. However, everyone with an office at home isn’t eligible for a home office deduction, even if she or he owns a business. Lots of rules apply. It can be pretty confusing. 

So, let’s “un-confuse” the topic:

  1. Who is eligible for a home office deduction?

Only individuals who own a business are eligible for the deduction. Yes, some employees used to be eligible under special circumstances, but those rules changed at the end of 2017. Now, only business owners who use space in her or his home exclusively and regularly to substantially conduct business operations can consider taking a home office deduction. No non-business activity can be conducted in a home office. That means no personal items in the home office, even clothes in the closet.

  1. What home expenses can be deducted?

Deductible home office expenses are either direct or indirect, based on the expense type and business percentage of the home used for business. The most common method used to calculate the business percentage is dividing the square footage used exclusively for business by total square footage. Shared spaces, like hallways, cannot be included in office space.  

  • Direct Expenses: Expenses that benefit only the home area that is exclusively used for business, such as painting or repairs in the home office, are direct expenses that are fully deductible.
  • Indirect Expenses: Expenses for keeping up and running the entire home, such as the mortgage interest, real estate taxes, insurance, utilities, and general repairs are deductible based on the business use percentage, described above.

Expenses to maintain the non-living home space, such as lawn care, are not deductible. For business owners who don’t want to hassle with tracking all the various home office expenses, the IRS has a Simplified Option that allows a standard deduction of $5 per square foot, limited to 300 square feet.  

Eligibility for a home office deduction is determined by a lot of rules that can be confusing. We address the basics here, but there’s more to it. Details and examples are on the IRS website at https://www.irs.gov/businesses/small-businesses-self-employed/home-office-deduction.

The Facts about Home Office Deductions

New tax clients ask me all the time about taking a home office deduction. It’s is a popular idea, but it doesn’t work for everyone, even if you have your own business. Lots of rules and your exact circumstances dictate what you can do. It can be pretty confusing.

So let’s “un-confuse” it: When can you take a deduction and how much?

When can you take a home office deduction?

1. Exclusive and Regular Use: Space used for a home office must be used exclusively and regularly for business operations. No non-business activity can be conducted in the home office. That means no personal items in the home office.

2. Principal Place of Business: Your home must be used to substantially and regularly conduct your business. It’s okay if you also carry on business at another location, but your primary activities must be in your home office.

3. Employees: Wage earners may be able to deduct a home office if #1 and #2 apply AND it’s for the employer’s convenience, such as teleworking to reduce the employer’s real estate footprint.

What home expenses can be deducted?

4. Indirect Expenses: Expenses for keeping up and running the entire home, such as insurance, utilities, and general repairs are deductible based on the Business Use Percentage. A percentage of mortgage interest and real estate taxes can also be deducted.

5. Business Use Percentage: The business percentage equals the area of the home used for business divided by the total area. The most common method to calculate the percentage is dividing the square footage used exclusively for business by total square footage. Shared spaces, like hallways, cannot be included in office space.

6. Direct Expenses: Expenses that benefit only the area exclusively used for business, such as painting or repairs in the home office, are direct expenses that are fully deductible.

7. Unrelated Expenses: Expenses for the part of the home not used for business, such as lawn care or painting a room not used for business, are not deductible.

8. Simplified Option: A standard deduction is allowed of $5 per square foot used exclusively for business, limited to 300 square feet.

Qualifying for a home office deduction can really help reduce your tax liability, especially for business owners. The basic rules are outlined above. More rules are more on the IRS website. Check them out here.

Is the Home Office Deduction for You?

Do you use part of your home for your business? Questions about home office deductions come up all the time with new tax clients. The topic also came up at last month’s IRS Tax Forum in Washington, DC.

 

A home office deduction is a potential IRS “red flag” because of how often it is abused. IRS audits find some taxpayers who inflate home expenses or take a deduction that isn’t allowed. Home office audits were described at the IRS Tax Forum, and it didn’t sound like fun. IRS auditors come to your home and use a tape measure on your home office. For real!

 

So how do you follow the tax rules and avoid the tape measure? A home office deduction can be taken for:

 

  1. Regular and Exclusive Use

You must regularly use part of your home exclusively for conducting business. Generally, deductions for a home office are based on the percentage of your home devoted to business use. Keep in mind that the IRS is strict about exclusive use. That means no personal items in the home office. No shared spaces like hallways or bathrooms, either.

 

  1. Principal Place of Business

You must show that you use your home as your principal place of business. Your home office must be used to substantially and regularly conduct business, such as in-person meetings with patients, clients, or customers in the normal course of your business. It’s okay if you also carry on business at another location.

 

If you are an employee and you use a part of your home for business, you may qualify for a deduction for its business use. In addition to the tests discussed above, you must:

 

  1. Use the home office for the convenience of your employer, such as teleworking to reduce the employer’s real estate footprint. If you work at home to perform tasks around your personal schedule, a home office deduction is not allowed.

 

  1. Not rent any part of your home to your employer and use the rented portion to perform employee services for that employer.

 

If you qualify, the home office deduction can reduce your tax liability. Follow the rules and the IRS tape measure won’t stress you out.