If you work from home, or conduct a substantial amount of business while you're home, you might be able to claim a home office deduction on your tax return. This deduction can be rather lucrative -- you can proportionally deduct many of your household bills, as well as any expenses directly related to the office itself. However, you should be aware that the deduction is often abused, and therefore is a pretty big red flag for the IRS when deciding who to audit. So, it's important to be sure that you qualify.
What is the home office deduction, and how much can you claim?
The home office tax deduction is intended to let people who use part of their home for business to deduct related expenses. There are two methods that can be used to compute the deduction, and you can choose whichever you'd like.
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The simplified option allows for a standard deduction of $5 per square foot of the portion of the home used for business, with a maximum of 300 square feet. So, if you use a room that measures 15 feet by 12 feet as your office, or 180 square feet, you can deduct $900.
Or, the regular method of computing the deduction could be more beneficial, but requires more calculation and documentation. This involves calculating the actual expenses related to the business use of your home, as a portion of the total home. Examples of expenses may include, but are not limited to:
- Mortgage interest and/or mortgage insurance
- Rent
- Homeowners insurance
- Utilities
- Pest control services
- Repairs
- Depreciation
For example, let's say that you have the following home expenses, and that you use 150 square feet of a 1,500 square foot home as your office.
|
Expense |
Annual total |
|---|---|
|
Rent ($1,500/month) |
$18,000 |
|
Electricity |
$1,500 |
|
Water |
$400 |
|
Security system |
$250 |
|
Pest control |
$200 |
So, your total home expenses are $20,350. In order to compute your home office deduction, use the following formula:
In our case, this would be
Notice that in this example, the regular method produces a significantly larger deduction than we would compute using the simplified method. This may or may not be the case for you, so be sure to figure out the deduction using both methods in order to get the largest possible benefit.
Is your home office really a home office?
In order to claim the home office deduction, there must be a room or other area in your house that is used for the sole purpose of conducting your business. The idea behind the home office deduction is that the space is not used as living space by you and your family, so if it is used for any other purpose than you doing work, it does not qualify.
For example, if you have a computer cart in the corner of your dining room, you may not claim the space as a home office. Similarly, if you have your workstation set up in a room that doubles as a guest bedroom, it's technically not a home office, even though it is used for that purpose most of the time.
Principal place of business
In addition to using the space exclusively for business purposes, the home office must be the principal place you conduct your business.
Now, this doesn't mean that you can't also conduct your business somewhere else. In order to qualify as a principal place of business in the eyes of the IRS, the following two conditions need to be satisfied.
- You use the space exclusively and regularly for administrative or management activities of your business.
- There is no other fixed location where you conduct such activities.
As an example, if you are a sales representative and generally make your presentations at customers' offices, but maintain a home office to perform your administrative tasks, it qualifies as a principal place of business. Of course, there are several other rules and details, so the IRS provides this guide to help determine if your home office qualifies.
If you clearly meet the two criteria mentioned here, your home office qualifies for a deduction. However, if you aren't sure whether or not you can legitimately claim the deduction, it's best to speak with a tax professional.
Claim the deduction, but only if it's legit
According to most tax experts, a home office deduction is toward the top of the list of red flags the IRS looks out for. By no means should you miss out on a legitimate deduction over the fear of an audit, but it's a good idea to take extra steps to prove your deduction is legitimate, maybe by submitting a photo of your dedicated home office or by offering a thorough explanation of the nature of your business, and why you need an office at home. Doing these things is not necessary, but it couldn't hurt.
