Guide to Understanding Home Office Deductions
Having a remote job has its perks. Not only do you get to do the work you love and earn a decent wage, but you don’t have to commute to an office. And if all that weren’t enough, the IRS allows you to take a home office deduction on your tax return as well.
But here’s the interesting part. While an estimated one in five people work from home, which roughly translates into about 26 million Americans, only 3.4 million claim home office deductions. One theory is that taxpayers are reticent to claim deductions for fear that it could cause a potential audit from the IRS.
Taxes are complicated. So, before you file, it’s always best to consult with a qualified tax professional. However, deducting your home office isn’t as daunting as it sounds and won’t automatically trigger an audit. Claiming the home office deduction could lead to some extra savings on your taxes this year and for years to come.
What Is a “Home Office”?
Let’s start by defining “home office.” Your home office is not the coffee shop, library, or even a coworking space. A home office is a part of your home. However, that does not mean it has to be located inside your house.
A home office can be a spare office in your house, your garage, the shed in your backyard, a barn, or any free-standing structure on your property. But, if a treehouse office isn’t your thing, that’s OK. A home office can be the corner of your dining room or even the nook under your stairs. As long as it meets the IRS definition of “home office,” you can deduct it on your taxes.
To claim the home office deduction, your office space has to meet two main requirements. These are:
- You use the office regularly and exclusively for your business.
- The home office is the “principal place” of your business.
These requirements, however, are a little stricter than most people realize. When it comes to the “regular and exclusive use” requirement, this includes after hours. So, if you’re the only person using the office between regular work hours, that’s great. But, if the kids come in after 5:00 to do their homework, the office is no longer used “regularly and exclusively for your business,” and you may not qualify for the deduction.
In the case of using a corner of the kitchen, you can claim this area as your home office as long as you can show that you exclusively use that space for only your business. Consider adding a curtain that closes your “office” off from the rest of the kitchen to show that the area is indeed, exclusively for your office.
Also, the principal place of business requirement means that you conduct most of your business at your home. It is acceptable for you to go to a client’s business for a meeting or even more than one meeting. As long as a majority of your business is conducted at your home, you can claim the home office deduction.
Who Is Eligible for The Home Office Deduction?
It used to be that only the self-employed were eligible for the home office deduction. However, with the rise of remote work and even in-office employees working at home some days of the week, more workers are eligible for the deduction. However, not everyone who works at home can claim the home office deduction.
If you are a freelancer or self-employed and work primarily at home, as long as your home office meets the above IRS requirements, you are free to claim the home office deduction. However, regular employees have to meet different rules to claim the home office deduction.
Whether you’re a full-time remote employee or someone who works from home a few days a week, claiming the home office deduction requires more than meeting the regular and exclusive rules. You must be required by your employer to maintain a home office due to your job. To meet this test, your home office must be:
- A condition of your employment
- Necessary for your employers business to function properly
- Necessary for you to perform your duties properly
What this does not mean is that you can claim the home office deduction if you work at home because you want to. If your employer provides you a place to work, but you prefer to work at home, you are not eligible for the home office deduction. An “employer-provided office” can include a coworking space but does not include a coffee shop.
Homeowners are not the only people who can claim the home office deduction. Renters are also eligible to claim the deduction if their home office meets IRS guidelines.
How to Deduct Your Home Office
Once you’ve determined your home office is eligible for the deduction, you have to calculate how much you can deduct. There are two methods for doing this, and each has its advantages and disadvantages.
It’s important to note that you do not have to use the same method to calculate the deduction every year. You can use one method one year and the other method the next year if you want.
The simplified method is, well, simple, which is its greatest advantage. Unlike the actual method, with the simplified method, you simply determine how large your home office is (in square feet) then multiply that number by $5. That’s the number you can deduct from your taxes.
So, if your home office is 200 square feet, you can deduct a total of $1,000 from your taxes (200 X $5). However, if the amount of your deduction is more than your business’s gross income, you cannot claim the home office deduction.
The main disadvantage of the simplified method is that you can’t use more than 300 square feet when calculating your deduction. If your office is larger than 300 square feet and you use the simplified method to calculate your deduction, you can only deduct a maximum of $1,500.
The Actual Method
The actual method is more complicated than the simplified method. However, the actual method can give you far greater tax savings. The main drawback of this method is that it requires you to keep meticulous records that separate what you buy for your business and what you buy for your home. However, separating these expenses isn’t as simple as using a business account to pay for a ream of paper.
The IRS also requires you classify your business expenses as direct, indirect, or unrelated. The IRS defines the different expenses as follows:
- Direct expenses: expenses related solely to your business (example: carpeting only the home office)
- Indirect expenses: expense for the entire home but benefit your office (examples: home insurance, mortgage, the gas bill)
- Unrelated expenses: expenses that are needed for the home, but not the business: (examples: painting your bedroom, mowing the lawn)
While this seems like a minor annoyance, remember that if you claim something the IRS says is unrelated, you’ll need to be able to prove it is a direct or indirect expense. And, you can’t claim the full amount of an indirect expense, only part of it.
You also have to calculate the percentage of your office compared to the rest of your house. While the IRS says, “you can use any reasonable method to determine the business percentage,” most filers use one of these two methods:
- Divide the area you use for your business by the total area of your home.
- When the rooms in your home are approximately all the same size, divide the number of rooms used for your business by the total number of rooms in your home.
For the first example, if your home is 2,000 square feet and your home office is 200 square feet, divide 200 by 2,000. That gives you a home office percentage of 10%. In the second example, your home has 10 rooms, and you use one of the rooms as your office. Divide 1 by 10, and your business percentage is 10%.
While the actual method may be a bit more intense than the simplified method, there are advantages to using it.
First, if you own your home, you can depreciate your home. When you depreciate your home, you deduct the “wear and tear” on your home office. And, when you go to sell your home, you can recover the depreciation cost when you sell the house.
Second, if you make permanent improvements to the house, in some cases, you can deduct the improvements. For example, if you paint only the office, you can deduct the expense. But, if you put a new roof on the house, you can only deduct the business percentage of that new roof.
Third, as a homeowner, you can deduct part of your real estate taxes and mortgage interest (in some circumstances). And you can also deduct things like insurance, a security system, and certain utilities.
Lastly, renters can also take advantage of the actual method. You can deduct your home office and some related expenses from your taxes.
The Office Isn’t Everything You Can Deduct
The physical office space isn’t the only thing you can deduct. There are other deductions available under the home office deduction. However, keep in mind that most of these deductions are only available if you use the actual method, not the simplified one.
Also, if you are a regular employee and your employer reimburses you for the expenses, many of these expenses are likely not deductible. And, in fact, as a regular employee, you may not be eligible for some of these deductions.
This is probably the most overlooked home office write-off category and can include anything from paint supplies and office furniture to computer equipment and wall art. Any home repairs you have made related to your office, such as installing a new door or wall, can also be claimed.
From your sticky notes to your favorite gel pens, your business supplies can count toward the home office deduction as well. However, there are rules not only about what can and cannot be deducted, but also who can and cannot take the deductions.
What Can Be Deducted
To deduct a business expense, it has to be ordinary and necessary. An ordinary expense is something that is “common and accepted” in your business. A necessary expense is “helpful and appropriate.”
What does that mean?
An ordinary expense is something that you would be expected to have in your line of work. For example, as a writer or editor, you’re probably expected to have paper, pens, and a printer. A plumber is expected to have tools, a tool belt, a toolbox, and other “common” items. In both these cases, these expenses would likely be deductible.
But not only do necessary expenses have to be “helpful and appropriate,” in order to deduct them, they also have to be ordinary. A necessary expense may be a newsletter or coupon you send out. It’s “helpful and appropriate” because it (hopefully) generates new business for you. And, it’s ordinary because there’s nothing “unusual” about coupons or newsletters.
Another way to think of ordinary and necessary expenses is to ask yourself if the expense is directly related to running the business. If it is, then it is likely deductible. If the expense doesn’t do much for the business and is only there to make your job easier, it’s likely not deductible.
As an example, you need a chair to sit in your home office to work on your computer. So, that expense is “ordinary and necessary,” and likely deductible. But, you probably don’t need a massaging chair with a heated backrest, so that is likely not “ordinary” or even “necessary” and likely not deductible.
Who Can Deduct Business Expenses
Only freelancers or the self-employed in most cases.
Like many things, the tax law is always changing. While regular employees used to be able to deduct unreimbursed business expenses, that is no longer the case. As of 2018, regular employees cannot deduct any business expenses on their federal taxes. However, state law may still allow you to deduct those expenses on your state return. But the federal rule ends in 2025, so remember to check up on it in a few years.
For freelancers to deduct workplace expenses, you have to itemize your eligible deductions and meet the “2% floor.” That means that the total of your eligible expenses must be greater than 2% of your adjusted gross income. If you don’t meet that floor, you cannot deduct your expenses.
Daunting But Worth It
Calculating the home office deduction can be simple or hard. But, in either case, if you’re eligible, it’s likely worth it come tax time. If you’re worried that claiming the home office deduction will make you the target of an audit, fear not.
If you’re following the rules and not claiming outlandish expenses, you should be just fine. Of course, always consult with a qualified tax professional if you’re worried or concerned.
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Andrea Levit, Jennifer Parris, and Adrianne Bibby contributed to this article
Photo Credit: bigstockphoto.com
A version of this post was originally published on February 5, 2016.
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Alexandra Levit, Business and Workplace Expert
Alexandra Levit is a business and workplace author, speaker, and consultant and a partner of FlexJobs. Her goal is to help people succeed in meaningful jobs, and to build relationships between organizations and top talent. Learn more at AlexandraLevit.com.Read More >
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