A growing number of people now work from home – whether they started their own business, do some freelance work on the side, work remotely for an employer or were sent home for a few months because of the Coronavirus. The home office deduction can save you money on taxes. Here’s what to know about the home office tax deductions for small businesses and self-employed.
The COVID-19 Coronavirus measures taken by public and private leaders will compel millions of US workers to work from home. Working from home may be a solution for many companies and employees to help sustain themselves and the economy. What does this have to do with saving money? If you use part of your home for business, you may be able to deduct expenses for the business use of your home. The home office deduction is available for homeowners and renters, and applies to all types of homes.
You may be able to take a tax break for your home office expenses, but you need to follow some strict rules.
Tax Deduction for Small-Business Owners
Small-business owners and entrepreneurs who work from home could save big money on their taxes by taking the home office deduction, as long as they meet the IRS’ requirements and keep good records.
If you use part of your home regularly and exclusively for business-related activity, the IRS lets you write off associated rent, utilities, real estate taxes, repairs, maintenance and other related expenses. But who qualifies for the home office deduction? Here are the conditions you’ll need to meet:
- Exclusive and regular use: You must use a portion of your home exclusively and regularly for your business.
- Principal place of business: Your home office must be either the principal location of that business, or a place where you regularly meet with customers or clients.
- Exceptions: Some exceptions to these rules, such as for daycare and storage facilities, are discussed below.
Regular & Exclusive Use
It’s not enough to use a part of your home only for business—you must also use it regularly. You can’t place a desk in a corner of a room and claim this deduction if you almost never use the desk for your business.
How much is “regularly?” It’s not so clear. The IRS only says you must use your home office for business on a continuing basis. One court has held that 12 hours of use a week is enough. There is a good chance that you could also qualify with less use but no one knows for sure. You can keep track of how much you use your home office by making simple notations on a calendar.
There are two exceptions to the exclusivity rule. If you provide day care services for children, elderly (65 or older) or handicapped individuals in that part of the house, you can still claim business deductions, as long as you have a license, certification or approval as a day care center under state law, according to the IRS. The other exception is if you use the office for storage of inventory or product samples you sell in your business.
Principal Place of Business
Although your home office doesn’t have to be the only place you meet your clients or customers, it must be your principal place of business. That means you use the space exclusively and regularly for administrative or management activities, such as billing customers, setting up appointments and keeping books and records, according to the IRS.
What if your business has just one office—in your home—but you do most of your work elsewhere?
- First, remember that the requirement is that the office be the principal place of business, not your principal office.
- As long as you at least use the home office to conduct your administrative or management chores and you don’t make substantial use of any other fixed location to conduct those tasks, you can pass this test.
- If you are an employee of another company but also have your own part-time business based in your home, you can pass this test even if you spend much more time at the office where you work as an employee.
This rule makes it much easier to claim home office deductions for individuals who conduct most of their income-earning activities somewhere else (such as outside salespersons, tradespeople, or professionals).
Does Your Home Office Qualify for the Tax Break?
You can determine the value of your deduction the easy way or the hard way.
- With the simplified option, you aren’t deducting actual expenses. Instead, the square footage of your space is multiplied by a prescribed rate. Instead of keeping records of all of your expenses, you can deduct the rate of $5 per square foot of your home office, up to 300 square feet, for a maximum deduction of $1,500. As long as your home office qualifies, you can take this tax break without having to keep records of the specific expenses.
- The regular, more difficult method values your home office by measuring actual expenditures against your overall residence expenses. You can deduct mortgage interest, taxes, maintenance and repairs, insurance, utilities and other expenses. For example, if your home office is 1/10th of the total square footage of your house, then you can deduct 10% of the total cost of some expenses, such as rent or mortgage interest, homeowners or renters’ insurance, and utilities (such as your electric, water and gas bills). You can also deduct a portion of your property taxes and depreciation on the home – those calculations are complicated, but the instructions to IRS Form 8829 can help.
What if You’re Working at Home for Just a Few Months?
If you’re working at home for just a few months – which so many people are doing now because of the Coronavirus – you may be able to take a partial-year home office deduction when you file that year’s income tax return. But you must be self-employed, and the home office must be used regularly and exclusively for business during those months. Keep this requirement in mind if you’re setting up a temporary office in your home: It doesn’t have to be a separate room, but it has to be a space you use exclusively for your business.
The rules on tax deductions for a home office can be hard to digest. Consult with a tax advisor or use the appropriate online tax software if you’re unsure about how to proceed.
For a full explanation of tax deductions for your home office refer to Publication 587, Business Use of Your Home. In this publication you will find:
- Requirements for qualifying to deduct expenses (including special rules for storing inventory or product samples).
- Types of expenses you can deduct.
- How to figure the deduction (including depreciation of your home).
- Special rules for daycare providers.
- Tax implications of selling a home that was used partly for business.
- Records you should keep.
- Where to deduct your expenses (including Form 8829, Expenses for Business Use of Your Home, required if you are self-employed and claiming this deduction using the regular method).
The rules in the publication apply to individuals.
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