When you’re running a small business, or are working from home, you are always looking for tax deductions. One of the most overlooked is the Home Office Tax Deduction. Due to COVID-19 a lot more people are working from home, and are looking for ways to save money on their taxes. We’re going to let you know what you need to do to qualify for this deduction.
Rules regarding your Home Office
In order to deduction a portion of your home as a Home Office, you must follow a few simple rules. Here are the most important ones:
Rule #1 – Exclusive Use. You must use the office exclusively for your business. You cannot use a part of a room that serves another purpose.
- Deductible: Adam has a room that is 12 x 10 (120 sqft.) that is exclusively for his home office. The items in his home office are his desk, computer, file cabinets, telephone, & printer
- Non-Deductible: Brad uses a corner of his bedroom that he put a desk in with a computer. The bedroom is 15 x 15 (225 sqft.), but only 30 sqft. is the computer and desk. In this room he has his bed, tv, nightstands, dresser drawers, computer, & desk.
That’s right, the IRS says no way if you use part of the room for anything other than an office.
Rule #2 – Regular Use. You must use your home office on a regular and continual basis. If you only use your home office once every 3 months, it’s probably not going to cut it. Examples where the IRS says it counts are if you use you home office for nightly conversations with clients, or if you use it to meet with clients multiple times a week.
Rule #3 – How you use your home office. If you use your home office as either principal place of business or meeting place for your clients, you may deduct your home office. This also counts if you use your home office for admin or management activities, such as billing customers, bookkeeping, ordering products & supplies, setting up meetings, etc.
Business Percentage (%) Home Office
The deduction for your home office is calculated by multiplying your home office expenses times your “business percentage”. There are two methods the IRS mentions that you may use:
- Square Footage Method – divide the area of the business by your home total square feet
- Number of Rooms Method – if all the rooms in your home are about the same size, you can divide the business room by total rooms in the home.
Square Footage Method – Adam owns a home that is 1350 square feet. His home office is 12 x 12 (144 sqft.) Adam’s business percentage is 10.66% (144 divided by 1350).
Number of Rooms Method – Brian owns a home that has 9 rooms, all are around the same size. Brian’s business percentage is 11.11% (1 divided by 9).
So if Adam’s home office expenses are $4,000 for the year, his deduction would be $426.40 ($4000 x 10.66%).
Deductible Home Office Expenses
There are two types of home office expenses that are deductible. They are:
- Direct expenses,
- Indirect expenses
A direct expense is something that is germane only to your home office and not the rest of your home. An example is a repair in the office room. All direct expenses are 100% deductible.
An indirect expense are expenses that effect the entire home, not just the home office room, such as your monthly electricity bill. These expense must be multiplied by your home office percentage (%).
Here is a list of all expenses you should look for when you are calculating your home office deduction:
- Mortgage Interest,
- Property Taxes,
- Utilities (Water, Power, Gas, Sewage, Internet),
- Garbage, Lawn Maintenance,
- Security (Ring, Vivant, etc.),
- HOA / Maintenance Fees
Keeping it simple (simplified method)
What if you don’t want to spend the time adding up your monthly bills? No problem, in 2013 the IRS came up with a simple way to calculate your home office deduction. The “Simplified Method” multiplies $5 x the number of square feet of your business office, up to $1,500.
Using Adam as an example, if his home office is 120 square feet, his home office deduction using the simplified method is $600.
Can employees take the home office deduction?
No. Starting in 2018 through 2025, employees are no longer allowed to take a home office deduction. We were hoping that due to COVID-19 lawmakers would bring back the deduction since so many employees in the workforce are now forced to work from home. Unfortunately, Congress has yet to update the law. We will let you know if it changes.
What if I own an interest a LLC, partnership, or S-Corp?
LLCs and Partnerships – You may deduct your home office expenses if you are member of an LLC or Partnership, only if the Operating Agreement expressly states that the partner or member must pay the expenses personally, without getting paid back from the company.
S-Corporations – The only way to get the home office deduction, legally, for your S Corporation is through reimbursements. In order to get reimbursements for your home office deduction, you must follow these rules:
- Provide an expense report to your S Corporation for your home office,
- Show that the home office is for the convenience of your S Corporation’s employer,
- Prove that your home office is for regular and exclusive use
When you’re, married your home office must still be exclusively used for business. Adam and Betty are married and Betty runs a jewelry business. She uses half the office for her business. Adam uses the other half for his Star War collection. Since the office doesn’t have 100% business office use, it is no longer deductible. Not even by Betty. Keep the room strictly business!
If you have multiple businesses using the same home office, each business must qualify on it’s own merits, other wise you will lose the deduction for both businesses.
****Please keep in mind that the tax code is constantly being updated and changing. Some of the IRS code and guidance may have changed since the time of this writing. Therefore, this material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should always consult your own tax, legal and accounting advisors before engaging in any transaction(s).