If you’re working at home whether as a self-employed or an employee, you can deduct particular expenditures for the part of your home that you use for your home-based business and/or employment.
When deducting such expenses in your home for business purpose, you should consider the following:
- Use your home as your principal place to operate your business or trade;
- Use your home as a place where you meet and deal with your patients, clients, or customers in the normal course of your trade or business;
- Build a separate exclusive structure that is not attached to your home and that is going to be used regularly for your trading transactions;
- Use the structure for storage purpose, for inventory, for product sampling, and for trading transactions, either retail or wholesale; and
- Use your home for rental use or as a daycare facility.
Take pictures and keep good records of any and all expenses directly related to improvements to the office area you are claiming. If you have customers or clients who visit your home office, have them sign a guest log as evidence.
If the exclusive use requirement applies, you cannot deduct business expenses for any part of your home that you use both for personal and business purposes. For example, if you are an accountant and use the den of your home to do the accounting work and for other personal purposes, you cannot simply deduct the home expenses related to your business operation.
Moreover, based on principal place of business test, there is a need to assess if your home is the main location of your trading activities, where you spend most of your business activities for you to deduct expenses for the business use of your home. A store front, or another office space then, may not qualify under the principal place of business test, but it could qualify if the use is for administrative or management activities. (See below)
A portion of your residence can qualify as your main area of business operation if you use such area for administrative and management matters and if you do not have other fixed location where you can conduct substantial administrative or management activities for your trade or business. Oftentimes, this becomes confusing so a test is going to be done if you have NO other physical location or fixed location where you can conduct a substantial portion of administrative or management activities, such as reviewing reports, developing marketing plans, and using the internet to drive traffic to your website. For these considerations, then, you may have a deduction.
You also may take deductions for business storage purposes when the dwelling unit is the sole fixed location of the business operation or when the residence is utilized for daycare services; an exclusive utilization of such place is a not a requisite in this case. In the cases of business records, supplies, materials and even in the case of handyman, home repair businesses, and house cleaning, they can be taken as bases of a significant deduction you claim.
The deductible expenses for business use of your home include real estate taxes, rentals, mortgage interest rates, utility expenses, casualty losses, insurance costs, depreciation, maintenance, and repairs. In general, you may not deduct expenses for lawn care or for painting a room not used for business. However, you have an entire additional amount of expenses that fall under repairs, maintenance and upkeep that may qualify. HOA dues if a condo, insurance, utilities, water, sewer, trash, Home Depot, and any repairs you pay for would all be a part of the expenses you claim.
Regular Method – Historically, taxpayers have computed the business use of home deduction by allocating the total expenses of the home to the percentage of the home floor space used for business.
For example, if your home is 2,000 sq ft and the business use area is 200 sq ft then 10% is the percentage you would use applied to ALL expenses you claim!
However, a qualified daycare provider who does not use his or her home exclusively for business purposes must figure the percentage based on the amount of time the applicable portion of the home is used for business. Self-employed taxpayers filing Form 1040, Schedule C, Profit or Loss From Business (Sole Proprietorship) first compute this deduction on Form 8829, Expenses for Business Use of Your Home. This percentage use is based on the number of hours used for daycare purposes divided by the total hours in a year (365 days x 24 hours = 8,760 hours and if you operate 5 days per week at 8 hours per day x 52 weeks then your use is 2,080, then divided that by 8,760 equals 23.7% BUT don’t forget you have set up time, break down time, stand by time, time to clean and prepare and should include ALL hours of use. Keep good hourly and daily operation records, too.
Simplified Option – While you, as a taxpayer, can still determine the deductible expenses through a regular formula or method, other taxpayers may find the optional safe harbor method less burdensome. Beginning in 2013, the provision of Revenue Procedure 2013-13 qualifies the taxpayers to have $5 per square foot as an allowed rate for the home portion used for business transactions. Then, the maximum area is 300 square feet which can be used to deduct the expenses for home-based business purpose. Based on the harbor method, the taxpayers can claim directly the deduction using Form 1040, Schedule C.
Instead of using Form 8829, a taxpayer must indicate the taxpayer’s election to use the safe harbor option by making two entries directly on the Schedule C for the square footage of the home and the square footage of the office.
Any deduction that can be attributed to your home is, however, allowable without regard to business use (such as qualified residence interest, property taxes, and casualty losses) is allowed in full on Form 1040, Schedule A, Itemized Deductions.
Regardless of the method used to compute the deduction, you may not deduct business expenses in excess of the total gross income. Based on the regular method to compute the aspired deduction, you are entitled to continue some aspects of your business expenses the succeeding year, but they should be subjected to the total gross income limitation during that particular year. In other words, it is not allowed to have a carry-over approach based on the safe harbor method. But you may elect into and out of the safe harbor method in any given year.
For employees working from home, they may only deduct expenses for business use of the home expenses when they use the business as part of the home exclusively and regularly and for the employer’s convenience. NOTE: You must have something in writing that explains you are required by employer or else IRS will disallow the deduction. A good example is a remote work location where your employer permits you to work from home. You can simply set up a room exclusively for the office area and have your employer write you a statement that this is a requirement for your job, and you have all the proof for this matter.
In any case, when you claim this valuable deduction you want to keep regular records, take pictures, maintain some record of visitors, customers, parents of children you provide daycare for sign in sheet, and take advantage of the deduction to reduce your taxes. Remember it reduces your Self Employment taxes on your SE profits, and in turn, reduces income taxes as you have less taxable income. SE taxes are 15.3% of your SE profit PLUS the tax on your taxable income after deductions and exemption credits. A valuable deduction indeed!