The home office deduction is a tax benefit granted to small business owners who use part of their home for business purposes and meet IRS requirements. Deductible expenses that qualify under the home office deduction include everything from repairs, to mortgage interest and property taxes.
The home office deduction, which is optional, is capped at $1,500 per year and based on $5 per square foot for up to 300 square feet. Use IRS Form 8829 to calculate the allowable deduction of home office expenses for your company. To ensure that you qualify, review the rules and restrictions of the home office deduction with your tax advisor. More importantly, be sure to maintain documentation that proves your home office space passes the following tests for claiming the deduction.
1. A Portion of Your Home Is Used Exclusively for Business
You can reduce your chances of being audited by passing one of the most important tests on eligibility for the home office deduction. This is the exclusive-use test, which demonstrates that the space in your home is dedicated solely for company use. As stated by the IRS, “Deduction for home office use of a portion of a residence [is] allowed only if that portion is exclusively used on a regular basis for business purposes.”
In other words, if part of the room is used as your children’s playroom or a family dining area, you can only deduct the portion of the room that’s 100% allotted for business activities.
Nevertheless, there are exceptions. If you manage a state-licensed daycare facility for children, handicapped individuals or elderly adults age 65 or older, or if you use the office space to store business inventory or product samples, then you’re still eligible for the deduction under the exclusive-use rule.
2. Your Home Qualifies as the Principal Place of Business
Secondly, you must prove that your home office is the principal location where you conduct business and meet with clients, customers and patients. Thus, your home office should be where you perform most of your company’s management and administrative functions. If there’s a second location where you do most of your work, then there’s a chance your home office fails this rule.
Like the exclusive-use test, however, there’s an exception to this rule, according to IRS tax expert Phyllis Grimes:
“You can deduct expenses for a separate free-standing structure, such as a studio, garage or barn, if you use it exclusively and regularly for your business. The structure does not have to be your principal place of business or the only place where you meet patients, clients or customers.”
Consult IRS Publication 587 for further guidance on determining whether your home office meets the principal place of business rule.
3. Consult Your Tax Accountant
Planning ahead will help you avoid some of the common mistakes small business owners and self-employed professionals make when attempting to claim the home office deduction on their tax return. One of the most common missteps is claiming deductions for a portion of the home that is inconsistently used for business activities.
Even if your home office is ineligible for the home office tax deduction, your company may still qualify for other tax write-offs on advertising costs, office supplies, business insurance and other expenses. Accounting and tax software like QuickBooks Self-Employed can help manage these expenses and automate your deductions, or you can check with your accountant or tax advisor to see which deductions are available to you.
Want to optimize your tax deductions even more? Check out our article on the top tax write-offs for small business owners.