Understand the Rules Before Taking the Home Office Deduction

It’s one of the most often asked questions by home-based business owners all over the country: Can I take the home office deduction?

The good news is the Internal Revenue Service has made answering this question relatively simple. The bad news is the rules for actually taking the home office deduction can get fairly complex.

Specific Criteria

Let’s start with the good news. To claim a business deduction for the costs of operating and maintaining a business from your home, the part of your house that you designate as a home office must meet specific IRS criteria: It must either be used exclusively and regularly as your principal place of business, or as a place where you meet and deal with customers in the normal course of your business; or it must be used for business storage (e.g., for inventory or product samples), as rental property, or as a home day care facility.

But what exactly does “exclusively and regularly” mean? Pretty much what it says. For most home-based business owners, the regularly part isn’t a problem: They spend plenty of time working in their home offices. The catch is usually with the exclusivity requirement.

By exclusive use, the IRS means that the area designated as a home office is used only for the conduct of business and nothing else. A spare bedroom with a guest bed and a dresser on one side and a desk, computer, and filing cabinet on the other would not qualify for the home office deduction.

Another example: Many self-employed people operate their businesses from their kitchen or dining room tables. These areas do not normally qualify as home offices either, because other family activities typically take place here in addition to business activities.

There is a way around this restriction, however. The IRS doesn’t specify that a home office has to be a full room or a completely enclosed area. If your spare bedroom is doubling as a guest room and a home office, for example, just make sure that it’s set up in such a way that these areas are separate, and include the dimensions of the business area in your calculation of your home office’s square footage.

Claiming the Deduction

There are two different methods to determine the percentage of your home that qualifies for the deduction. You can either divide the square footage of the home office area by the total square footage of your home, or if you have an entire room set aside as a home office you can divide this room by the total number of rooms in your home, if all rooms are of comparable size.

If your home is 2,500 square feet and 200 square feet comprise home office space, for example, you could deduct 8 percent of qualifying home expenses on your federal tax return. Or if your home has 10 total rooms of comparable size and one is set aside and used exclusively and regularly as a home office, you could deduct 10 percent of qualifying home expenses. These expenses include deductible mortgage interest or rent, real estate taxes, homeowners insurance, utilities, repairs and maintenance, a security system, and depreciation.

While claiming the home office deduction may slightly increase your odds of being audited, most experts say this shouldn’t stop you from taking the deduction if you qualify. The home office deduction is one of the biggest tax breaks available to business owners who work from their homes, and the benefits usually far outweigh the risks, especially for owners who are filing honest and accurate tax returns.

For more detailed advice and guidance on taking the home office deduction, be sure to consult with your tax advisor.

Don Sadler is a freelance writer and editor specializing in business and finance.