Most of you do at least some of your work from a home office. Deducting it from your tax returns can fast-track you for an audit by the Internal Revenue Service. But don’t let that deter you from claiming something you’re entitled to — as long as you follow the rules to a T.
There’s a wee bit of a twist to the rules this year thanks to the new Tax and Jobs Act — and it affects the self-employed more than other types of taxpayers.
If you file taxes as self employed, you can only itemize 20% of your income as business expenses (payable at the self-employment rate) and thereafter everything becomes taxable at an individual level. If all of your expenses fit that criteria, then you can include your home office in that set of deductions.
Do You Have an Employer ID?
Unsure whether that applies to you? Well, if you haven’t filed to incorporate your venture — meaning you don’t have an employer tax identification number — any income you generate for yourself calls for filing taxes as self-employed.
If you file taxes for a business you’ve incorporated (in addition to filing a personal return) you can only report the cost of a home office on one of these sets of tax returns, but not both.
Whether you choose to itemize it on the tax returns for your business or your personal filings is your call — but ask an accountant for advice.
Exclusively for Business
Your accountant will advise you to only claim your home office space if you use it exclusively for business purposes — and also tell you to read up on the topic on the IRS website.
The deciding factors are the same whether you are looking at tax returns for your business or your personal filing.
Whether you’re about to itemize the home office on a business tax return or a personal filing, if you use any of the space for personal reasons, you shouldn’t claim it – -with the exception being storage and daycare, but that’s a whole other topic.
Not if You Also Use It for Personal Stuff
Otherwise, if you claim office space that you actually use for personal stuff, you run the risk of not passing muster during an audit — and apparently people who claim this deduction have a greater likelihood of being audited than those who don’t.
Don’t try to rationalize a deceptive deduction based on the overall odds of being audited — because you’re already much likelier to be audited than average.
And if you’re found to have underpaid taxes in any way, you owe not just the unpaid amount but interest that accrues over time — the proverbial clock starts ticking the day after the April 15 filing deadline.
Don’t Be Afraid
But don’t let any of this inhibit you from claiming a deduction you’re rightly entitled to — just make sure you do so as accurately as possible. There are two ways to arrive at the correct amount.
The old-fashioned way calls for measuring your entire home, followed by the exact dimensions of your home office space and then solving the equation below.
home office size X total annual rent or mortgage payments = home office cost
entire home size
Just Claim That Home Office Deduction
If that sounds too complicated, you can use the simplified method that the IRS made possible in 2013: You can just measure the home office and assign a value of $5 per square foot — but that’s capped at $1,500.
So if your rent or mortgage comes out to more than $5 per square foot, you end up under-reporting your home office expenses if you go with the simplified formula.
And on a final note, if your home office consists of a subsection of a room, consider investing in a room divider or partition or screen to demarcate the area where where you work from the part where you live — then you get to deduct that item as a business expense.
Do you plan to claim a home office deduction on your tax return this year, fellow entrepreneurs?
Jackie Cohen is an award winning financial journalist turned turned financial advisor obsessed with climate change risk, data and business. Jackie holds a B.A. Degree from Macalester College and an M.A. in English from Claremont Graduate University.