Is Your Home Office Also a Tax Shelter?
The pandemic ushered in the age of video meetings, providing a glimpse into many kinds of home workspaces. For many workers, a dedicated home office became more important than ever in 2020, though not everyone will get a tax break for having one.
Only self-employed workers, independent contractors, and partners in certain pass-through businesses may claim the home office deduction on their personal tax returns. To qualify, a home office must be the taxpayer’s principal place of business and be used regularly and exclusively for work — not to manage personal matters or pursue a hobby. It must be a separately identifiable space, but not necessarily an entire room.
About 60% of all U.S. businesses without paid employees are home-based, as are 23% of small employers.
Industries with highest percentages of home-based businesses
Source: U.S. Small Business Administration, 2019
Prior to 2018, employees receiving a W-2 form and corporate business owners who were required to work at home could claim the home office deduction as a miscellaneous itemized deduction. However, this deduction was eliminated by the Tax Cuts and Jobs Act for years 2018 through 2025. Companies may reimburse employees for some home office expenses and take a deduction on corporate tax returns.
One Way or Another
Taxpayers who operate a trade or business out of a qualifying home office can choose between two different calculation methods, one of which could result in a larger deduction.
Under the original method, eligible taxpayers can write off a percentage of home office expenses such as depreciation, rent, property taxes, insurance, utilities, maintenance, and repairs. The percentage is based on the square footage of the space used by the business relative to the total size of the home.
A newer, simplified option allows taxpayers to claim a flat $5 per square foot of the office, up to 300 square feet. Thus, the deductible amount is capped at $1,500. This simple formula doesn’t take home office expenses into account, so it’s easier to figure out and generally lightens the recordkeeping burden. However, business owners with relatively high home expenses may be able to claim more than $1,500 for a home office if they use the more complex calculation method.
Sole proprietors and independent contractors take the home office deduction as a business expense on Schedule C, and partners use Schedule E. Either way, small-business owners may want their tax professional to help determine eligibility and evaluate the potential tax savings.