Who can take this deduction?
Self-Employed or Small business owners who meet the following two rules:
- You must use the space exclusively and on a regular basis to conduct business.
- You must use the space as your principle place of business.
Employees who meet the two rules above and the two following rules:
- Your business use must be for the convenience of your employer, and
- You must not rent any part of your home to your employer and use the rented portion to perform services as an employee for that employer.
Those who store inventory or product samples
Yes! You can deduct the space in your home where you store inventory or product samples. You do not have to use the space exclusively for storage area however you must meet the following five rules:
- You sell products at wholesale or retail as your trade or business.
- You keep the inventory or product samples in your home for use in your trade or business.
- Your home is the only fixed location of your trade or business.
- You use the storage space on a regular basis.
- The space you use is a separately identifiable space suitable for storage.
This flowchart is provided by the IRS to help you figure out if you can deduct your home office or storage.
Once you figure out that you can deduct your home office or storage expenses you will need to figure out which of the two methods you will use to calculate your deduction.
Method #1: Simplified Method
This method reduces the burden of recordkeeping. All you need to do is take the rate for the current tax year and multiply by the square footage of your home office space.
If your home office is a 10×10 room (100 sq. ft.) For 2014 the rate was $5.00/sq. ft.
So, 100 x $5.00 = $500.00
(If using the simplified method, you are only allowed up to 300 sq. ft.)
As you can see this method is indeed pretty simple and straightforward. You could have taken the home office deduction reducing your tax liability by $500.00.
Ah, but wait… there is a second method that could possibly calculate a larger deduction.
Method #2: Regular Method
This method allows you to use the actual cost of running your home and multiply that by the percentage of your home devoted to business use. It may appear to get a little tricky. But if you stick with me, you will see how awesome this deduction can be.
First, we need to figure out the % of your home used for business.
If you have 1000 square foot home and use 100 square feet as a home office that translates into 10% of your home is being used for business.
Ok easy enough, here’s where it gets fun!
Next, we need to tally up all the actual home expenses for the entire tax year.
- Mortgage Interest
- Qualified Mortgage Insurance
- Home Owner / Renters Insurance
- Repairs (Repairs that benefit the whole home such as Furnace repair)
- Security System
- Utilities & Services (Electric, Gas, Garbage etc…)
This can add up quickly.
Next, we multiply the total home expenses by the percentage of your home used for business. Sticking to our example above
Example 10% is used for business and
let’s say, your total home expenses for the year were $9,000.00.
$9,000 x 10% = $900.00 deduction.
This is $400.00 more than using the simplified method for the same office space.
The regular method may require a little diligence on the recordkeeping side, which you can see can be well worth it.
IRS Publication 587, Business Use of Your Home