| You could save money if you do — but perhaps not as much as you hope.
Here are some pros and cons to ponder, when deciding whether to take the home office deduction.
Some reasons in favor of taking the home office deduction:
Some reasons to be cautious:
Reducing Self-Employment Taxes
If you own your home, you can deduct your home mortgage interest and taxes as itemized deductions in most cases. Claiming a home office effectively shifts some deductions from regular itemized deductions into business deductions. When you are self-employed, the deductions reduce your net business profit and your self-employment income, meaning that you’ll pay lower self-employment taxes.
Getting a Deduction for Rent
If you rent your home, you can deduct the portion of your rent that’s attributable to the business use of your home. This deduction means that at least part of your otherwise nondeductible rent is a deductible expense.
Deducting Part of Your Home Expenses
With a home office you can deduct a portion of many expenses that aren’t normally deductible, such as utilities, trash and snow removal, and depreciation. You can also deduct a portion of repair, maintenance, and homeowner’s insurance costs. When you are self-employed, deducting these expenses lowers your profit, income taxes, and the self-employment tax.
If Your Home Office is Tiny
Taking the home office deduction will most likely save you money, but how much? If you use a very small percentage of your home as an office, such as 10%, you need to use that percentage to compute your deduction for utilities, trash removal, mortgage interest, real estate taxes, and rent. The deduction, then, may not amount to as much as you anticipated.
Paying Taxes on the Home Office Share When You Sell Your Home
When you sell your home, the home office may be considered business property, and that portion of your gain on the sale may be taxed, because business property does not qualify for exclusion from income tax, as a personal residence gain. This situation can occur if you use your home for business in the year of the sale, or if you don’t meet the “two-year test” (in which 100% of the residence was used as your main home for an aggregate of 730 days in the last five years). If this applies to you, you must treat the sale of your home as two transactions: one as the sale of business property and the other as the sale of your personal residence. The sale of business property is a taxable transaction that you must report, and unfortunately, any gain that results isn’t eligible for the $250,000 home sale gain exclusion.
If you own your home, any depreciation taken after May 6, 1997 must be “recaptured” at the time you sell your residence for a profit, which means that the depreciation must be taxed at a special 25% rate. The rest of any gain that you have from the sale of the business portion of your home will generally be taxed at 20% (assuming you owned the home for more than a year).
The Home Office Deduction Cannot Trigger a Net Loss
Finally, you can’t claim the home office deduction in the current year if it creates or increases a net loss for your business. The only exception to this rule is when you’re deducting expenses that would otherwise be deductible on Schedule A as itemized deductions, such as mortgage interest and real estate taxes attributed to the business portion of your home.
However, you can carry forward the Home Office Deduction to future years until you have enough income to take the deduction.
For More Info
See IRS Publication 587, Business Use of Your Home. |
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