7 Home Office Tax Deduction Considerations

For many Indiepreneurs and Solopreneurs, work starts and ends at home (which many employees are experiencing thanks to COVID-19). When you’re running your own business, one potential advantage you have is the Home Office Tax Deduction.

Tax deductions are generally good, especially when they help save you on things you’re doing already. If you’re working from home, you’re already paying money for the space, so you might as well take a deduction.

But like almost all tax rules, and to only slightly change the cliche, the IRS* is in the details. things can get more complicated once you get into the details. Let’s discuss the top 7 things to consider before you count on taking the home office tax deduction.

*Though depending on your view on the IRS, it might not be a change at all.

1. The Home Office Tax Deduction is NOT for Employees

Let’s get this out of the way first: if you’re an employee, you’re not getting a deduction*. I’m sure this question will come up a million times thanks to COVID-19 sending everyone home for months.

The pre-2017 TCJA tax rules allowed some employees to get a deduction, but that benefit is dead and gone (at least until 2025). The timing on changing this rule could hardly have been worse.

*If you are an S Corp owner/employee, see point #7

2. Your Office Must be a Dedicated Space

One of the sticky points for the IRS to allow a home office tax deduction is that the area must be SOLELY used for your business.

SOLEY. Got that? Need it in bold? SOLEY!

So now that I’ve delivered the bad news, let’s get some good news. An office doesn’t need to be an entire room. You don’t even need walls (though the IRS does like them).

Like so many other things with tax law, there are exceptions to these rules. For example, you can use that area incidentally (if you walk through your office to get to the bathroom, you’re fine).

Also, the IRS is much more lenient for storage and day care facilities.

3. Depreciation On Your House

So you have a dedicated office space. What’s next?

Depreciation!

(If you’re renting your place, go ahead and skip this part)

For those saner, non-accountant people out there, depreciation is when you take something expensive that will last you a long time and account for the wear and tear per year.

Normal people may run into depreciation when they try to make an insurance claim on their roof for hail damage and the insurer doesn’t pay the full value of a new roof because of depreciation (from personal experience that still leaves a bitter taste in my mouth years later).

Hopefully that makes some sense. Which means it is…

EXAMPLE TIME: Sandra buys a house for $200,000. Her (completely valid and deductible) home office takes up 10% of the house. She will eventually get to take a $20,000 deduction on the home ($200,000 x 10%), but since this is depreciated, she’ll only get to take less than 4% of that per year.

A small expense per year is good news. The bad news is that it reduces the basis of your home, which will increase your gain when you sell it. Or, in simpler terms, you get a deduction now only to pay taxes on it later.

EXAMPLE TIME: Sandra lives in her house for a really long time, getting to take that full $20,000 deduction. She then goes to sell her house for $300,000.

Had she not taken depreciation, she would have recognized a $100,000 gain. But since she did take depreciation, her gain will be $120,000.

Whether or not you’ll actually recognize a gain when you sell your house depends on a host other issues, so it could be that you don’t actually have to pay taxes on that depreciation. But even if you do, often this is a trade off between lower taxes and more money now for potentially having higher taxes and less money later.

This is (typically) a good economic trade off.

4. Claim All Your Direct & Indirect Expenses

The home office tax deduction is broken down into two buckets of expenses: direct and indirect.

Direct expenses are payments directly related to the office. Is there a hole in your office drywall from that one time you couldn’t quite get the right chord so you smashed your guitar into the wall? Repairing it is specifically for the office, so it’s a direct expense.

Other common direct expenses would be paint, carpeting, and windows. Anything that’s actually attached to the home.

(If it’s not attached, it’s deducted elsewhere, which we’ll discuss another time)

Indirect expenses would be for things like rent or mortgage payments, insurance, and property taxes. Things that you’re paying for the whole house but that a portion could be allocated to your home office.

When you’re determining how much to deduct, think about everything you put specifically into the office, then think about everything you spent on your house and whether any of that could be appropriately allocated to your office.

A new roof? Yeah, that could potentially be an indirect expense. A new front door that goes into a non-office room? Probably not.

5. Don’t Forget Utilities!

One very common indirect home office tax deduction expense that is forgotten is utilities.

You use gas to heat the room, electricity to make the lights work, and potentially even water. You’ll pay these for your whole house. Make sure to track these through the year and include them as an indirect home office tax deduction (as appropriate).

NOTE: Some people consider internet a utility now. Whether or not you agree, it wouldn’t be included here. Though a portion of your internet bill likely can appropriately deducted as a business expense elsewhere.

6. Simplified Method Can Save a Lot of Headaches

Want to avoid dealing with depreciation? Don’t have time to calculate your utilities?

Then save time with the Simplified Method for the home office tax deduction!

This method really is simple. You get a $5 deduction per square foot of dedicated office space, up to 300 square feet (so $1,500 a year).

No tracking, no extra math. Just your square footage multiplied by $5 and you’re done.

EXAMPLE TIME: Anna has that 75 square foot area for her music recording business. If she took the simplified method, she could deduct $375 a year.

7. S Corps Can Take This Deduction, too–If You Set It Up Right

The home office tax deduction as discussed above is for independent businesses that file on a Schedule C. These are typically independent contractors, Single Member LLCs, and other sole proprietors.

If you’re set up as an S Corporation, then you’re technically an employee of that business, even if you’re the only person in the business.

Going back to point #1, that would be you can’t take a home office tax deduction, right?

Fortunately, you can potentially get creative here and still take the deduction. You’d want the company to set up a contract to reimburse any employee for their home office expense. This would then be treated like an expense report.

You do have to be careful with this method. It doesn’t have any of the specific rules discussed above, so there’s no helpful IRS guidelines on do’s and don’ts. Instead, you have to figure out something reasonable that the IRS will agree is a legitimate business expense.

Like everything with taxes, I would strongly recommend you talk with a tax professional about your specific tax situation before you go down this path. Just to make sure you’re keeping it all above board.