The tax law encourages a home office deduction because it wants people to start a business. The law has specific rules that must be met. Section 280A of the Internal Revenue Code explains what is allowed for a home office deduction.
So, let’s look at some of the rules to qualify for a home office deduction.
Rule #1: Separate Area
The area used for your home office must be used exclusively for business. Exclusive means that it must be used only for the office. The space cannot be used for personal purposes, like a spare bedroom or TV room.
Rule #2: Principal Place of Business
Your home office area must be a principal place of business. If your home office is your only place of business, then it is your principal place of business.
If you have more than one place of business, then your home office must meet one of the following:
You meet clients at your home office.
You use your home office for administrative or management tasks and you have no other place of business where you do those tasks.
Rule #3: Percentage of Home
You have two options for calculating the percentage of your home office.
Option 1: Square footage method
The calculation for the square footage percentage is the square footage of the home office area divided by the total square footage of the home.
For example, if your home office is 200 square feet and your home is a total of 4,000 square feet, 5% of your home is considered your home office (200/4000 = .05).
Option 2: Room method
The calculation for the number of rooms percentage is the number of rooms used for the home office divided by the total number of rooms in the home. Bathrooms, hallways and closets are excluded from this calculation. To use this method, the rooms in your house must be approximately the same size.
For example, using the same numbers from the previous example, 200 square foot home office in a 4,000 square foot home that has 10 rooms would be a home office that uses 10% of the house as a home office (1/10 = .1).
Calculate both methods and use the method that yields the highest percentage. The higher the percentage, the bigger the deduction will be.
Reporting your deduction
The method of reporting your deduction varies by business entity type (e.g., sole proprietorship, partnership, S corporation, C corporation), each with specific guidelines.
Should you have questions about how this applies to your situation or need assistance in planning for your tax needs, please feel free to reach out. Our team is here to help you navigate these opportunities to ensure you’re maximizing your tax benefits responsibly and effectively.
To learn more, schedule a call with the team at TFW Advisors® today!