If you’re self-employed and work out of an office in your home, and if you satisfy the strict rules that govern those deductions (portion of a residence exclusively used on a regular basis for business purposes), you will be entitled to favorable “home office” deductions – that is, Schedule C business expense deductions. These home office deductions will reduce your Schedule C net income, which will reduce both your taxable income and your net self-employment income, so they are very valuable tax deductions.
These home office deductions include the following:
- the “direct expenses” of the home office – e.g.) the costs of painting or repairing the home office, depreciation deductions for furniture and fixtures used in the home office, etc.; and
- the “indirect” expenses of maintaining the home office – e.g.) the properly allocable share of utility costs, depreciation, insurance, etc., for your home, as well as an allocable share of mortgage interest, real estate taxes, and casualty losses.
In addition, if your home office is your “principal place of business”, the costs of travelling between your home office and other work locations in that business are deductible transportation expenses, rather than nondeductible commuting costs. And you may also deduct the cost of computers and related equipment that you use in the home office, without being subject to the “listed property” restrictions that would otherwise apply.
Amount limitations on home office deductions – The amount of your home office deductions is subject to limitations based on the income attributable to your use of the home office. But any home office expenses that can’t be deducted because of these limitations may be carried over and deducted in later years.
Sales of homes with home offices – If you sell, at a profit, a home that contains, or contained, a home office, the otherwise available $250,000/$500,000 exclusion for gain on the sale of a principal residence won’t apply to the portion of your profit equal to the amount of depreciation you claimed on the home office. In addition, the exclusion won’t apply to the portion of your profit allocable to a home office that’s separate from the dwelling unit or to any gain allocable to a period of nonqualified use (i.e. a period that the residence is not used as the principal residence of the taxpayer or his spouse or former spouse) after Dec. 31, 2008. Otherwise, the home office won’t affect your eligibility for the exclusion.
New rules for 2013 tax returns. Under Revenue Procedure 2013-13, taxpayers with qualified home offices can elect to use a “simplified” option for computing their home office deduction. This option will start with 2013 tax returns to be filed in early 2014. As long as the home office’s square footage is 300 square feet or less, you can use a standard $5 per square foot to determine the home office deduction. However, there are certain restrictions on the home office deduction, as follows:
- All home-related itemized deductions, such as mortgage interest and real estate taxes, will only be deductible on Schedule A. These deductions cannot be allocated between Schedule C and Schedule A.
- You will not be able to depreciate your house.
- Home office deductions in excess of the gross income limitation cannot be carried over.
You can select the simplified method or the regular method in any taxable year. However, once you select a method and file your tax return for the year, you cannot amend your tax return to change the method for that year.
Please contact Andrew D. Ross, CPA of Bedard, Kurowicki & Co., CPA’s at (908)782-7900 x 113 or e-mail firstname.lastname@example.org to explain these options or to discuss in greater detail any other aspect of your self-employment tax planning.