With all of the self employed folks in the SF Bay area, we get tons of questions each year about the home office deduction. The rules for home office have been pretty much the same for many years (although they are often misunderstood.)
There are certain conditions that need to exist to be able to take a home office deduction on your tax return. If you are self employed, generally speaking, you must not have another fully appropriate office location away from home. If you are an employee, then you must be using your home as an office for a documented “employer convenience”. Facts and circumstances always rule here, so these are the kinds of questions we field all the time.
The news for 2013 is that there has been a change to the home office deduction rules. The IRS has added a new method, called “Safe Harbor” home office rules.
Existing rules: “Actual Expense”
The existing method requires a percentage of the square footage used as the home office divided by the entire square footage of the home. Using that percentage, various expenses including utilities, maintenance, mortgage interest & property tax (or rent), and insurance can be deducted. Certain direct expenses such as repair expense, or depreciation on furniture used in the home office, can be deducted without percentage allocation.
New Method: “Safe Harbor”
The new simplified method is a deduction based solely on the square footage of the qualified business use of the home. It is capped at $,1500 or 300 square feet at $5 per square foot. For example, a taxpayer with a qualified home office of 250 square feet can deduct up to $1,250 regardless of the actual expenses incurred. The taxpayer can still deduct the home mortgage interest and property tax on Schedule A without allocation between qualified business use and residential use of the home. Under this method, no depreciation deduction is allowed, including bonus depreciation and IRS section 179 deductions. Any deduction in excess of the gross business income limitation cannot be carried over to the following year.
How do you choose between the 2 methods:
The new Safe Harbor rule is a year by year decision. So you can choose the method that benefits you most each year. With the higher costs of homes and renting in the SF Bay area, it may be that the old method remains the one that gives the better benefit. But if you are a renter and you are lucky enough to have a lower than normal rent cost, then maybe the safe harbor will produce a better result for you. Since your particular facts and circumstances are determinative of the better method to use, that’s where we are able to help.