The Home Office Deduction: A Factor of Your Self-Employed Business

It seems like everyone who starts a business wants to take the home office deduction. There are some definite problems to watch out for with the home office deduction. The biggest one is the IRS itself. Deducting your home office an increase your chances of an audit. Additionally, if you elect to depreciate your home office, you may incur additional taxes when you sell your home. Take a look at IRS Publication 587, Business Use of Your Home for all the hairy details of the Home Office Deduction. Note these rules apply to all three options, W-2, 1099, and Corp-to-Corp.

The standard qualification test is: You must use part of your home exclusively and regularly as your principal place of business. “Exclusively” means just that! If you use the same space to pay your personal bills, call your mom to wish her happy birthday, or it doubles as a guest room…You’ve just blown the qualifier and you can’t take the deduction.

Is the Home Office Deduction worth it?

First, you have more forms to fill out:

• Form 8829, the form to list the home office expenses
• Form 4562, if you depreciate the business portion of your house.

The major expenses of your home are likely to be the mortgage interest and the property tax. You can only deduct this once, so you need to allocate the portion of these expenses that apply to the personal and business portions of the house. The personal part goes on Schedule A as part of your itemized deductions; the business part goes on Form 8829. (The allocation is usually done on a square footage basis.) So unless your itemized deductions are being limited, you don’t get any additional tax benefit because you can deduct these on your Schedule A anyway.

The other things you can deduct, like insurance, utilities you have to allocate between personal and business, too. So, say you spent $1400 on home owners insurance and $3000 on utilities (excluding telephone) and your business use of the home is 10%. That gives you a deduction of $440. If you’re in the 25% tax rate, that’s a total tax savings of $110.

This is where your personality comes into play. Personally, the $110 isn’t enough for me to risk the red flag this may raised when the IRS is looking for returns to audit.

Depreciating Your Home Office

You are allowed to expense in the current year the portion of your home used for business purposes. You have to depreciate the home over a 39 year period. Here’s a simplified version of the formula used to calculate the depreciation expense:

[(basis of your home-land value at purchase) X business use %] / 39 years.

Example: you started your business on January 1; you purchased your home for $250,000 and land value was $75,000 and your business use percentage is 10%. You’re looking at $449 annual depreciation expense. [($250,000 -$75,000) * 10% / 39] If you’re in the 25% tax bracket that equates to $112 in income tax saving.

If you decide to go ahead and depreciate your home office for 10 years, you’ve depreciated $4490 of the value of the house. Now you decide you want to sell it. That $4490 is not eligible for the value for the $250,000 exclusion on the sale of your primary residence and you must pay taxes on that amount when you sell the house. So unless you plan to live in your home until you die, the home office depreciation deduction is really a deferral of taxes.

If you’re really up on being self-employed, you’ll know that any deduction will also save on self-employment taxes. The $889 home office deduction in the example above ($440 for insurance & utilities and $449 for depreciation) will also save you about another $127 in self-employment tax. Now we’re up to a total tax savings of $349 in the current year.


For more information on any of these services please call toll free 1-800-324-5013 to speak with one of our knowledgeable consultants at Nevada State Corporate Network between the hours of 8-5 Monday through Friday.
To Your Success,
Susan Zapper
CEO of Nevada State Corporate Network
Zapper Credit Solutions


Check out Part ONE, Part TWO and PART THREE of this series on how to pay yourself.