Home Office Deduction: Simplified vs. Regular Method

Home Office Deduction: Simplified vs. Regular Method

The home office deduction lets you write off a portion of your housing costs when you use part of your home for business. The IRS offers two methods for calculating this deduction, and choosing the right one can mean a difference of hundreds or even thousands of dollars.

Who Qualifies

To claim the home office deduction, you must meet two requirements:

1. Regular and exclusive use: The space must be used regularly for business and exclusively for business. A desk in the corner of your living room where your kids also do homework does not qualify. A dedicated room or partitioned area used only for work does.

2. Principal place of business: The home office must be your principal place of business, or a place where you regularly meet clients or customers. If you have another office but do substantial administrative or management work at home, your home office may still qualify.

There is an exception for a separate structure (like a detached garage converted to an office) -- it does not need to be your principal place of business, just used regularly and exclusively for business.

The Simplified Method

The simplified method is exactly what it sounds like. You multiply the square footage of your home office (up to 300 square feet) by $5. The maximum deduction is $1,500.

Advantages:

• No complex calculations
• No need to track individual home expenses
• No depreciation recapture when you sell your home
• Takes minutes instead of hours

Disadvantages:

• Maximum deduction is only $1,500
• Cannot deduct depreciation on your home
• Cannot carry over unused deductions to future years
• If your home office is larger than 300 square feet, you only get credit for 300

The Regular Method

The regular method requires you to calculate the business percentage of your home and apply that percentage to your actual home expenses.

Step 1: Calculate Your Business Percentage

Divide the square footage of your home office by the total square footage of your home.

Example: Your office is 200 square feet and your home is 2,000 square feet. Your business percentage is 10%.

Step 2: Apply to Allowable Expenses

Multiply your business percentage by each of these home expenses:

Direct expenses (100% deductible if they only benefit the office):

• Painting the office
• Repairs to the office space

Indirect expenses (deductible at your business percentage):

• Mortgage interest or rent
• Property taxes
• Homeowner's or renter's insurance
• Utilities (electric, gas, water, internet)
• Home maintenance and repairs
• Depreciation (for homeowners)
• Security system

Step 3: Calculate Depreciation

If you own your home, you can depreciate the business portion over 39 years. The depreciable basis is the lower of the home's fair market value or its adjusted basis (purchase price plus improvements), minus the value of the land.

Important: When you sell your home, you must recapture the depreciation you claimed (or could have claimed) and pay tax on that amount. This is one reason some business owners choose the simplified method.

Side-by-Side Comparison

| Factor | Simplified | Regular | |---|---|---| | Maximum deduction | $1,500 | No cap | | Calculation effort | Minimal | Significant | | Record-keeping | Square footage only | All home expenses | | Depreciation | Not applicable | Included | | Depreciation recapture on sale | No | Yes | | Carryover of unused deductions | No | Yes |

Which Method Should You Choose

Choose the simplified method if:

• Your home office is small (under 300 square feet)
• Your actual home expenses are modest
• You want simplicity and minimal record-keeping
• You plan to sell your home soon and want to avoid depreciation recapture

Choose the regular method if:

• Your home office is large
• Your housing costs are high (high rent, expensive mortgage, high utility bills)
• Your business percentage produces a deduction well above $1,500
• You want to maximize every possible deduction

Running the Numbers

Do the math both ways before choosing. Here is a quick example:

Home: 2,000 sq ft, office is 250 sq ft (12.5% business use)

• Rent: $2,400/month ($28,800/year)
• Utilities: $300/month ($3,600/year)
• Insurance: $1,200/year
• Internet: $100/month ($1,200/year)

Simplified method: 250 sq ft x $5 = $1,250

Regular method: ($28,800 + $3,600 + $1,200 + $1,200) x 12.5% = $4,350

In this case, the regular method produces $3,100 more in deductions. That is worth the extra record-keeping effort.

Documentation Tips

For the regular method, keep records of:

• All home-related bills and mortgage statements
• The square footage of your office and total home (include a simple floor plan sketch)
• Photos of your dedicated workspace
• A log of business use if the space is also used for non-business purposes (though exclusive use is the standard test)

You can switch between methods from year to year, so recalculate annually to determine which method gives you the larger deduction.