There is usually a great deal of confusion regarding home office deductions, but that does not need to be the case. All you have to do is have a clear idea of the requirements. According to the Internal Revenue Service, taxpayers who use a portion of their home for business purposes may take a home office deduction if they meet certain requirements.
The first basic requirement is that the area of your home that you regularly and exclusively use for your home business be either your principal place of business or a place to meet or deal with patients, clients or customers in the normal course of your business. Different rules apply to claiming the home office deduction if you are an employee. For example, the regular and exclusive business use must be for the convenience of your employer.
Where there is a separate structure that is not attached to your home, the regularly and exclusively used area does not need to be your principal place of business as long as the use is in connection with your trade or business. If you use a separate structure not attached to your home for an exclusive and regular part of your business, you can deduct expenses related to it.
The second requirement is that the designated area is used on a regular basis for certain storage use—such as storing inventory or product samples—as rental property, or as a home daycare facility. There are special rules for qualified daycare providers and for persons storing business inventory or product samples.
Generally, the amount you can deduct for your home-based business depends on the percentage of your home that you actually use for business. Remember, this use has to be regular and exclusive. In other words, a little desk off the kitchen where your spouse also does the household bills and the kids do their homework doesn't qualify. Neither would sharing the family phone, Internet connection, or doing any other mixing of expense. Keep your home business expenses strictly separate from your household expenses. This way, you will have an easy time figuring out your deductions and will be able to defend yourself if the IRS decides you need to be audited.
Your deduction for certain expenses will be limited if your gross income from your business is less than your total business expenses. We all know it takes a while for a new business to get rolling and turn a profit, but you need to be aware of the fact that the IRS will be keeping an eye on you and will be more inclined to audit you if your expenses outweigh your gross income for too long. The reason for this is not that you have a suspicious look about you, but rather that many unscrupulous people before you have tried to use small businesses (and home-based businesses especially) as tax dodges and the government has cracked down on that kind of activity.
Forms, Schedules and Publications
What would the IRS be without its dizzying collection of forms, schedules and publications? Here are the ones relevant to home businesses:
Publication 587, Business Use of Your Home (PDF 214K)
Form 8829, Expenses for Business Use of Your Home (PDF 64K)
Form 8829 Instructions (PDF 29K)
Schedule C, Profit or Loss from Business (PDF 111K)
Schedules A&B, Itemized Deductions and Interest & Dividend Income (PDF 116K)
For more information, visit www.irs.gov or call 1-800-TAX-FORM (1-800-829-3676).