Now there’s an easier way to compute home office deductions

If you’re an entrepreneur who works out of a home office, you can now take advantage of a more simplified approach to claiming deductions.

At tax time, one of the topics we discuss most frequently with clients is how a home office deduction can be taken on the return of an individual who owns a small business. The legislative history of this deduction has taken some twists and turns over the years, but in January, the IRS issued Rev. Proc. 2013-13, which details an optional safe-harbor method for individual taxpayers wishing to claim a home office deduction.

The basic rules provide a means to deduct certain business expenses for a portion of your dwelling unit that is exclusively used on a regular basis as a principal place of business. The business-use allocation was traditionally found by calculating how large the business-use area was as a percentage of the entire dwelling unit.

This business deduction has been fairly straightforward for the self-employed. However, if you are an employee working from home, the exclusive use of the home office must be for the employer’s convenience — a criterion that is typically met when the employer provides you no other office space.

Taking a home office deduction can then have some far-reaching ramifications affecting the amount of gain that can be excluded if you sell your home in the future. In addition, in the past you had to keep track of expenses affecting the specific office space, the home, utilities, homeowner’s insurance, mortgage interest, taxes, etc. Once calculated and reported on Form 8829, these expenses have been split between business and personal use. This method continues, but effective in 2013, an alternative method can be used.

Rev. Proc. 2013-13 offers taxpayers a more simplified approach to claiming the home office deduction. Please note that taxpayers claiming this deduction must still meet all requirements for claiming the deduction, but the method of calculation has been simplified. Beginning in 2013, taxpayers can elect to multiply the allowable square footage of the home office used for qualified business use by a prescribed rate. However, this rule limits the maximum allowable square footage to 300 square feet. The revenue procedure then states that the rate to be allowed for the deduction is $5 for each square foot, for a maximum deduction of $1,500.

Once you elect to use this safe-harbor method for a particular year, it can’t be changed for that year, but you can change to the alternative actual expense method (discussed earlier) in a subsequent year without IRS consent.

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Depending on your current-year business situation, you may want to review the results of how each method is calculated to determine which one makes the most sense for you. The safe-harbor method has some limitations, so be sure to discuss this with your tax preparer at tax time to determine what is best in your situation.

As tax preparers, we are always looking for ways to simplify recordkeeping. This method will probably help taxpayers who have not kept adequate home office records for the year, and since this method doesn’t permit depreciation deductions, the need to recapture depreciation if you sell your home becomes unnecessary if this method has been used in place of the actual expense method. Always compare the benefits of each method in order to maximize tax savings — in the short term and long term. Your tax preparer is there to help you make this analysis.

IRS Circular 230 Disclosure: To ensure compliance with Treasury Department Regulations, we advise you that, unless otherwise expressly indicated, any federal tax advice contained in this communication was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax-related penalties under the Internal Revenue Code or applicable state or local tax law provisions or (ii) promoting, marketing or recommending to another party any tax-related matter addressed herein.

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