Personal Finance

3 Reasons You Should LOVE the Home Office Tax Deduction

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One of my favorite tax perks available to real estate investors is the home office deduction.

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Let’s face it, the home office deduction is generally not going to reduce your tax bill down to zero. However, it can still provide you with quite a bit of tax savings if used correctly.

3 Reasons I Love the Home Office Deduction:

1. No Additional Money Out of Pocket

Unlike most tax deductions, which require you to actually spend money or invest in something, the home office deduction does not require any additional money out of pocket. What you are simply doing is shifting what would otherwise be personal nondeductible expenses into legitimate business tax write offs.

For example, if you repainted your entire house for $8,000, there would be zero tax deduction if you did not have a home office. On the other hand, assuming your home office accounts for 25% of your entire home, this means that $2,000 ($8,000 x 25%) is now a legitimate tax deduction.

2. Easy to Claim

Unlike certain expenses that need advanced planning or strategies, there is generally no advance planning needed for a home office deduction. There is generally nothing you need to do ahead of time and nothing you need to do before the end of the year.

Even if you already filed your tax returns for last year and this is the first time you realize that you qualify for the home office, you can simply file an amended return for last year to claim a tax refund.

3. New Simplified Calculation

Effective January 2013, the IRS came out with a simplified method for calculating home office write offs. If you are not someone who keeps good records, this can be the answer you have been looking for!

One of the benefits of the new simplified method is that rather than keeping receipts and calculating the actual expenses, you can instead use the IRS standard $5 per square foot to determine your home office deduction. Under this method, you can deduct eligible home office of up to 300 square feet.

This means a total annual write-off of up to $1,500.

Related: What Can I Deduct? The Answer That Will Save You on Real Estate Taxes

I am still surprised that a large percentage of people I meet do not take their eligible home office deduction. A big part of this problem is that there is a lot of mis-information out there regarding the home office deduction.

Let’s go over what the rules are and separate the truth from the myths.

3 Home Office Deduction Myths & Truths

1. Exclusive Use

First, you must use that part of your home exclusively for business purposes. You need to have an area in your home where you work solely on business activities — and nothing else. This means that if you have a room or an area within a room where you review your property management reports that should qualify.

On the other hand, if you use your dining table to work from every day, this would generally not qualify as a home office because your dining room would also be the place where you eat. Now, I know that some of you may tell me that you never eat from your dining table and that you only work from there. My advice is that even if that is the case, I still would highly suggest not claiming your dining room or dining table as your home office as there have been court cases where the IRS has successfully challenged this particular area within the home.

2. Primary Place of Business

The second rule that must be met in order to be eligible for a home office is that this must be your principal place of business. Notice the wording used by the IRS is “principal” place of business and not the “only” place of business.

One of the common mistakes we see is people who don’t take a home office deduction if they have another office that they can go to from time to time. Keep in mind that you can have other offices and still claim a home office deduction. Your home just needs to be the primary place in which you conduct your business.

Related: 7 Common Tax Mistakes of New Real Estate Investors

Here is a great example: I recently met with a client who has some out of state rentals. He has a property management company that takes care of things on the ground. As an investor, all he does is review the management reports and manage the manager from his home office. In the past, he never took a home office deduction because he was told that his home was not the primary place of business because the property management company was located out of state and they were the ones managing the properties.

This was absolutely incorrect. Your home office just needs to be your primary place of business. So as long as you are managing your properties from your home office, the fact that you have property managers out of state won’t disqualify you from having a tax deductible home office.

3. Audit Risk

Last but not least, one of the most common myths on home office deductions is that it is an IRS audit flag. That is a very outdated concept. In fact, research shows that close to half of Americans have home offices that they work from sometime during their lifetime.

If you still believe that the IRS is out to get you for claiming the home office deduction, it is time to update your thinking. Not only has it been shown that home offices are no longer a red flag audit item, the new simplified method the IRS introduced in 2013 should show you that they are now in agreement that the home office is a valid deduction and they want to help make taxpayer’s lives easier.

Have you used the home office deduction on your taxes before? Did you learn anything you didn’t know about this aspect of tax law?

Jump in on the comments below!

Amanda is a CPA specializing in tax strategies for real estate, self-directed investing, and individual tax planning with over 18 years’ experience. She is also a real estate investor of over 10 years with a focus on long-term hold residential and multi-family assets across multiple states. Formerly a tax advisor at the prestigious accounting firm Deloitte in the Lead Tax Group, focusing on tax strategies for the real estate industry and high net worth individuals, and at an international Fortune 500 Company in the high-tech industry in the Corporate Tax department, Amanda’s goal is to help investors with strategies designed to supercharge their wealth building. Amanda’s highly rated book Tax Strategies for the Savvy Real Estate Investor is amongst Amazon’s best seller list. A frequent contributor, speaker, and educator to some of the nation’s top investment and self-directed IRA companies, Amanda has been featured in prominent publications including Money Magazine, Realtor.com, and AllBusiness.com. Amanda was a speaker at Talks at Google and is a 40 under 40 honoree by CPA Practice Advisor, showcased amongst the best and brightest talent in the accounting profession. Her firm Keystone CPA, Inc. was awarded a two-time winner of the Top CPA of Orange County Award by OC Metro Magazine. She is certified by the CA State Board of Accountancy and is a member of the prestigious American Institute of Certified Public Accountants (AICPA) with clients across the nation.

    Tom Phelan
    Replied about 5 years ago
    Depending on whether or not you, or your accountant, depreciates your home office, deducts repairs, takes a percentage of the mortgage etc. you might be subject to capital gains taxes and recapture on the depreciation taken when you sell your home unless you … 1031 Exchange that portion into your next property.
    Megan Malmstrom
    Replied about 5 years ago
    Hi Amanda- If we are renting can we still use the home office deduction for our personal taxes?
    Amanda Han
    Replied about 5 years ago
    Yes you can! Its a great way to deduct your rent expenses!
    Roy N.
    Replied about 5 years ago
    Just a note to fellow Canadians. If you take a home office deduction (interest, utilities, repairs, etc), then you will be obligated to pay Capital Gains on that portion of your residence when you sell it.
    Tyson
    Replied about 5 years ago
    Amanda, Can the office deduction be taken if you use a schedule E for your properties? If so, how do you do it with several properties (and schedule E’s)? Thanks
    Amanda Han
    Replied about 5 years ago
    Hi Tyson: Yes it is possible to take it against your schedule E…you can either take it as a separate schedule E called General and Overhead expenses, choose one property to take it against, or allocate it amongst each schedule E rental property.
    Amanda Han
    Replied about 5 years ago
    Hi Tyson: Yes it is possible to take it against your schedule E…you can either take it as a separate schedule E called General and Overhead expenses, choose one property to take it against, or allocate it amongst each schedule E rental property.
    Dawn Anastasi
    Replied about 5 years ago
    With rule #1, I understood it to be, that if you use a computer and desk for business but also personal use, then it doesn’t qualify because it’s not used exclusively for business. Meaning, there is more in the room than just the computer and desk. Is this correct?
    Amanda Han
    Replied about 5 years ago
    Correct….exclusive use means that this “room” is only used as a home office and does not double as a guest room for example.
    Shaun
    Replied about 5 years ago
    So how much is “too much” as far as personal sue/stuff goes? Everyone is going to do some amount of personal stuff during the day at the office, home or outside. They will also have some amount of personal items again be it at home or in an outside office. Like I use my laptop for work, but I obviously get personal emails and don’t go to another computer in a different part of the house to answer them. If my wife emails me a cute picture of the kids I save it there. I did that when I worked for someone else at an office too. The office is where we have the filing cabinets so while most of the stuff is property and business files we do have our personal files there as well. I have several personal items in the office but probably quite a bit less than I did in my old Cube at my last outside J.O.B.. So what is an acceptable level for these kinds of things?
    Amanda Han
    Replied about 5 years ago
    good or bad…there is no safe harbor (ie if you have less than 5% of personal files then you are ok). The rule is “exclusive business use” which I imagine is what it comes down to if ever audited. However that is not practical in today’s world as we are probably always on our computer with a split screen of doing work and also on social media (which can be both personal and work related). My personal suggestion is to be smart about it…dont have your mother in law or your baby sleeping in the “home office” =)
    Amanda Han
    Replied about 5 years ago
    good or bad…there is no safe harbor (ie if you have less than 5% of personal files then you are ok). The rule is “exclusive business use” which I imagine is what it comes down to if ever audited. However that is not practical in today’s world as we are probably always on our computer with a split screen of doing work and also on social media (which can be both personal and work related). My personal suggestion is to be smart about it…dont have your mother in law or your baby sleeping in the “home office” =)
    Tom Phelan
    Replied about 5 years ago
    Amanda, I am curious, how many Realtors have you talked to that understood when they sell their residence and have over the years claimed “Office” expenses and depreciation, sold that home and 1031 Exchanged the “Office” portion into the next home they buy? I doubt very many but fortunately this is one area the IRS has fallen asleep at the wheel.
    Amanda Han
    Replied about 5 years ago
    Your assumption is probably correct and no I cant recall anyone using this technique.
    Geoff Van Dusen
    Replied about 5 years ago
    How does this work with an LLC having 3 members, 2 live at the residence, one does not?
    Amanda Han
    Replied about 5 years ago
    Hi Geoff: it depends on the how your LLC is set up but generally you can either take it as an unreimbursed partner expense on each of your personal returns OR if your LLC files a corporate tax return then it can be reimbursed to you under an accountable reimbursement plan.
    Amanda Han
    Replied about 5 years ago
    Hi Geoff: it depends on the how your LLC is set up but generally you can either take it as an unreimbursed partner expense on each of your personal returns OR if your LLC files a corporate tax return then it can be reimbursed to you under an accountable reimbursement plan. Reply Report comment
    Amanda Han
    Replied about 5 years ago
    Hi Geoff: it depends on the how your LLC is set up but generally you can either take it as an unreimbursed partner expense on each of your personal returns OR if your LLC files a corporate tax return then it can be reimbursed to you under an accountable reimbursement plan.
    Chris
    Replied about 5 years ago
    You’re right… It’s easy to love the home office tax deduction, especially being able to write off business mileage from the front door. Keep in mind as a general rule in most counties, if you make an income and own your business, you need a Business Tax Receipt. This includes home-based businesses and one-person companies. It’s an easy argument the IRS could use to deny your home office deduction… “You did not file paper work with your city saying you operate a business out of your home.” As fun as real estate investing is — No one wants to their business to be considered a hobby… at least not for tax reasons.
    Amanda Han
    Replied about 5 years ago
    Great points Chris!
    Terry
    Replied about 5 years ago
    Hi Amanda, speaking of home office deductions I thought I’d share a short story about my very recent experience on this topic. As you know even thought I submitted all the HOD info, had it broken down and calculated out my previous accountant failed to include the deduction for 2013. My tax bill was outrageous so I took the return and sent it to another accountant to review and they too said it looked good and wondered why I was questioning my 1st accountant. So 2 out of 2 accountants were unable to follow my logic that my home is the ONLY place I use for my RE business–other than my car of course. After I contacted you and we reviewed 2013 we established that not only will I qualify for a home office deduction–among other missed opportunities–but my wife will also qualify for one going forward (2nd home office deduction). And before anyone asks, yes we have 2 rooms set aside with desks, filing cabinets, printers, laptops etc. and both of us conduct the vast majority of work from the home office. In this case a little persistence paid off handsomely. Thanx Amanda!
    Amanda Han
    Replied about 5 years ago
    Terry thank you so much for your comment! Glad you can share your story here =)
    Bryan
    Replied about 5 years ago
    Hi Amanda, I have an office area off to the side of my master bedroom and it is solely used for real estate analysis, marketing, PM software, and verifying payments. But, I don’t have a “licensed business.” Does that matter? I’m just a guy in the military acquiring properties to rent out for passive income and self manage. Thanks
    Amanda Han
    Replied about 5 years ago
    That is fine if that area is used exclusively for business (ie a retreat that is used for business). You can still get a license with the city even though it is not a separate room or dwelling.
    Gary Ellwood from Eagle, Idaho
    Replied over 4 years ago
    your posts are relly good .just double chech with accountants: they veary by county & state & city as well.we ran other home based businesses & was always getting hamered at the end of the year.not all businesses start in jan & end in dec .figure out what workes best for you ! everybody s. different .thank you have a good day
    Tanya Lee
    Replied over 4 years ago
    I have never taken the home office deduction, but the other day I described my “living room” as a big computer room with binders and papers all over the place. Home Office it is. I was inspired to take a picture of the “organized chaos” rather the waiting to straighten it up.
    Fred K. Investor from Richmond, Virginia
    Replied about 4 years ago
    How and what forms do you take the home office deduction. Do you write it off on each property or use a different form? We have 11 rentals and it appeared to me we needed to file a itemized for and we only take the standard deduction with each property filed on schedule E. We don’t file a schedule C.
    Julie Rogers from North Lauderdale, Florida
    Replied almost 4 years ago
    Great Article! Thanks for your time.
    Mike Palmer from Orem, Utah
    Replied about 3 years ago
    I assume in taking this deduction you would be subject to recapture tax if/when selling your home? If so, how do you determine if it is worthwhile to tax the deduction?
    Russell Pitts from Kirkland, Washington
    Replied over 2 years ago
    Hi Amanda, can you comment on this article that references your blog post here? The author seems to make several arguments as to the risk of doing this for passive investors. The risk is mainly regarding whether this deduction would truly hold up in an IRS audit. I too am a W-2 worker and own two properties out of state that are managed by PM companies. I spend maybe 2-3 hours/month on them from a business perspective. I feel the IRS wouldn’t be liking me taking this deduction, but now I’m not sure after reading both of these articles. http://www.michaelplaks.com/business-taxes/home-office-deduction