If you are one of the more than 18.3 million (according to the U.S. Bureau of Labor Statistics) to 38 million (according to the U.S. Census) home-based businesses in the United States, you'll be happy to know that special tax rules apply to you. Here's how you can make the most of your home-based business tax status.
1. Deduct some of your personal housing costs as a business expense.If you meet two tests in the tax law, you can deduct a portion of your personal expenses of operating from your home as a business expense. This includes your rent if you lease or your mortgage interest and real estate taxes if you own your home, as well as utilities, insurance, repairs and other costs.
To be a deductible home office:
- Your home must be (1) your principal place of business (or a place where you do administrative chores, such as scheduling and recordkeeping, and you have no other fixed business location) or (2) a place to meet or deal with customers, clients and patients on a regular basis (telephoning customers from home isn't enough).
- You have to use the space regularly and exclusively for business (except in two special situations). This means you can't use the kitchen table as your desk by day and feed your family there at night. You don't need to use an entire room or even have a physical partition to denote the portion of a room used for business.
Generally, you deduct a portion of the expenses of a home. For example, if your home is 3,000 square feet and you use a 300-square-foot room as your office, then 10 percent of each expense of the home becomes part of the home-office deduction. You can add to this any direct expenses for the office, such as painting it.
Tip: It's helpful to take a photo of your office and keep it with your tax records in case the IRS questions your setup.
2. Rely on special rules to write off some costs of your home.Usually, you have to use space exclusively for business in order to take a deduction. However, the exclusive use requirement doesn't apply and you can claim a home-office deduction if your home is used:
- As a day-care facility to watch children, elderly people, or persons who are unable to care for themselves because of a physical or mental disability, and you meet any state licensing requirements.
- Storage for inventory or sample products for your home-based business.
3. Deduct local traveling costs from your doorstep.If you use your car or truck to go from home to a business location, your mileage from home and back becomes a tax-deductible expense once you establish your home as your place of business. Business driving can include such activities as driving to:
- Customers, clients or patients
- Vendors or suppliers
- The bank to deposit a fee
- An office supply company to purchase toner for your printer
Tip: As with any use of a vehicle, keep a record of your business driving as required by the tax law.
4. Easily write off the cost of your computer.Usually, if you use a computer for both personal and business purposes, you have to track business usage because first-year expensing (the Sec. 179 deduction) and accelerated depreciation is allowed for the cost of "listed property" only if business usage exceeds 50 percent of total usage -- a computer is listed property. But once you establish a home office, you don't have to keep a log because a computer used in a regular business establishment (the home office) is not considered listed property.
For example, if you buy a computer for your home office in 2010 for, say, $2,500, you may qualify to deduct the full cost as a first-year expense deduction because the computer is used in a regular business establishment.
5. Consider the impact of a home office when you sell your home.If you own your home, claiming a home-office deduction doesn't reduce the capital gains exclusion you can take on the sale of your home. You can exclude gain up to $250,000 ($500,000 on a joint return) as long as you've owned and used the home as your principal residence for at least two of the five years preceding the date of sale. Claiming a home-office deduction doesn't affect this exclusion.
However, any depreciation you claimed in the years you took a home-office deduction is "recaptured" in the year you sell the home. "Recapture" means reporting the depreciation as a gain taxed at a 25 percent rate.
Tip: You can't choose not to claim depreciation you're entitled to because you'll still have to recapture it on a sale, so you might as well deduct depreciation when you can.
The original version of this article appeared on AOL Small Business on 4/5/11.