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Home Office Tax Deduction and Safe Harbor

Self-employed individuals and employees who work out of their home are allowed to deduct business expenses relating to the part of their home that is exclusively used on a regular basis to carry on a trade or business or, in the case of an employee, he/she has no other fixed location to perform their job.  In addition, in order for an employee to qualify he must work from home for his employer's convenience.  Taxpayers are advised to consult with a tax attorney or CPA.

The IRS begin offering a safe-harbor alternative computation in 2013.  The safe-harbor is a simplified method in which taxpayer multiplies the total square footage of the business portion of the personal residence by $5.  Traditionally, the home office deduction required complicated computations and allocations with burdensome recordkeeping.  Rev. Proc. 2013-13 (safe-harbor alternative) offers taxpayers a simplified approach to claiming the home office deduction.   The revenue procedure provides that the allowable square footage is the portion of the home that the taxpayer uses for a qualified business use, but the maximum allowable square footage is limited to 300 square feet.  The revenue procedure also states that the prescribed rate is $5 per square foot--$1,500 maximum deduction under the safe harbor.

Comparison of Actual-Expense Method compared to Safe Harbor

                                                                                    Actual Expenses                                    Safe Harbor
Exclusive & Regular Use                                           Required                                                         Required
Maximum Square Footage                                             None                                                             300 Sq. feet
Carryover Allowed                                                           Yes                                                                       No
Depreciation Allowed                                                      Yes                                                                       No
Record-keeping                                                          Yes, Substantial                                                       No
Maximum Annual Deduction                                          None                                                               $1,500
 
Taxpayers elect the simplified method on a year-to-year basis, by simply following it on their tax return.  The simplified method may not be used if an employee receives an allowance, advance, or reimbursement from an employer for any expenses related to the qualified use of his home. 

The safe-harbor provision is likely most beneficial to the taxpayer who meets one or all of the following criteria: 1) relatively low amounts of Schedule C income; 2) relatively low amounts of mortgage interest, property taxes or other actual expenses; 3) taxpayer is not subject to the phaseout of itemized deductions (i.e, lower overall income), and 4) taxpayer is unwilling to comply with draconian record-keeping requirements.  

The safe-harbor provision is not as useful an option, if taxpayer is willing to comply with the record-keeping requirements and meets one of the following criteria: 1) relatively high amounts of Schedule C income; 2) relatively high amounts of mortgage interest, property taxes, or other actual expenses; 3) taxpayer is subject to the phaseout of itemized deductions (i.e., high overall income), and 4) taxpayer wants to use a large carryover from the prior year.