The COVID-19 pandemic has changed the way Americans work. Since the start of the pandemic, companies such as Facebook, Twitter, and Microsoft have gone partially or fully remote. In addition, remote job listings on Glassdoor have grown 28.3%, while staffing company Manpower has reported a jump in remote job listings from 10% to 25%. This means that if you’re a fresh remote worker, you may be in uncharted territory. While setting up a home office is integral to productivity, don’t forget about another way to increase your overall income: home office deductions. By figuring out if you’re eligible and how to calculate the expenses and deductions, you can lower your tax liability and save money for the more important things in life.
The Home Office Deduction
While typical expenses such as upgraded computer hardware and furniture in your home office may be eligible for tax write-offs, you should start by understanding the IRS’s often overlooked home office deduction. Full comprehension of this deduction will shave time off doing your taxes while also allowing you to maximize the amount you get back. Here’s how it works.
Who’s Eligible for the IRS’s Home Office Deduction?
Unfortunately, not everyone is eligible for the IRS’s home office deduction. But perhaps more importantly, employees (W-2 recipients) are no longer eligible for the home office deduction. Due to the Tax Cuts and Jobs Act of 2017, anyone classified as an employee can no longer claim this deduction.
The silver lining is that freelancers, contractors, and self-employed people who work from home can still claim this deduction. So if you receive a 1099-MISC (or multiple ones) at the end of the year or you own a small business, you’re eligible.
What Makes My Home Office Eligible?
If you’ve passed the first hurdle as a self-employed worker, the next step is to determine if your physical home office is eligible. To use the home office deduction, your home office must (according to the IRS) meet one of the following:
- The principal place of business
- A place to meet patients, clients, or customers in the normal course of business
- A separate structure not attached to the dwelling and used in connection with the business
- If the dwelling is the only fixed location of the taxpayer’s business, a space within it that is used regularly to store the business’s inventory or product samples
To simplify this tax jargon, this is how to think of your home office deduction: You must use your home office exclusively for business, whether it’s located in your home or a separate structure on your property. Note that daycare centers and the home storage of inventory may have different rules for eligibility.
How to Calculate a Home Office Deduction
The IRS provides two ways to calculate a home office deduction: regular and simplified. Here we’ll dive into both options, and which might work better for your situation as a remote worker.
Standard Home Office Deduction
Although more complicated, the standard home office deduction may benefit remote workers in certain scenarios. Generally, but not always, you should use this method if you:
- Own your home.
- Have numerous direct or indirect expenses as a result of having the office in your home.
In addition, direct or indirect expenses fall under the following:
- Direct expenses: These expenses take place only in the confines of your home office. Examples include new carpeting or fresh paint.
- Indirect expenses: These expenses are overall home expenses. Some examples may include mortgage interest, home repairs, homeowner’s insurance, and utilities.
Once you have the amount of these total expenses, you can get into the mathematical side of your deduction. To make this easier, you might want to have IRS Form 8829 as a visual aid to ensure you remember all of the eligible expenses.
To start, measure the square footage of your home office and find the total square footage of your home. Then, divide your home office square footage to get the percentage of your home that’s used for business. Then, add up all of your indirect and direct expenses and multiply them by that percentage to find your total home office deduction.
Note: If all of the rooms in your home are relatively the same size, you can also use the rooms-in-your-home method. For instance, if you have eight rooms in your home and one of them is your home office, your deduction percentage would be 1/8 or 12.5%.
Standard Home Office Deduction Example
For example, if your home is 1,500 square feet and your home office is 300 square feet, you’d come up with 20%. And if your total expenses are $10,000, you can write off 20%, leaving you with a tax deduction of $2,000.
While more complicated, the standard method may provide a larger tax break for certain individuals or small businesses. The downside is that you’ll need to keep accurate records of your direct and indirect expenses. You should also remember that this deduction can affect your Schedule A, which determines the amount of property taxes you’ll have to pay.
Simplified Home Office Deduction
Beginning in 2013, the IRS created a simplified home office deduction. This provides an easier way to calculate a home office deduction. This method is usually more useful if:
- You rent
- You don’t keep detailed records of your direct and indirect expenses
To calculate the simplified home office deduction, simply measure the size of your home office and multiply it by $5. For instance, if your home office is 200 square feet, you only have to multiply that by $5 to come up with a total home office deduction of $1,000. That’s all there is to it. Keep in mind that the IRS caps your maximum home office deduction at $1,500 (300 square feet), even if your home office is larger than 300 square feet.
Remember that even if the standard deduction provides a greater deduction than the simplified option, you should take into account how much time you spend collecting and compiling expenses and receipts. In some cases, the ease of the simplified deduction is worth it, even if you lose out on $50.
Other Home Office Expenses
If you’re an employee and can’t claim the home office deduction, don’t stress. Both self-employed and employed persons may still have other expenses to deduct from the total tax liability. So if your computer is ungodly slow or your internet still requires a dial-up connection, here are some other items you can deduct as an expense and write-off at the end of the year.
Self-Employment Tax Deduction
One of the downsides to self-employment as a contractor or freelancer is that you’re on the hook for self-employment tax. In addition to any local, state, and federal income taxes, you must also pay 15.3% of your earnings as self-employment tax. Essentially, you’re classified by the government as both an employee and an employer. As a result, you pay an additional 7.65% in FICA taxes to cover Social Security and Medicare. The good news is that you can deduct 7.65% of this self-employed amount on your taxes.
Office Supplies
Office supplies are a set of broad home office expenses that you can deduct on your income taxes. Computer paper, pencils, pens, and printer ink all fall into this category. So if you buy any of these, hold onto those receipts.
Some Utilities
Depending on if you use them exclusively for your business, utilities may be deductible. A second phone line or a business cell phone qualify for this deduction.
Computer Software and Other Hardware
If you need a new computer, keyboard, mouse, or printer, you can deduct these from your tax liability as a self-employed or employed remote worker. This is especially helpful if your current home office computer setup leaves much to be desired. In addition, the software you use for your business or freelancing is also tax-deductible. This may include programs such as Microsoft Office, Slack, or Adobe PhotoShop.
Continued Education
When you want to propel your remote career, nothing beats continued education. Whether you’re going back to school in a traditional university setting, taking paid online courses, or earning a certification, Uncle Sam lets you write it all off.
Healthcare Premiums
If your employer provides insurance, you can’t deduct healthcare premiums. But if you pay for your own healthcare, you can write off the premiums. Alternatively, you can open a Health Savings Account (HSA), which allows you to deduct the amount you put into it for healthcare dollar for dollar.
Retirement Deductions
As a self-employed person, you no longer have a 401(k) or pension plan to help you plan for retirement. However, you have many other tools at your disposal. A traditional Individual Retirement Account (IRA) allows you to deduct up to $6,000 per year from your taxable income (or $7,000 if you’re over 50). You could also open a solo 401(k), and this amount increases up to $57,000. However, solo 401(k) plans also have many more complex pros and cons.
Other Considerations
Are you freelancing or moonlighting on the side? If you still receive a 1099-MISC from your clients, you may be eligible for the home office deduction, provided you meet eligibility requirements. Still on the fence? Consult a tax professional to see if you’re eligible and to remove any doubt from the deduction process.
Whether you’re an employee, freelancer, or contractor, home office deductions can increase your bottom line, even if your work arrangement is temporary. So get out the tape measure and upgrade your computer setup. Now is the time to turn your home office into a workplace that earns you money and saves you money. There’s no better win-win scenario.
Have you taken any of these expenses as a remote worker? Do you have any other tips or suggestions to maximize your tax deductions? Connect with Virtual Vocations on Facebook, Twitter, and LinkedIn to share your advice. We’d love to hear from you!
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