man working on computer at home
Running a home-based business can offer tax deductions on home repairs in addition to typical business expenses. — Getty Images/ kupicoo

If you have a dedicated space in your home that you use for business, you can claim it and some of your home expenses on your tax return – as long as you meet the IRS requirements for a home office deduction.

The ‘exclusive use’ test

Broadly speaking, you must be able to show that a portion of your home is your principal place of business, and that this space is regularly and exclusively used for conducting business. If you do not have a dedicated space for business in your home, you are not allowed to take the home office deduction. The IRS refers to this as the “exclusive use” test.

For instance, a spare room in your home that is only used as your business office can be claimed for the home office deduction. However, a bedroom or living room where you work on business tasks cannot be claimed, because you use those spaces for other personal purposes.

There are exceptions to the "exclusive use" test, including businesses that store inventory or product samples, or use their home as a daycare facility.

Additionally, you must be a registered business owner or independent contractor to take the home office deduction. You cannot take the home office deduction if you simply work from home as an employee of another business.

What can I deduct from my taxes as a home-based business?

The following list contains the most common deductions home-based business owners claim on their tax return. Consult with an accountant or financial professional to determine whether you are eligible for any of these deductions, as well as any others that exist outside this list.

Home-related expenses

Home office-related deductions are based on the percentage of your home that you use for business. To obtain this number, divide the square footage of your office space by the total square footage of your home. It is important that these calculations are accurate and that you only deduct the appropriate percentage of each expense.

If you do meet IRS guidelines, you can deduct the following home-related expenses:

  • Homeowner's insurance
  • Homeowner's association fees
  • Cleaning services or cleaning supplies used in your business space
  • Mortgage insurance and interest
  • Utilities, including electricity, internet, heat and phone

Repairs and maintenance

If you make home repairs or upgrades related directly to your business space, you may also write these expenses off on your taxes.

The amount you can write off depends on whether the expense is

  • Direct, which means that it only benefits your home office, or
  • Indirect, offering a benefit to your entire home.

NOLO breaks down the difference between direct and indirect office repairs:

Direct: If you spend $100 to fix a window in your home office, you may deduct the full $100 on your taxes.

Indirect: If you pay $1,000 to repair a leak in your roof, you may only deduct a percentage of that expense equivalent to the percentage of your home used for business.

You may also be able to deduct expenses for long-term improvements to your home, such as a full roof replacement or room renovation, but these must be depreciated over time. Repairs, on the other hand, can be wholly deducted in a single tax year.

While the IRS rules about home office deductions are very strict, it's not automatic that you will get audited simply for claiming your home office.

Other business expenses

The following expenses may be deducted on any home-based business tax return, regardless of whether you are eligible for the home office deduction:

  • Cost of goods sold
  • Capital expenses
  • Business use of your car*
  • Employee pay
  • Retirement plans
  • Rent on any property used for business**
  • Interest
  • Business taxes
  • Business insurance
  • Meals and entertainment
  • Travel expenses
  • Office supplies and postage
  • Professional services, such as accounting, consulting, legal, or contract labor
  • Marketing and business development

The IRS provides a detailed explanation of these types of expenses and what is eligible for deduction.

* As with home expenses, the vehicle use for business deduction must be calculated based on the percentage of miles driven for business purposes, versus personal trips.

** Rent deduction is only applicable if you do not and will not receive equity in or title to the property.

Will I get audited by the IRS if I take the home office deduction?

It is a common belief is that claiming the home office deduction will automatically trigger an IRS audit. While the IRS rules about home office deductions are very strict, it's not automatic that you will get audited simply for claiming your home office.

Acension explains that, because of the ever-increasing number of home offices, "Tax officials cannot possibly audit all tax returns containing the home office deduction."

With that, if you do decide to take the home office deduction, it's essential to follow the IRS guidelines to the letter regardless.

Accounting tips for home-based businesses

Accounting is incredibly important for any business, but home-based business owners will need to pay special attention to their finances and expenses if they want to save the most money during tax time.

Here are a few key tips to exercise throughout the year in preparation for tax season:

Separate business and personal expenses. Maintaining distinctly separate accounts for business finances and personal finances will keep your books clean and organized when you need to evaluate your business income and expenses.

Track all business use of personal assets. If you use assets like your laptop, cell phone and car for both business and personal purposes, be sure to keep a record of any business use so you can accurately calculate the percentage used for business.

Hire an accountant. You can learn a lot about accounting and tax regulations through independent online research, but there's no substitute for the advice of an experienced professional. Follow our guide to choosing an accountant if you're looking for the right CPA or accounting firm for your business.

CO— aims to bring you inspiration from leading respected experts. However, before making any business decision, you should consult a professional who can advise you based on your individual situation.

Published March 28, 2019