If you operate a business out of your home, you may qualify for a home office deduction, provided the office is your "principal place of business." A home office qualifies as a principal place of business if the following conditions are met:
- You use the office to conduct administrative or management activities for the business.
- There is no other fixed location at which you conduct these activities.
The home office space must be used regularly and exclusively for business. Any personal use of the area will make you ineligible for the deduction.
If you are an employee, the exclusive use of the home office must be for the convenience of your employer. If you set up a home office because your boss agreed to let you telecommute after your second child was born, for example, it was probably for your convenience, not your employer's. Thus, your home office would not qualify for the tax deduction.
You may deduct a percentage of your homeowner's insurance, home repairs, and utilities equal to the percentage of space the office occupies. Plus, you can deduct office improvements if they relate to conducting business.
Homeowners are allowed to claim depreciation for the portion used for business, while renters can deduct a portion of the rent. Deductions cannot exceed income from the business, but excess deductions can be carried forward. Under certain circumstances, the sale of your house could result in a capital gains liability if you have taken advantage of home office tax breaks.
The IRS often audits individuals who take the home office deduction, so make sure you retain documentation supporting your deductions.