Here's a common tax question from home-based business owners: "Why do people make such a big deal about the home office deduction? It's not really worth that much, is it?" Like most tax questions, the answer to this question is "It depends." It depends on two key factors that contribute to the calculation of this deductible small business expense. Read on to find out whether it is worth it for you.

The two main factors that determine the amount of your home office deduction are: 1) Business use percentage, and 2) Home-related expenses. Let's take a closer look at each of these items so you can get a general idea of how much money you'll save by taking this deduction.

Business Use Percentage. You need to know two things for this: the square feet of your home office and the square feet of your house, apartment or condo. How do you determine that? Easy: with a tape measure. If you don't know the square feet of your office, take out a tape measure and find out. The same holds true for the square feet of your home.

Then you take the home office square feet, divide it into the total house square feet and you now know the business use percentage of your home office. Here's a simple example: Your home office is 15 feet by 20 feet, or 300 square feet. Your house is 1,500 square feet. 300 divided into 1,500 is 20%. Your business use percentage is 20%. So you get to take a deduction for 20% of various home-related expenses, detailed below.

Home-Related Expenses. Here's where you do get to do even more number crunching. Add up all the following annual expenses: mortgage interest, property taxes, homeowner's insurance, repairs and maintenance, utilities (such as gas, electricity, water, sewer and trash service), homeowner's association dues and depreciation. Let's say all those items add up to $2,500. Then you multiply $2,500 by 20% to arrive at $500, which is the actual amount of your home office deduction.

Of course, your numbers will likely be different than the ones used in the example above, but that's basically how this deduction works. If you happen to rent your home rather than owning it, you would use your annual rent expense instead of the mortgage interest, and you probably won't have any property taxes.

So you've got a deduction of $500. If you are in the 30% federal tax bracket (15% for income tax plus 15% for self-employment tax), $500 times 30% is $150, which is your actual tax savings. For some, $150 may seem like an insignificant amount and not worth the recordkeeping and tax reporting requirements. Others would be glad to have an extra $150 in their pocket instead of Uncle Sam's. The choice, of course, is yours.

I would challenge you to consider this simple fact: many small deductions add up to big tax savings. If you can take the deduction, take the deduction. How much time will it take you to do the bookkeeping necessary to save $150? If it takes you an hour, you've just paid yourself $150 for an hour's work, which is a good wage in any economy.

Of course, if your house is bigger than the example used above, and/or your business use percentage is greater than the above example, you could save significantly more than $150. Some self-employed people realize a tax savings of hundreds or even thousands of dollars each year via the home office deduction. As mentioned earlier, it all depends on the numbers.

Wayne M. Davies
February 6, 2011

Looking for more small business tax deduction tips? For a free copy of the 25-page Special Report "How to Instantly Double Your Small Business Tax Deductions" visit http://www.YouSaveOnTaxes.com. Wayne Davies is author of 3 ebooks on tax reduction strategies for small business owners and the self-employed.

Source: Circulated by My Article Emporium

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