The home office simplified method is an easier way to calculate the expenses you can deduct for the use of your home as a business. Taxable years beginning on or after 2013 are eligible to use this method as an alternative to the standard one.
The standard method to determine home office tax deductions has many calculation and substantiation requirements, so the simplified method is intended to reduce that difficulty.
In this article, we will explain how to use the simplified method, the qualifications you need to meet in order to deduct home office expenses, and how to choose the right method for you.
To determine your home office deduction under the simplified method, you would deduct $5 for every square foot of the space you have designated as a home office. It can only be used for office spaces of up to 300 square feet, meaning your deduction can be a maximum of $1,500 per year.
Using this method you won’t have to keep records of your home office expenses like rent, utilities, mortgage payments, or real estate taxes. And you don’t have to complete an 8829 Form.
The simplified method does not change the criteria for who may apply for home office deductions, it is only a simpler way of calculating and keeping records of the deduction allowed. Read more on the qualifications:
You can qualify for a home office deduction if you are self-employed. This includes freelancers, business owners, and independent contractors who are working for profit. For example, a real estate agent who sends e-mails and makes sales calls from a designated workspace, or an independent web designer who works from home.
If you are an employee who works for a company, you are not eligible even if you have been working remotely and have an office set up in your home. For example, someone working as a customer service representative from home and is on a payroll. Many folks mistakenly believe that if they claim the home office deduction, they will be audited by the IRS. Read our breakdown of the home office deduction audit myth.
You may be able to claim a partial home office deduction if you were self-employed only for a few months. For example, if you did some consulting while you were looking for a full-time job, the home office expenses would be prorated for those few months you worked from home.
But being self-employed (no matter for how long) won’t make you qualify for home office deductions on its own. You will also need to meet other strict qualifications.
To qualify, you must meet any of the following requirements:
You must be able to prove that you use this space exclusively for business purposes. It does not need to be a separate room, but it has to be in an area where you don’t do anything else. If you use a part of your home such as a room or garage for business purposes but also for some personal purposes you will lose the right to the deduction.
In addition, the home office space should be used regularly, not occasionally, for business purposes. For example, if you have administrative tasks daily but you only do them in your home office once or twice a month you would not meet the requirement.
Your home office will qualify as a principal place of business if you have no other fixed location where you can conduct administrative or management activities of your business. These include billing, ordering supplies, and bookkeeping.
If administrative and management activities occasionally take place at another business location, or you are outsourcing/delegating some of these activities to others, you will not qualify for the deduction.
You can also qualify for home office deductions if you use your home as a place to meet with patients, customers, or clients. The home office doesn’t need to be your principal place of business to qualify if you meet this requirement. However, using your home for this purpose must be essential to run your business.
If you use your home as a regular space to provide daycare services for children, disabled, or elderly persons, you can claim a deduction for that part of your home. You will be eligible even if that area of your home is used for non-business purposes.
In order to apply, you must have approval under State law to provide such services. If your authorization is rejected or your license is at any point revoked, you will no longer qualify for this deduction.
Using the simplified method will only allow you to calculate your deductions based on the size of the area used for business. Here is more information on what you will not be able to include in your deductions.
If you elect to use the simplified method you won’t be able to deduct any actual expenses for the business. Your mortgage interest, real estate taxes, and casualty losses will be considered personal and not business expenses.
If you used more than one home for your business during one year, you can only choose the simplified method for one of them. You must use the standard method to calculate deductions for any other home used as a qualified business.
You cannot deduct any depreciation (including additional first-year depreciation) for the portion of the home that is used for business. The allowable depreciation deductible for that year will be set as zero. This also means you don’t have to recapture any depreciation for the years in which you use the simplified method.
Even though you cannot deduct any depreciation for the portion of your home used for business, the simplified method still allows you to claim depreciation on other assets used in the business like equipment or furniture.
When using the regular method, the calculation of your home office deductions is based on the percentage of your house that is being used as an office. The tax-deductible expenses include mortgage interest, utilities, repairs, depreciation, and insurance.
First, you obtain your deductible percentage by dividing your home office square footage by your home’s total square foot. Then, multiply this percentage by the sum of your total allowable expenses and that would be your home office deduction.
Unlike the simplified method, the regular method does not have a limit to how much you can claim.
Let’s say a small business owner has a portion of their house dedicated to selling clothes. The annual gross income from this activity is $10,000. Their entire home is 1,000 square feet, and they are using 400 square feet for their business purposes. This means they are using 40% of their home for business.
Using the regular method this business owner would have to calculate direct expenses (installing a new carpet or painting the wall) as well as indirect expenses (mortgage and utilities). Let’s say they add up to $5,000 annually. The next step would be to take that 40% ratio and multiply it against the expenses (5,000 x 0.4) resulting in an annual deduction of $2,000.
Using the simplified home office deduction they would only have to look at the square footage of the space designated for business. In this case, they would only be able to claim a maximum of $1,500 because the limit is set at 300 square feet.
Once you determine that your home office space meets the requirements you need to choose what method of calculation you want to use. Keep in mind, once you choose your method, it is not possible to change your mind for that year, however, it is possible to select a different method every year.
Many people choose to use the simplified method as a way to avoid the record keeping requirements, but in some situations, you can come up with a lower deduction than you would have if you choose the standard method.
f you have a single-room office and small operations, the simplified method can work well for you. However, if you have many expenses this year that are ONLY related to your home business space, or if your home office space is large, you could get a higher deduction with the standard method.
A piece of general advice to maximize the home office expenses is to calculate the deductions under both methods each year and determine which option comes up with the higher expense. Here's the IRS's comparison of the two methods.
As you can see, taking a home office deduction is not easy. Always make sure you understand the general rules and meet the required qualifications. Because of the coronavirus pandemic, employees may receive a home office reimbursement or be fully repaid for any items purchased just for the home office.
Bonsai offers you a business expense tracker and tax software that will make this process easier and faster. It will help you calculate your expense deductions so you can make the right decision and maximize your self-employment tax savings.
A verbal contract (formally called an oral contract) refers to an agreement between two parties that's made —you guessed it— verbally.
Formal contracts, like those between an employee and an employer, are typically written down. However, some professional transactions take place based on verbally agreed terms.
Freelancers are a good example of this. Often, freelancers will take on projects having agreed on the terms and payment via the phone, or an email. Unfortunately, sometimes clients don't pull through on their agreements, and hardworking freelancers can find themselves out of pocket and wondering whether a legal battle is worth all the hassle.
The main differences between written and oral contracts are that the former is signed and documented, whereas the latter is solely attributed to verbal communication.
Verbal contracts are a bit of a gray area for most people unfamiliar with contract law —which is most of us, right?— due to the fact that there's no physical evidence to support the claims made by the implemented parties.
For any contract (written or verbal) to be binding, there are four major elements which need to be in place. The crucial elements of a contract are as follows:
Therefore, an oral agreement has legal validity if all of these elements are present. However, verbal contracts can be difficult to enforce in a court of law. In the next section, we take a look at how oral agreements hold up in court.
Most business professionals are wary of entering into contracts orally because they can difficult to enforce in the face of the law.
If an oral contract is brought in front of a court of law, there is increased risk of one party (or both!) lying about the initial terms of the agreement. This is problematic for the court, as there's no unbiased way to conclude the case; often, this will result in the case being disregarded. Moreover, it can be difficult to outline contract defects if it's not in writing.
That being said, there are plenty of situations where enforceable contracts do not need to be written or spoken, they're simply implied. For instance, when you buy milk from a store, you give something in exchange for something else and enter into an implied contract, in this case - money is exchanged for goods.
There are some types of contracts which must be in writing.
The Statute of Frauds is a legal statute which states that certain kinds of contracts must be executed in writing and signed by the parties involved. The Statute of Frauds has been adopted in almost all U.S states, and requires a written contract for the following purposes:
Typically, a court of law won't enforce an oral agreement in any of these circumstances under the statute. Instead, a written document is required to make the contract enforceable.
Contract law is generally doesn't favor contracts agreed upon verbally. A verbal agreement is difficult to prove, and can be used by those intent on committing fraud. For that reason, it's always best to put any agreements in writing and ensure all parties have fully understood and consented to signing.
Verbal agreements can be proven with actions in the absence of physical documentation. Any oral promise to provide the sale of goods or perform a service that you agreed to counts as a valid contract. So, when facing a court of law, what evidence can you provide to enforce a verbal agreement?
Unfortunately, without solid proof, it may be difficult to convince a court of the legality of an oral contract. Without witnesses to testify to the oral agreement taking place or other forms of evidence, oral contracts won't stand up in court. Instead, it becomes a matter of "he-said-she-said" - which legal professionals definitely don't have time for!
If you were to enter into a verbal contract, it's recommended to follow up with an email or a letter confirming the offer, the terms of the agreement , and payment conditions. The more you can document the elements of a contract, the better your chances of legally enforcing a oral contract.
Another option is to make a recording of the conversation where the agreement is verbalized. This can be used to support your claims in the absence of a written agreement. However, it's always best to gain the permission of the other involved parties before hitting record.
Fundamentally, most verbal agreements are legally valid as long as they meet all the requirements for a contract. However, if you were to go to court over one party not fulfilling the terms of the contract, proving that the interaction took place can be extremely taxing.
So, ultimately, the question is: written or verbal agreements?
Any good lawyer, contract law firm, or legal professional would advise you to make sure you formalize any professional agreement with a written agreement. Written contracts provide a secure testament to the conditions that were agreed and signed by the two parties involved. If it comes to it, a physical contract is much easier to eviden in legal circumstances.
Freelancers, in particular, should be aware of the extra security that digital contracts may provide. Many people choose to stick to executing contracts verbally because they're not sure how to write a contract, or they think writing out the contract terms is too complicated or requires expensive legal advice. However, this is no longer the case.
Today, we have a world of resources available at our fingertips. The internet is a treasure trove of invaluable information, platforms, and software that simplifies our lives. Creating, signing, and sending contracts has never been easier. What's more, you don't have to rely on a hiring a lawyer to explain all that legal jargon anymore.
There are plenty of tools available online for freelancers to use for guidance when drafting digital contracts. Tools like Bonsai provide a range of customizable, vetted contract templates for all kinds of freelance professionals. No matter what industry you're operating in, Bonsai has a professional template to offer.
A written contract makes the agreement much easier to prove the terms of the agreement in case something were to go awry. The two parties involved can rest assured that they're legal rights are protected, and the terms of the contract are sufficiently documented. Plus, it provides both parties with peace of mind to focus on the tasks at hand.
Bonsai's product suite for freelancers allows users to make contracts from scratch, or using professional templates, and sign them using an online signature maker.
With Bonsai, you can streamline and automate all of the boring back-office tasks that come with being a freelancer. From creating proposals that clients can't say no to, to sealing the deal with a professional contract - Bonsai will revolutionize the way you do business as a freelancer.
Why not secure your business today and sign up for a free trial?