Since the coronavirus quarantine began, many people have been forced to work from home. If you didn’t have a home office before the pandemic, you might have had a few expenses to set one up. I’ve received several questions about what benefits are allowed for home offices during the COVID-19 crisis.
One question came in on the QDT coronavirus question page. Money Girl reader Ian said:
"I have a question about next year's taxes and working from home. For the past 13 weeks, I have been forced to work from a home office. (I am a regular W-2 employee, not self-employed.) I have had some expenses come up that were brought about by working from home: a computer upgrade so I can better connect to Wi-Fi, a new router, and even a desk chair so I am comfortable while I work. Should I be keeping track of those expenses? Will they be deductible? My employer is not going to reimburse them. Thank you for your help!"
Another question came from Miki, who used my contact page at Lauradadams.com to reach me. She said:
"Hi, Laura, and thank you for a wonderful podcast! I've been listening for years and have always thought that you'd have a show for any question I could ever think of. But this new situation with COVID-19 has made me think of something that I'm sure many of us are dealing with right now.
"To start working from home, I had to spend quite a bit of money to get my home office on par with my actual office. I know you've done episodes on claiming home office expenses on taxes before, but could you do an episode on whether we can claim home office expenses on our taxes next year? And if we can, things we should start thinking about now (aside from saving the receipts)?"
Thanks for your kind words and thoughtful questions! I'll explain who qualifies for a home office tax deduction and serve up some tips for claiming it.
5 things to know about the home office tax deduction during coronavirus
Here's the detail on five things you should know about qualifying for the home office tax deduction in 2020.
1. COVID-19 has not changed the home office tax law
The CARES Act changed many personal finance rules—including specific tax deadlines, retirement distributions, and federal student loan payments—but the home office tax deduction is not one of them. In a previous post and podcast, Your Guide to Claiming a Legit Home Office Tax Deduction, I covered the fact that the Tax Cuts and Jobs Act (TCJA) of 2017 drastically changed who can claim this valuable deduction.
Before the TCJA, you could claim a home office deduction whether you worked for yourself or for an employer either full- or part-time. Unfortunately, W-2 employees can no longer take advantage of this tax benefit. Now, you must have self-employment income to qualify. My guess is that the IRS was concerned that it was too easy to abuse this benefit and reined it in.
Before the TCJA, you could claim a home office deduction whether you worked for yourself or for an employer either full- or part-time. Unfortunately, W-2 employees can no longer take advantage of this tax benefit.
The best option for an employee is to request expense reimbursement from your current or future employer even though they're not obligated to pay you. If you get pushback, make a list of all your home office expenses so it's clear how much you spent on their behalf. They might consider it for your next cost of living raise or bonus.
Unless Miki or Ian have a side business that they started or will start, before the end of 2020, they won't get deductions to help offset their home office setup costs.
2. The self-employed can claim a home office tax deduction
Let’s say you use a space in a home that you rent or own for business purposes in 2020. There are two pretty straightforward qualifications to qualify for the home office deduction:
- Your home office space must be used regularly and exclusively for business
- Your home office must be the principal place used for business
You could use a spare bedroom or a hallway nook to run your business. You don’t need walls to separate your office, but the space should be distinct—unless you qualify for an exemption, such as running a daycare. It’s permissible to use a separate structure, such as a garage or studio, as your home office if you use it regularly for business.
You must use your home as the primary place you conduct business—even if it’s just for administrative work, such as scheduling and bookkeeping. However, your home doesn’t have to be the only place you work in. For instance, you might work at a coffee shop or meet clients there from time to time and still be eligible for a home office tax deduction.
3. Your business can be full- or part-time to qualify for a home office tax deduction
If you work for yourself in any trade or business, either full- or part-time, and your primary office location is your home, you have a home business. No matter what you call yourself or your business, if you have self-employment income and do any portion of the work at home, you probably have an eligible home office. You might sell goods and services as a small business, freelancer, consultant, independent contractor, or gig worker.
If you work for yourself in any trade or business, either full- or part-time, and your primary office location is your home, you have a home business.
As I previously mentioned, the work you do at home could just be administrative tasks for your business, such as communication, scheduling, invoicing, and recordkeeping. Many types of solopreneurs and trades do most of their work away from home and still qualify for a legitimate home office deduction. These may include gig economy workers, sales reps, and those in the construction industry.
4. You can deduct direct home office expenses for your business
If you run a business from home, your direct home office expenses qualify for a tax deduction. These are costs to set up and maintain your office, such as furnishings, installing a phone line, or painting the walls. These costs are 100% deductible, no matter the size of the office.
5. You can deduct indirect home office expenses for your business
Additionally, you’ll have costs that are related to your office that affect your entire home. For instance, if you’re a renter, the cost of rent, renters insurance, and utilities are examples of indirect expenses. You’d have these expenses even if you didn’t have a home office.
If you own your home, potential indirect expenses typically include mortgage interest, property taxes, home insurance, utilities, and maintenance. You can't deduct the principal portion of your mortgage payment, which is the amount borrowed for the home. Instead, you’re allowed to recover a part of the cost each year through depreciation deductions, using formulas created by the IRS.
Allowable indirect expenses actually turn some of your personal costs into home office business deductions, which is fantastic! They’re partially deductible based on the size of your office as a percentage of your home—unless you use a simplified calculation, which I’ll cover next.
How to calculate your home office tax deduction
If you qualify for the home office deduction, there are two ways you can calculate it: the standard method or the simplified method.
The standard method requires you to keep good records and calculate the percentage of your home used for business. For example, if your home office is 12 feet by 10 feet, that’s 120 square feet. If your entire home is 1,200 square feet, then diving 120 by 1,200 gives you a home office space that’s 10% of your home.
In this example, 10% of your qualifying expenses could be attributed to business use, and the remaining 90% would be for personal use. If your monthly power bill is $100 and 10% of your home qualifies for business use, you can consider $10 of the bill a business expense.
To claim the standard deduction, use Form 8829, Expenses for Business Use of Your Home, to figure out the expenses you can deduct and then file it with Schedule C, Profit or Loss From Business.
The simplified method doesn’t require you to keep any records, which makes it incredibly easy to claim. You can claim $5 per square foot of your office area, up to a maximum of 300 square feet. So, that caps your deduction at $1,500 (300 square feet x $5) per year.
The simplified method requires you to measure your office space and include it on Schedule C. It works best for small home offices, while the standard approach is better when your office is bigger than 300 square feet. You can choose the method that gives you the largest tax break for any year.
No matter which method you choose to calculate a home office tax deduction, you can't deduct more than your business's net profit. However, you can carry them forward into future tax years.
Also note that business expenses that are unrelated to your home office—such as marketing, equipment, software, office supplies, and business insurance—are fully deductible no matter where you run your business.
If you have any questions about qualifying business expenses, home office expenses, or taxes, consult with a qualified tax accountant to maximize every possible deduction and save money. The cost of working with a trusted financial advisor or tax pro is worth every penny.
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At some point, most people experience an unexpected crisis that shakes their financial world. It could be losing a job, receiving a huge medical bill, or having a car break down at the worst possible time. But surviving a pandemic is a situation you probably never thought you would face.
No matter what challenge you’re facing, you’re not the first.
Along with the public health toll, the COVID crisis has put millions of people out of work. For those struggling financially, here are eight critical rules to help you manage money wisely, stretch your resources, and bounce back from this unprecedented health and economic disaster.
8 rules for managing a financial hardship
Here are the details about each rule to manage a financial setback during the coronavirus crisis.
Rule #1: Accept your situation and use your resources to seek help
The key to successfully navigating a financial setback is to be realistic. If you’re in denial and don’t face money troubles head-on, you can quickly compound the damage.
Instead of focusing on the problem, getting angry, or letting stress overwhelm you, channel your emotions into finding solutions. Start talking about your challenges with people and professionals you trust, such as a money-savvy family member, financial advisor, legitimate credit counselor, or an attorney.
Instead of focusing on the problem, getting angry, or letting stress overwhelm you, channel your emotions into finding solutions.
The following financial associations have certified volunteers who can offer free help and advice:
- National Association of Personal Financial Advisors
- The Financial Planning Association
- Association for Financial Counseling & Planning Education
Rule #2: Get a bird’s eye view of your finances
To fully understand your situation, create a list of what you own and owe; this is called a net worth statement. Compiling your data in one place helps you evaluate your financial resources, make decisions more efficiently, and have essential information at your fingertips if creditors or advisors ask for it.
First, list your assets:
- Retirement accounts
- Real estate
Then list your liabilities:
- Car loans
- Student loans
- Credit card debt
Include the estimated values of your assets, the balances on your debts, and the interest rates you pay for each liability. You could jot down this information on paper, enter it in a computer spreadsheet, or create a report using money management software.
When you subtract your total liabilities from your total assets, you’ve calculated your net worth, which is an indicator of your financial health. It’s not uncommon to have a low or negative net worth when you’re in financial trouble.
RELATED: 10 Things Student Loan Borrowers Should Know About Coronavirus Relief
Rule #3: Understand your cash flow
An essential part of bouncing back from a financial crisis is keeping an eye on your monthly income and expenses. Create a cash flow statement that lists your expected income and typical expenses, such as rent, utilities, food, prescriptions, transportation, and insurance. Again, you can create this report manually or by using budgeting features in a financial program.
Understanding where your money goes is the only way to prioritize expenses and cut all non-essential spending.
Understanding where your money goes is the only way to prioritize expenses and cut all non-essential spending. Making temporary sacrifices will help you recover as quickly as possible with less long-term damage to your finances.
Rule #4: Shop your essential expenses
As you review your spending, it’s an excellent time to comparison-shop your essential expenses. Evaluate your highest costs first, such as housing, vehicles, and insurance, since they offer the most significant potential savings.
For instance, you may be able to move into a less expensive home, purchase or lease a cheaper vehicle, and shop your auto insurance to find better deals. Ask your utility provider about assistance programs that offer energy-saving improvements at no charge.
Rule #5: Communicate with your creditors
If you haven’t been in contact with your creditors, start a dialog with each one immediately. You’ll come out ahead and get favorable treatment from creditors if you are proactive and honest about your financial troubles. Ask them for solutions, such as deferring payments for several months, setting up a reduced payment plan, or refinancing a loan to reduce your financial burden.
You’ll come out ahead and get favorable treatment from creditors if you are proactive and honest about your financial troubles.
Creditors are likely to ask about details regarding your financial situation, so have your net worth and cash flow statements on hand when you speak to them. Be ready to complete any required assistance applications quickly.
Rule #6: Prioritize your debts carefully
Based on guidance from creditors and finance professionals, prioritize your bills and debts carefully. Your goal should be to conserve as much cash as possible without skipping essential payments. Always pay for necessities first: food, prescription drugs, and auto insurance.
Debts related to child support and legal judgments have severe consequences and should be prioritized
Use your net worth statement to rank your liabilities from highest to lowest priority. For instance, debts related to child support and legal judgments have severe consequences and should be prioritized. Keeping up with an auto loan is a high priority if you rely on your vehicle for transportation. Federal student loans are in automatic forbearance through September 30, and the relief may get extended through 2020.
Your unsecured debts—medical bills, credit cards, and private student loans—are lower priorities. Never pay these debts ahead of rent, a mortgage, or utilities when you have a cash shortage.
Rule #7: Don’t let collectors force you to make bad decisions
Prioritizing your debts means some may be paid late or not at all. If a debt collector contacts you about a low-priority debt, such as a medical bill or credit card, don’t allow them to persuade you to pay it before your highest priority bills.
Collectors may try various aggressive tactics, such as threatening to sue you or ruin your credit. A lawsuit could take years, and a creditor is more likely to negotiate a settlement with you. Remember that a creditor or collector can’t send you to jail for civil debts.
If you are behind on bills, that fact is likely already reflected on your credit reports. By the time a collector contacts you, the damage is already done, and paying the bill won’t improve your credit in the short-term.
Rule #8: Take advantage of local and federal benefits
If your income and savings have entirely dried up, use these resources to learn more about local and federal benefits.
- FeedingAmerica.org has a map showing local food banks
- Supplemental Nutrition Assistance Program (SNAP) is the federal food program you may qualify for based on where you live, your income, and family size
- MakingHomeAffordable.gov can help you find a housing counselor or see if your mortgage is backed by the federal government and qualifies for forbearance
- Benefits.gov has a questionnaire that helps you discover the benefits you’re eligible for
- Medicaid.gov is the federal health insurance program you may qualify for based on where you live, your income, and family size
- Healthcare.gov is the federal health insurance marketplace where you may find plans with substantial subsidies if you earn too much to qualify for Medicaid
Financial challenges can cause you and your family to experience a flood of emotions, including anger, fear, and embarrassment. As difficult as it might be to put a financial crisis into perspective, it’s critical. No matter what challenge you’re facing, you’re not the first. There are millions of people who are dealing with COVID-related financial hardships.
Face the fact that your recovery could take a while. Do everything in your power to manage your budget wisely by getting organized, seeking ways to earn more, and spending less. Don’t be afraid to ask for help from creditors, seek free advice from professionals, and take advantage of every local and federal benefit possible.
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