Two key tax deductions taxpayers shouldn’t overlook when they are self-employed: automobile deductions and home office deductions.
One major tax advantage that self-employed individuals have over W-2 employees is that self-employed taxpayers can deduct their business expenses incurred in the course of operating their business. W-2 employees cannot. As of the passing of the Tax Cuts and Jobs Act of 2017 which became effective beginning in 2018, W-2 employees were no longer allowed to deduct their out-of-pocket business expenses that were not reimbursed by their employer. Thus, while both self-employed workers and W-2 employees may both incur similar business expenses, only self-employed individuals can claim their business expenses as tax deductions on their tax return. Two such expenses available for self-employed taxpayers to claim as business deductions are the home office deduction and the auto deduction.
Claiming a home office deduction:
When taxpayers are self-employed, they may qualify to claim a portion of their home as a business deduction. To qualify as business use of the home, the specified business use space in the home must be utilized for business purposes both regularly and exclusively. Generally, taxpayers will claim a specific room in their house as a dedicated home office space, but a section of a room will qualify as well. Plus, the business use of the home would qualify whether the house is owned or rented by the taxpayer – home ownership is not a requirement to qualify for this deduction. Meeting patients or clients (in person and/or virtually) as well as performing administrative functions for your business all qualify as business use of the designated home office space. Taxpayers can even claim a qualified home office while having a second office for their business that they rent or own elsewhere.
For taxpayers claiming a business deduction for a home office, two different options are available.
- The less complicated option is to claim the simplified method. For this home office deduction method, the allowed deduction is calculated by multiplying the home office square footage by $5 per square foot and capped at 300 square feet (or a tax deduction of $1,500).
- The second method is the business use percentage method and requires the tracking of actual home expenses over the year and accurate record-keeping by the taxpayer. Taxpayers using this method are allowed to claim a percentage of the actual costs incurred related to the area of the business use portion of the home. Using this method, the taxpayer will need to keep records of all the costs of maintaining the residence over the year. Such costs generally include amounts paid for mortgage interest, real estate taxes, homeowners insurance, repair & maintenance costs, and utilities. Condo fees for condo unit owners and rent expense for renters are also allowed expenses in determining the home office deduction. One additional allowed deduction for homeowners in determining the home office deduction is depreciation on the home (amortizing the original cost of the home based upon IRS published tables). These total costs are allowed to be deducted based upon the business use percentage (square footage of the home office space divided by square footage of the entire home).
Typically, the business use percentage method will result in a larger home office deduction than the simplified method (being capped at just $1,500). However, the percentage method requires more work because taxpayers must track the home’s expenses over the course of the year and maintain those documents and records in their files.
Claiming an automobile deduction:
Like the home office deduction, taxpayers are allowed to choose between two different options when claiming the auto deduction on their tax return as a business expense.
- The simpler method is to claim the standard mileage rate. This method requires the taxpayer to track their business miles driven in a year. The allowed deduction is calculated by multiplying the number of business miles driven in the year by the IRS published standard mileage rate for the year (67 cents per mile for 2024).
- The second method, known as the actual expense method, is a bit more involved and includes additional record-keeping by the taxpayer. When taxpayers use this alternative method, they are allowed to claim a percentage of the actual costs incurred related to using the automobile for business purposes in the year. Using this method, the taxpayer will need to keep records of all the costs of maintaining the car for the year (or period of time that auto qualified for business use in the calendar year). These costs generally include amounts paid for fuel, auto insurance, automobile excise tax and registration fees, plus repair & maintenance costs. For taxpayers that own their car, a deduction is allowed for depreciation of the vehicle (amortizing the original purchase price of the automobile over several years based upon IRS tables). And for taxpayers that lease their vehicles, the lease payments qualify as allowed automobile costs. Using this method, taxpayers must 1.) track their driving miles throughout the year for business related purposes and 2.) track the total (business and personal) miles driven in the year (or period of the year used for business purposes). Under this method, the taxpayer is allowed to deduct all of the costs of the automobile incurred in the year (or portion of the year) prorated by the ratio of business miles driven divided by total miles driven in the year (or portion of the year); thus, the total auto costs are allowed based upon the percentage of business use.
When using either auto deduction method, taxpayers should maintain a log of business miles driven and total miles (business and personal) driven in the year (or portion of the year). If ever audited by the IRS, the IRS auditor will request to see a driving log to substantiate the miles claimed as business miles on the tax return. When determining qualified business miles, “deductible” miles are those driving miles driven from one workplace to a second workplace in a day. A taxpayer’s commute, first trip of the day – home to office and last trip of the day – office to home, does not qualify as business miles but are considered non-deductible personal miles driven.
A rough rule of thumb regarding the two options available to claim for the auto deduction, a larger business deduction will generally result from the percentage of actual expense method when the total miles driven in a year are low and the business driving miles are a high percent of those total miles. When the amount of business miles driven in the year total a significant amount, then the standard mileage rate is generally more tax advantageous.
There is one additional tax benefit when claiming both a home office deduction and an auto deduction on a tax return. For taxpayer’s that qualify to claim a home office as a regular workplace for tax purposes, the drive from the home office to another worksite in a day as well as the drive from another workplace to your home office would qualify as deductible business miles. In this scenario, although the driving miles would be to and from the individual’s home, generally considered a commute for most taxpayers, these driving miles would not be considered commuting (personal) miles if a home office deduction is also claimed on a tax return because the home office would qualify as a worksite; generally, the first and last worksite of the day.