Self-Employed Homeowner Tax Deductions
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April 3, 2023

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If you’re self-employed, you know that every penny counts. That’s why calculating tax deductions for homeowners who are self-employed is so essential.

Tax laws and rules are always, and have always been, dynamic. Changes in tax laws seem to fluctuate with the political tides, and it can be challenging to keep track of what’s new.

One such example is mortgage insurance premiums. The IRS recently announced that the itemized deduction for mortgage insurance premiums expired.

We’ve put together some of the most cost-saving and effective suggestions for self-employed people to calculate tax deductions for homeowners.

Of course, we suggest that you consult with a tax or accounting professional to ensure that any deductions you employ are used correctly and for the greatest benefit to you.

Let’s take a look.

Side note: Need help with a self-employed mortgage? Start here.

How new legislation cushions expenses for self-employed homeowners

The Tax Cuts and Jobs Act (TCJA) is the most recent major tax legislation overhaul by the U.S. Congress, passed during the previous administration and came into effect for the 2018 tax year.

This act included changes to self-employed tax deductions—some were intended to be temporary and set to expire in 2025, while others were created to be permanent.

One of the significant impacts of this law on small businesses comes via the qualified business income (QBI) deduction for pass-through businesses.

This deduction greatly benefits owners of partnerships, sole proprietorships, S corporations, certain LLCs, trusts, and estates, allowing them to deduct up to 20% of their qualified income.

What does the IRS consider business use of home?

As a self-employed homeowner, you may be able to claim deductions for the use of your home for business on your tax return. However, it’s important to understand what the IRS considers business use of home expenses and how to calculate the deduction.

According to the IRS, a home office is considered for business use if it’s used regularly and exclusively for the operation of your business or trade. This rule means the space must be used primarily for business purposes and not for personal use. In other words, your home is:

  • Your principal place of business
  • A place to meet with clients or customers
  • Contains a separate structure used for business

If you think your home office space qualifies for deductions—you have the option to calculate this using one of two methods: the simplified method or the regular method.

The IRS simplified method: The first method the IRS created is called the simplified method, which enables you to deduct $5 for each square foot of your home used for your business, up to a maximum of 300 square feet.

The IRS regular method: The regular method requires you to calculate the actual expenses of using your home for business purposes. These costs include mortgage interest, property taxes, utilities, insurance, and repairs based on the percentage of your home used for business.

Deducting home office equipment, including home phone and internet

If you have a home office that you use for work purposes, you can deduct the cost of any equipment you purchase for that particular space.

This equipment might include items such as computers, printers, and desks. Note that the items in question must be used solely for work purposes in order to be eligible for this deduction.

In addition to equipment, self-employed homeowners can also deduct a portion of their home phone and internet costs. Like deductions for the home office space itself, this deduction is based on the percentage of your home used for work purposes.

If you have a separate phone line or internet connection solely for work purposes, you can deduct the full cost of those services.

However, if you use your home phone or internet for both personal and professional use, you can only deduct the percentage of the bill that is related to work. For example, if a home office takes up 10% of a person’s home’s total square footage, they can deduct 10% of their phone and internet.

When claiming deductions for home office equipment and phone and internet costs, it is important to ensure that you follow IRS guidelines. For example, the IRS requires that your home office be used regularly and exclusively for work purposes to be eligible for deductions.

Home office improvements

Under specific conditions, it’s possible to spread the expense of home enhancements over several years through a depreciation rule.

If a portion of your residence serves as a home office for your business, depreciation may be applicable. Any upgrades to that particular section of your house—the part utilized for business purposes—can be fully deducted via depreciation.

Some enhancements you do may benefit the entire property, not just your home office. The cost of these overall improvements can be deducted according to the percentage of your house used as an office.

For instance, if 30 percent of your residence functions as an office, you may deduct 30 percent of the expense for a modification that benefits the entire house.

Mortgage interest deduction

When someone is self-employed, most cases allow you to deduct all of your home mortgage interest. How much will depend on the mortgage amount, the date, and how you use the mortgage proceeds.

In general, “home mortgage interest” is the percentage you pay on the mortgage or home loan that was secured by your property.

To meet the IRS’s conditions for deducting this expense, you must file Form 1040 or 1040-SR and itemize your deductions on Schedule A.

The mortgage should also be a secured debt on what they consider to be a qualified home, and both the lender and you have to “intend that the loan be repaid.”


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Discount points

The IRS generally allows for full deduction of mortgage points paid during the year provided that:

  • The borrowed amount for the home loan doesn’t exceed $750,000
  • The mortgage is being used for buying or building your primary residence
  • The points have to be a percentage of the mortgage amount
  • Using points is a common business practice in your area
  • The amount paid for these points should not be excessive for your area
  • Points cannot be used for stand-alone fees like property taxes
  • The funds to pay for points can’t be borrowed from the mortgage lender or broker
  • Clear itemization of the amount(s) paid as points on loan documents are mandatory
  • There needs to be cash accounting on taxes

If you cannot deduct your points in the year they were paid, you might still be eligible to deduct them over the loan’s lifetime.

Property tax

The recently implemented Tax Cuts and Jobs Act (TCJA) sets a limit on the itemized deduction for state and local taxes to just $5,000 for married people filing separate returns and $10,000 for every other tax filer. These limits apply to the tax years of 2018 to 2025.

As in previous years, state and local tax refunds aren’t subject to taxes if a taxpayer chose standard deductions for the year in which that tax was paid.

But if a taxpayer chooses itemized deductions for that particular year (part of Schedule A, Itemized Deductions), all or part of the refund may be subject to tax so long as the taxpayer received a tax benefit from that deduction.

Taxpayers impacted by the SALT limit (State And Local Taxes)—those who itemized deductions and paid their state and local tax amounts that exceeded the SALT limit—might not have to include the entire amount of state or local tax refund in their income in the following year.

A key part of this calculation considers the amount the taxpayer would have deducted if they only paid the state and local tax liability (i.e., no refund and no balance due).

Home sale tax exclusion

When you sell your primary residence and make a profit, you may be able to exclude up to $250,000 of gain from your income. If you file a joint tax return with your spouse, you may be able to exclude up to $500,000 of the gain.

Publication 523 from the IRS (“Selling Your Home”) provides detailed information on the rules and worksheets for this exclusion.

To qualify for this (called the Section 121 exclusion), you must pass particular ownership and use tests—meaning you must have owned and lived in this property as your primary residence for at least two out of the five years before the sale.

You can meet the ownership and use requirements during different two-year periods, but you must pass both tests during the five-year period before the sale.

If you excluded the gain from another home during the two years before the sale of your current home, you might not be eligible for this exclusion. More information on general capital gain and loss can be found on the IRS posting Topic No. 409.

Conclusion

As you can see, self-employed homeowners have access to a number of different tax deductions. Careful employment of these deductions may help to significantly reduce the amount of taxes owed, thereby giving a well-deserved boost to your income. 

Always try to maximize your savings and make sure you’re not paying more than your fair share. Consulting with a qualified tax professional is important to ensure that these suggestions are applied properly and that all applicable credits are claimed.

With careful planning, self-employed homeowners can save money on their taxes while making sure they meet all filing requirements.

Need help with a self-employed mortgage? Start here.

My Perfect Mortgage does not provide tax, legal or accounting advice. This material has been prepared for informational purposes only. Consult advisors before filing taxes or engaging in any transaction.

Our advise is based on experience in the mortgage industry and we are dedicated to helping you achieve your goal of owning a home. We may receive compensation from partner banks when you view mortgage rates listed on our website.

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