The Simplified Method is usually best for small businesses that use a small portion of their homes not greater than 300 square feet since you’re not required to meticulously keep records of all your expenses. You can simply take your square footage used for business and multiply it by $5. The Regular Method involves deducting individual expenses and requires more documentation, record-keeping, and calculations come tax season.
Here are some things to consider:
The Simplified Method requires less record-keeping and is less complicated. You only need to know the square footage of your home office and apply the prescribed rate ($5 per square foot, up to 300 square feet).
The Regular Method may result in a higher deduction if you have significant home expenses that are proportionally higher than the $5 per square foot rate used in the Simplified Method. However, this method requires more record-keeping and calculations.
Once you choose a method for a particular tax year, you cannot switch to the other method for the same year. However, you can change methods in future tax years.
The downside of the Simplified Method is that you cannot carry forward losses. If your business has a loss on your schedule C, you don’t get to take this deduction, you just lose it. You can carry forward a loss using the Regular Method. If taking a home office deduction creates a loss in your business, you don’t lose that expense. It just carries forward to a future year for you to take.
If you own your home and use the Regular Method, you have to take a depreciation expense as well, which involves allocating your building costs, land costs, and depreciating the building cost, and taking a percentage of that as a deduction, too. If you eventually sell the house, you are going to have to recapture those depreciation costs. If you use the Simplified Method, you don’t need to factor in depreciation.