Hobby v Business (September 2020)

Tax Tips

Hobby vs Business

By Michael Aston, E.A.
Alhambra Tax Center

 

When it comes to taxes the difference between reporting business and hobby is that a business can deduct all of its expenses even if the final number is negative. A hobby you can only deduct the expenses up to your income. If your expenses are higher than income, the final number would be $0.

In determining whether an activity is a hobby or a business, all facts and circumstances are taken into account. No one factor can make the determination. The following list is not intended to be all inclusive.

1) A business includes maintaining complete and accurate books and records, carrying on the activity substantially similar to other profitable activities of the same nature, and changing operating methods and techniques to improve profitability.

2) A business includes knowledge of the taxpayer or consultants, then using that knowledge to try and make a profit.

3) A business includes spending a lot of time and effort in the activity. Taking time away from another occupation may also indicate a profit motive.

4) Even if no profit is made from operations, the activity may be considered a business.

5) The success of the taxpayer in carrying on other similar or dissimilar activities. If the taxpayer was successful in the past turning an unprofitable venture into a profitable venture, the current activity may be a business even if it has not yet made a profit.

6) Early losses during start-up will not count against the taxpayer, but continued losses after the customary start-up stage that are not explainable may indicate a hobby. Any series of profitable years are strong evidence the activity is a business.

7) The amount of profits in relation to the amount of losses, and in relation to the taxpayer’s investment in the activity, may indicate intent. An occasional small profit one year, mixed with large losses in other years or large taxpayer investments, may indicate the activity is a hobby.

8) The financial status of the taxpayer. If the taxpayer does not have substantial income or capital from other sources, the taxpayer may have a profit motive. If the taxpayer has substantial income from other sources, and losses from the activity in question generate substantial tax benefits, the taxpayer may not have a profit motive.

9) Where there are recreational or personal elements involved with the activity, a lack of profits may indicate a hobby. On the other hand, a lack of any appeal in the activity other than possible profits indicates a profit motive. It is not necessary that the sole purpose for engaging in an activity is to make a profit.

The information above is from “The Tax Book”. If you would like to learn more about what is a hobby or business you can go to irs.gov or contact your tax preparer.

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