Business or Hobby? It depends.

What is the difference between a business and a hobby?  Sometimes, it is very difficult to make the judgment. IRS Publication 575 defines the difference. Millions of people enjoy hobbies that are also a source of income. I know a lady who has turned her kitchen into a bakery and makes substantial income, in her own home. From catering to cupcake baking, crafting homemade jewelry to glass blowing — no matter what a person’s passion, the Internal Revenue Service offers some tips on hobbies.
Taxpayers must report on their federal income tax return the income earned from hobbies. The rules for how to report the income and expenses depend on whether the activity is a hobby or a business. There are special rules and limits for deductions taxpayers can claim for hobbies. Here are five tax tips to consider:
Is it a Business or a Hobby?  A key feature of a business is that people do it to make a profit. People engage in a hobby for sport or recreation, though a hobby’s main intent is not to make a profit, even though a profit often occurs. The IRS offers nine factors for consideration when determining whether an activity is a hobby or a business. Make sure to base the determination on all the facts and circumstances.
Allowable Hobby Deduc-tions.  Within certain limits, taxpayers can usually deduct ordinary and necessary hobby expenses. An ordinary expense is one that is common and accepted for the activity. A necessary expense is one that is appropriate for the activity.
Limits on Hobby Expenses.  Generally, taxpayers can only deduct hobby expenses up to the amount of hobby income. If hobby expenses are more than its income, taxpayers have a loss from the activity. However, a hobby loss can’t be deducted from other income.
How to Deduct Hobby Ex- penses.  Taxpayers must itemize deductions on their tax return to deduct hobby expenses. Expenses may fall into three types of deductions, and special rules apply to each type. Form 1040 Schedule C is the form used for business income and expenses. How-ever; Form 1040 Schedule A is the form to be used to report hobby expenses.  If the taxpayer’s total Schedule A expenses do not exceed the Standard Deduction allowed to all tax filers, then none of the hobby expenses will be deductible.  But, the hobby income will be includable in taxable income.
I am sure you knew there had to be a catch.  The hobby income can be offset by hobby expenses to the extent of the profit generated by the hobby activity—but excess expenses are just ordinary Schedule A expenses, like property taxes, medical expenses, mortgage interest and charitable contributions.  So, what to do?  If the hobby begins to provide substantial income, declare the activity a business, file for a federal tax number using Form SS-4 and work the hobby into a profitable business.
Many of our clients began very successful businesses in this same way. Now, they are very successful and their businesses continue to grow.  Take the first step and see what happens.  If you need assistance, just give us a call.
For more information, call Wilson & Wilson, PC, CPA, CFE at 615-673-1330   or  email  jim@wilsonandwilsoncpa. com