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A Good Reminder of Business vs. Hobby Activities

The following court case is a reminder for us all to look at the activities of our business and ask ourselves – is it really business or could it be considered a hobby?

Film Festival Activity Was a Hobby: The taxpayer was the sole member of an LLC that organized film festivals at colleges and universities. He didn’t create a formal business plan, prepare profit projections, or undertake a market analysis for the business. On Schedule C of his income tax return, the taxpayer reported a net loss of over $32,000 attributable to the film festivals. The IRS disallowed the loss, arguing that the activity lacked a profit motive and was therefore a hobby. The Tax Court agreed, holding that the taxpayer didn’t conduct the film festival activity in a businesslike manner and lacked the requisite profit objective. Eric Zudak, TC Summ. Op. 2017-41 (Tax Ct.).

Generally, all activities engaged in that earn income must be reported on your tax return per IRS Code Sec. 61(a) that states “gross income means income from whatever source derived…unless there is a specific exclusion” (IRC Sec. 61(a) Gross Income Defined).

Hobby Activity:  Hobby income is not an exclusion of income.  Thus, hobby income is reported on Line 21 Other Income on page 1 of your 1040 tax return. Hobby expenses are allowable deductions on Schedule A (subject to 2% AGI limitation) not to exceed the hobby income reported on Line 21. Therefore, you cannot have a net loss from a hobby activity.  Hobby income is not subject to self-employment tax.

Business Activity:  Generally, when there is an intent to earn a profit, the activity is considered business in which all ordinary and necessary expenses can be used to offset income.  Sole Proprietors are deemed to be a disregarded entity, therefore income and expenses are reported on Schedule C of your tax return. Business income is subject to self-employment tax.

When determining hobby vs. business activity, the IRS looks at each case separately.  To help, the IRS has nine factors you can use to determine whether you have a hobby or business activity.  While these nine factors should be considered, other factors may also need to be considered. No single factor is determinative, and the final decision does not depend on the number of factors indicating a “for profit” activity versus the number indicating a “not for profit activity.”   For a checklist of the nine factors to consider and additional information, email us at research@integrityintaxllc.com.

 

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Thank you for coming to my blog!  Remember to check back each week for new posts and updates.  The primary focus of my blog will be to provide tax and accounting updates, information, and answer questions, as well as provide education on what exactly an IRS Enrolled Agent is and why it is so important that your tax preparer be an Enrolled Agent.  Also, I will discuss the enormous responsibility of being an Enrolled Agent.  As most of you reading already know, I have earned the privilege of being an IRS Enrolled Agent.  In addition, I am a Certifying Acceptance Agent which means I have an agreement with the IRS to assist those who are not eligible to receive a social security number, apply for what is known as an individual taxpayer identification number (ITIN), by verifying and confirming their Identity and Foreign Status.  I am by no means employed or an employee of the IRS.  Rather I help individuals and small businesses to be compliant and up to date with their tax responsibilities and obligations.  I can represent you before the IRS to resolve & settle tax liabilities and disputes.  I have helped numerous clients get IRS penalties waived and apply for Offer in Compromise (OIC). In addition, I can assist you in the Appeals process which saves you, the taxpayer, time and money spent on litigation involving attorney fees.

I also will post about many other topics such as, yes, you guessed it dogs.  I love the many personalities of dogs and how they seem to say so many words by just expressions on their face. As my commitment to the community, I donate a portion of my business income to local animal rescues and shelters.  This year after tax season, we made a donation to Saving Paws to help raise funds for a new transport van.

For those in Northeast Wisconsin, I will also post updates on local community events.

If you have a tax question – feel free to send an email to research@integrityintaxllc.com and it may appear in a future blog!

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Thank you for reading my blog.  I hope you find it informational and useful.

Tina M. Kleckner EA, CAA