Most people have a hobby. Maybe it’s scrapbooking, or maybe it’s restoring vintage cars. Our hobbies are important because they help us relax from the stress of everyday life and because they bring us enjoyment. But what happens when someone with a scrapbooking hobby starts to sell some of his greeting cards? Or when a backyard mechanic sells his vintage car at a profit? When our hobbies start to produce income, it might not be clear whether our hobby is still a hobby, or if it has become a business that should enjoy the financial benefits and responsibilities that are attached to its status as a business.
So what exactly is a hobby? A hobby is any activity that a person pursues because they enjoy it and with no intention of making a profit. People operate a business with the intention of making a profit. When our hobbies turn into a source of income it may be unclear whether we are still participating in a hobby, or if our hobby has grown into a business.
To help simplify things, the IRS has established factors that must be considered when determining whether an activity is a business or hobby. These factors are whether:
- You carry out the activity in a businesslike manner and maintain complete and accurate books and records.
- You put time and effort into the activity to show you intend to make it profitable.
- You depend on income from the activity for your livelihood.
- You have personal motives for carrying out the activity such as general enjoyment or relaxation.
- You have enough income from other sources to fund the activity.
- Losses are due to circumstances beyond your control or are normal for the startup phase of your type of business.
- There is a change to methods of operation to improve profitability.
- You have the knowledge needed to carry out the activity as a successful business.
- You were successful in making a profit in similar activities in the past.
- The activity makes a profit in some years and how much profit it makes.
- You can expect to make a future profit from the appreciation of the assets used in the activity.
In the end, all factors, facts, and circumstances with respect to the activity must be considered when determining if an activity is a hobby or a business. No one factor is more important than another.
If you have questions about whether your hobby might be a business, we encourage you to contact our office so that we can help advise you, and make plans for the upcoming tax year. By taking action now, you might save yourself a big tax bill next year.