Did someone tell you that you couldn’t deduct the losses from your booth at the antique mall or local festival, from your selling activity on Ebay or for your race car with advertising signage? Did you have a reasonable expectation of earning a profit? Now is the time to determine if the losses you might sustain this year will be deductible. If they are, you should make an adjustment in your operation.

The IRS recently released guidelines to follow for determining whether an activity not engaged in for profit is a business or a hobby. The IRS believes that incorrect deduction of hobby losses accounts for a portion of the $30 billion per year of unpaid taxes.

You may deduct ordinary, common and accepted expenses for your trade or business. You can also deduct necessary business expenses – but first you must determine if your activity is a business or hobby.

Some of the factors to consider, according to the IRS, are:

  • Does your time and effort indicate an intention to make a profit?
  • Do you depend on income from the activity?
  • Have you changed methods of operation to improve profitability?
  • Does the activity make a profit in some years?

The activity is assumed to be a trade or business if you make a profit during at least three of the last five years. To refute this presumption, you must address why you don’t meet the guidelines for determination of status as a trade or business activity.

If the determination is that the activity is a hobby, you may deduct certain expenses on Schedule A as itemized deductions.

For assistance in determining the status of your activity, contact your Rea advisor.

This article was originally published in Illuminations: Facts & Figures from people with a brighter way, a Rea & Associates enewsletter, May 2, 2007.

Note: This content is accurate as of the date published above and is subject to change. Please seek professional advice before acting on any matter contained in this article.

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