Have a side hustle? Is it a business or a hobby for tax purposes?
Updated: Oct 12, 2020
It seems like just about everyone has a side hustle these days. Perhaps you have a hobby you enjoy and decided you could make a little extra cash on the side. Maybe you are looking to boost your income for a savings goal or you're starting a business that you hope will one day replace your 9-5 job.
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So why does it matter if your activity is deemed a hobby instead of a business? "If it's a hobby, I don't have to report the income, right?" Wrong. All income, unless specifically excluded by the tax code, is taxable income. This includes net income from hobbies. Generally, you can only deduct hobby expenses up to the amount of hobby income, whereas a business can report a loss for tax purposes. This is typically referred to as the hobby loss rules.
Here are nine things you must consider when determining if your activity is a business or a hobby:
Is the activity carried out in a businesslike manner and do you maintain complete and accurate books and records?
Does the time and effort you put into the activity show that you intend to make it profitable?
Do you depend on income from the activity for your livelihood?
Are any losses due to circumstances beyond your control or are they normal for the startup phase of your type of business?
Have you changed methods of operation to improve profitability?
Do you and your advisors have the knowledge needed to carry out the activity as a successful business?
Have you been successful in making a profit in similar activities in the past?
Does the activity make a profit in some years and how much profit did it make?
Can you expect to make a future profit from the appreciation of the assets used in the activity?
Bottom line: if your activity is not a business in the eyes of the IRS, then it will be a hobby and subject to the hobby loss limitations. On a positive note, if your hobby shows a net gain for the year, the income will not be subject to self employment tax like that of a sole proprietor business would be.
Check out the IRS website for more information.
I enjoy helping individuals with tax preparation and tax planning as well as offering tax help to individuals dealing with tax debt, IRS liens, IRS levies, Wage Garnishments, etc. I also service businesses (including nonprofits and churches) by providing tax preparation and tax planning as well as consulting for accounting, bookkeeping, and other finance related questions. I live in Orlando, FL, but I serve clients all across the country. Schedule an appointment if you need assistance and take a look at the resource page.
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*The blog posts (as well as the YouTube channel) are my personal opinions and thoughts about a wide range of topics. They are not meant to apply to individuals specifically and should never be relied on as tax or investment advice. You should contact a professional for specific advice before taking action.