Is your income from your hobby taxable income?
Did you know that a taxpayer must report income on their tax return even it is made from a hobby?
However, as a taxpayer, you must understand that there are rules on how to report the income and expenses as a business or a hobby.
1. Determine that your activity is either a business or a hobby. If a person operates a business, the person conducts the company to make a profit. Conversely, a person engages in a hobby for sport or recreation, not to make a profit.
As a taxpayer, you must distinguish between whether you are operating a busines or hobby. The IRS lists nine questions for a taxpayer to consider.
Whether you carry on the activity in a businesslike manner.
Whether the time and effort you put into the activity indicate, you intend to make it profitable.
Whether you depend on income from the activity for your livelihood.
Whether your losses are due to circumstances beyond your control (or are normal in the startup phase of your type of business).
Whether you change your methods of operation in an attempt to improve profitability.
Whether you or your advisors have the knowledge needed to carry on the activity as a successful business.
Whether you were successful in making a profit in similar activities in the past.
Whether the activity makes a profit in some years and how much profit it makes.
Whether you can expect to make a future profit from the appreciation of the assets used in the activity.
2. You can deduct ordinary and necessary expenses but within certain limits. Per the IRS, it defined ordinary expenses as common and accepted for the activity. Also, the IRS establishes necessary expenses as appropriate for the activity.
3. Limits of hobby expenses. A taxpayer 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.
4. How to deduct hobby expenses. 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. Please see Publication 535 for the rules about how to claim them on Schedule A, Itemized Deductions.
Disclaimer: This blog is for information purposes only and is not intended to provide investing, accounting, tax or legal advice and should not be relied upon.