On an average day, 95 percent of Americans age 15 and older engage in some sort of leisure activity, according to the American Time Use Survey by the U.S. Bureau of Labor Statistics. Many of these activities are considered hobbies, which can turn into sources of income for millions of fortunate Americans. Those who do earn income from their hobbies must report the income on tax returns. There are, however, special rules and limits for deductions you can claim. The Pennsylvania Institute of Certified Public Accountants recommends the following four tax tips about hobbies from the IRS.
1. Is it a business or a hobby?
A key feature of a business is that you do it to make a profit. You often engage in a hobby for sport or recreation, not to make a profit. Consider these nine factors when determining whether your activity is a hobby or a business:
•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.
Make sure to base your determination on all the facts and circumstances of your situation. For more information, see IRS Publication 535, Business Expenses. If you still have questions, consult your CPA.
2. What are allowable hobby deductions?
Within certain limits, you can usually deduct ordinary and necessary hobby expenses that relate to earning income. An ordinary expense is one that is common and accepted for the activity. A necessary expense is one that is appropriate for the activity.
3. What are the limits for hobby expenses?
Generally, you can only deduct your hobby expenses up to the amount of hobby income. If your hobby expenses are more than your hobby income, you have a loss from the activity. You can’t deduct the loss from your other income.
4. How Do You Deduct Hobby Expenses?
You must itemize deductions on your tax return to deduct hobby expenses. Your expenses may fall into three types of deductions, and special rules apply to each type. See Publication 535 for the rules about how you claim them on Schedule A, Itemized Deductions.
Consult a CPA
Hobby rules can be complex. Review Publication 535 for more information and details, but remember, additional factors may impact your situation. A financial advisor can help to clear up any confusion. To find a local CPA, visit www.picpa.org/MoneyandLife.
Money and Life Tips columns are a joint effort of the AICPA and the Pennsylvania Institute of Certified Public Accountants, as part of the profession’s nationwide 360 Degrees of Financial Literacy program.
