These days, “side hustle” has become quite the buzzword. But what is the difference between a hobby that’s bringing in extra income and a business? Whether you’re selling your paintings, pottery or woodworking, this income needs to be reported on your tax return, although not in the same way as business income.
So what’s the difference? The IRS declares that individuals “operate a business to make a profit,” while, “people engage in a hobby for sport or recreation.” To help you determine whether your activity qualifies as a hobby, the IRS has composed the following list of factors:
- Like a business, do you maintain books and records for this activity?
- When you invest your time and efforts into this activity, are you intending to make a profit?
- Do you depend on the income from this activity for your livelihood?
- Are your losses from circumstances beyond your control? (*versus a startup phase of a business)
- Do you alter your operations to improve profitability?
- Do you have the knowledge to conduct the activity as a successful business?
- Have you successfully made profits on these activities in the past?
- Are there certain years your activity makes a profit?
- Could you expect to make a future profit from the appreciation of assets you use in this activity?
If it’s a business…you are able to deduct losses. However, you will have to complete Schedule C, as well as pay income tax and self-employment taxes.
If it’s a hobby…you can no longer deduct expenses related to hobbies. Report your income on Schedule 1, Form 1040, line 21 (Other Income).
In conclusion, it’s always best to keep as detailed records as possible, in case of an IRS audit. Don’t let the threat of taxes on your hobby income deter you from conducting your hobby. Continue what you love, and if you don’t want to pay taxes on this activity, don’t sell your goods for income.