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Tax Mistake #5 – Hobby Income vs. Business Income
Most people believe that if they make money from a hobby, they can only deduct expenses up to the amount of money they receive as revenue. Therefore, they don’t really keep track of expenses and revenues for that matter especially if they receive most of their monies as cash. This could be a mistake if you are actually running a legitimate business. In fact, only a few minor qualifications separate hobby income from a bona fide business but the difference in tax savings is immense.
For example, if you have a hobby making turquoise jewelry and sell it via your friends jewelry store and you make $1,500 to $2,000 a year in revenue, you might think that it’s not worth it to keep track of expenses. However, say that over the summer you take a trip to Arizona and while you are there you look at some Indian jewelry and buy a few items to use in your business. Well that entire trip now becomes tax deductible. The flight, lodging, gas, car rental, dry cleaning, some meals, some entertainment can all be legally itemized as a legitimate, legal, IRS approved business expense. You could easily rack up an additional $2,000 in business deductions just from one trip to Phoenix! Can you imagine if you did this all year long?
If you had $10,000 in business deductions, you could deduct that amount from you or your spouse’s taxable income and that could save you up to $3500 at the end of the year. Would that make it worth it to make a few minor changes in the way you manage your “hobby?” You bet it would. Don’t make the mistake of assuming Hobby Income is not a Legitimate Business. Consult a qualified CPA who specializes in small businesses to find out the specific steps you have to take to run your hobby as a business.
For more information I recommend as a starting point you buy this book “Lower Your Taxes” by Sandy Botkin. (Click on the pic below) Yes you should always consult with your own CPA, but this book makes a great starting point. The more you learn on your own ahead of time will save you time (= money) when you are sitting in front of your CPA. You may not want to pay his hourly rate to explain basic tax knowledge when you can learn the basics on your own.
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