Every business idea, no matter how big or small, starts somewhere. Whether it came from a random daydream or a well thought out business plan, your idea was fueled by something you thought the world needed.
Perhaps you had another job or responsibility, and you weren’t able to devote all your time and resources to your new idea. Instead, you kept it as a side project which turned in to a fun little hobby.
While keeping your main job and running a hobby business can be fun and energizing, there are certain tax implications that must be taken into consideration when your business idea is just a hobby.
Your tax liability will be affected depending upon whether your work is classified as an actual business or as a hobby. Here are nine factors from the IRS regulations used to determine if an activity is a business or a hobby:
So, what does this mean for you? Any form and amount of income, no matter where it is coming from, is taxable and should be reported. However, hobby activities are reported differently than trade or business activities and have certain limitations. On a positive note, hobby activities are not subject to self-employment tax. However, expenses related to hobby activities are only deductible as itemized deductions subject to 2% of adjusted gross income. Taxpayers who utilize the standard deduction do not receive any benefit from these expenses and those with higher income will also be limited. Additionally, retirement plan contributions, self-employed health insurance and an array of other deductions cannot be used to offset hobby income.
The moral of the story…
The IRS needs to know about any money you’re bringing in, whether it’s from your daily job, or the hobby app building company you run from your garage. If your business is just a hobby, remember you still need to report it and planning can go a long way in terms of tax benefits and pitfalls.