MLR

What differentiates a business from a hobby?

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A taxpayer lost his court case and was denied a deduction of business expenses because he was involved in an activity deemed to be a hobby rather than a business.

Kurt Anthony Strode learned the hard way that, to deduct something as a valid business expense, a taxpayer must be engaged in a valid trade or business activity.

Expenses related to a valid trade or business activity are deductible. Expenses related to a hobby are deductible only to the extent that the person has income from that hobby.

The court applied the regulations under Section 183 of the Internal Revenue Code to help determine whether an activity was engaged in for profit. These regulations provide substantial guidance on whether an activity is a valid trade or business.

The factors under the regulations that are used in helping to decide whether an activity is engaged in for profit are:

  • The manner in which the taxpayer carries on the activity
  • The taxpayer’s expertise or that of his or her advisers
  • The taxpayer’s time and effort expended on the activity
  • The expectation that assets used in the activity may appreciate in value
  • The taxpayer’s success in carrying on other similar or dissimilar activities
  • The activity’s history of income or losses
  • The amount of occasional profits, if any, from the activity
  • The taxpayer’s financial status
  • The activity’s elements, if any, of personal pleasure or recreation for the taxpayer

The court evaluated all of these factors in the Strode court case and determined that the activity was not a valid trade or business. Of the 10 years at issue, Strode had revenue in only two years, and it was a minimal amount. Strode was basically using his Schedule C to attempt to write off personal expenses.

The court denied all of the expense deductions (Kurt A. Strode v. Commissioner, U.S. Court of Appeals for the 9th Circuit, Oct. 19, 2015).