Has The IRS Classified Your Business As A Hobby? 3 Things You Can Do
It seems like almost everyone has a side gig these days. Online marketplaces that allow people to sell anything and everything have made it possible for people to turn their hobbies into a viable business.
The sale of any item is subject to taxation, but the IRS treats hobby sales and business sales very differently. Most people want to be classified as a business so that they can claim deductions to reduce their tax burden. Money generated through hobby sales is not eligible for deductions.
If you think you have a business, you file your tax returns accordingly, and the IRS classifies your business as a hobby, there are some things you can do to reverse their decision.
1. Produce Financial Documentation
Anyone hoping to build a business out of their hobby should work closely with a CPA from day one. Accurate and comprehensive financial records are required for any successful business, and a CPA can help you establish a record-keeping system that will serve the needs of your growing business.
In the event that the IRS questions your business's status, you can produce the financial records your CPA has helped you keep to show that you are conducting your activities in a business-like manner.
2. Provide a Written Business Plan
If you want the IRS to continue classifying your sales as business profit, then you will need to treat your hobby like a business. This means having a written business plan in place. It is not unusual for a business to experience losses during the initial startup phase. The difference between a hobby entity and a business entity is the intent to rectify these losses.
You should be able to provide a written business plan outlining any adjustments you will make to become profitable for the IRS to review. This business plan will give you a greater chance of successfully reversing the decision made by the IRS to classify your business as a hobby.
3. Take Steps to Legitimize Your Business
Another great way to show the IRS that you have a business and not a hobby is to take steps to legitimize your business activities. Some of these steps can include building a website or setting up a separate bank account for all business revenue.
Your CPA can help you determine whether you should register your business as an LLC or corporation and take the steps required to complete the registration process. Legitimizing your business shows the IRS that it's more than a mere hobby.
Contact a firm like John M Vlasac & Company for more information.