Is it a Business or a Hobby?

You made your first sale. You are understandably excited about it, this is the point that you are a legitimate business, right? Well, maybe. Not all activities that we do, even if we have been paid to do them, are considered an actual business. The IRS gives this distinction:

• Are you conducting the activity in a business like manner? This includes keeping complete and accurate records.
• Are you dedicating the time needed to show that you intend to make a profit?
• Is the income you make from the activity something you depend on for your livelihood? This means do you need this money to pay your bills?
• If you are operating at a loss, are your expenses normal start up costs?
• Do you change what you are doing to be more profitable?
• Do you have the knowledge required to operate a business of this type? Keep in mind that this doesn’t mean that you have to know how to do everything your business requires, you may get help with the things you aren’t skilled at. But I don’t have the skills required to run a motorcycle repair shop, so if I decide to start writing off expenses for motorcycle repair with the justification that it is my new business, it’s going to be suspicious.
• Have you made a profit doing similar activities in the past? Not a deal breaker, but if you have, it helps your argument. Sometimes you’re starting completely new, and that is still a legitimate business as long as you can answer the other questions affirmatively.
• Are you making a profit at all? The main thing to look for is the intent to make a profit. Some businesses aren’t going to show a profit right away. Make sure you can show the intent to make a profit. If you lose money year after year, ask yourself if this is strictly a tax write off. Real business ventures can’t stay afloat if they aren’t making a profit.
• Can you expect to make a future profit. Maybe you are building a new business and can afford to invest in the business without making a profit for a short time. But does your future expected income justify the investment you are making now? If not, it doesn’t make sense.

That being said, if you can answer yes to most of those questions you can consider your activity as a business. The most important factor is if you are conducting your activities as a business, keeping accurate records, saving receipts, and trying to make a profit, you are in fact running a legitimate business.