Wednesday, October 8, 2008

Fishing for Birdies and Paying Tax

So it's the weekend and you are ready for your favorite leisure activities to replace the hectic work week chores. You can't decide should I play golf, go fishing, work in the garden, or maybe stay inside and organize my favorite stamp collection. While you are deciding what activities are going to fill your weekend you may want to consider how much tax you may be required to pay on them.

What am I talking about? There are activities that some taxpayers pursue (typically more than a leisurely level) that can be considered a business. Golfing, fishing, gardening, sewing, woodworking, coin collecting, stamp collecting, and scrap-booking are just a few of the activities that the IRS could potentially tax as a business if there is a profit created from the participation in these activities. A hobby is an activity that is not pursued for profit. A business is an activity generally carried on with the reasonable expectation of earning a profit.

So how do you know if you need to consider these kinds of activities as a business income instead of a hobby? Here are some simple guidelines to answer that very question:

  • Does the time and effort put in to such an activity indicate an intention to make a profit?
  • Do you depend on income from the activity?
  • Have you changed methods of operation to improve profitability?
  • Do you have the knowledge to carry out the activity as a successful business?
  • Did you make a profit through similar activities in past years?
  • Does the activity make a profit in some years?
  • Do you anticipate making a profit in the future due to the appreciation of assets used for the activity?

Generally, the activity in considered a business if it has produced a profit in three of the last five years including the most recent year. Deductions for both business and hobby income are allowed but you must first determine whether your income is from a business or a hobby in order to follow the correct procedures for taking these deductions.

The IRS is not out to spoil your fun, but if these activities produce a profit every year or so you may want to determine whether or not you are required to pay taxes on that money. Don't find yourself behind the "eight-ball" with the IRS who may tell you you owe them taxes on your unreported income. This can become a mess and hard to provide proper documentation leaving you with an unexpected tax liability.

No comments: