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Hobby Losses

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This entry was posted on 5/3/2007 12:29 PM and is filed under uncategorized.

From the IRS: "The Internal Revenue Service reminds taxpayers to follow appropriate guidelines when determining whether an activity is a business or a hobby, an activity not engaged in for profit...

In order to make this determination, taxpayers should consider the following factors:
  • Does the time and effort put into the activity indicate an intention to make a profit?
  • Does the taxpayer depend on income from the activity?
  • If there are losses, are they due to circumstances beyond the taxpayer's control or did they occur in the start-up phase of the business?
  • Has the taxpayer changed methods of operation to improve profitability?
  • Does the taxpayer or his/her advisers have the knowledge needed to carry on the activity as a successful business?
  • Has the taxpayer made a profit in similar activities in the past?
  • Does the activity make a profit in some years?
  • Can the taxpayer expect to make a profit in the future from the appreciation of assets used in the activity?"  Hobby  

The rules might apply to hobbies such as: Amateur auto racing, and horse operations,  but each situation has its own characteristics.

 

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    • 5/16/2007 9:12 PM jonathan wrote:
      Hey David:
      I have a tax question for you. In January of 2004 I moved out to NYC from Colorado and could not take my car with me. I signed over the title to a friend and in return I had her sign a contract stating that she would owe me $4300 to be paid in $100 monthly increments until paid off. It also stated that if she failed to pay off the loan she would have to sign the title back over to me. Needless to say, I never heard from her again and have given up attempts to track her down. I was wondering if I can write off either the car or the owed debt. What are your thoughts? Thanks! Jonathan.
      Reply to this
      1. 5/17/2007 12:44 PM David Greenslit CPA wrote:
        It's my opinion that you do have a nonbusiness bad debt, and you can write it off on schedule D as a short term capital loss. You are required to write it off in the year it becomes totally worthless. The tax year 2004 is still open, so you could amend that year (if it was the year it became totally worthless) to show the loss and if the capital loss carry forward rules apply to your situation, you might want to amend the following year's return as well. It is true that the phrase, "totally worthless" is a subjective one, so you are going to have to use your best judgment when deciding when that was? Another consideration is that, this loss should flow through to your state return and give your a benefit there as well. A more complicated version of this situation is when the debt is owed by a family member, or former significant other. The IRS has a good page on the general situation: Bad Debt

        I like Jonathan use the Internet to research tax questions. When I am going to rely on what someone else has written, I copy and paste the text of the article into a Word document and print it out. The tip here, is to also copy and paste the web address of what I am printing onto the Word document, so I have that. It also is going to help to have three or more sources supporting your position. My entries to this blog can be printed out by first clicking on the MORE >> icon, and then the little printer icon.
        Reply to this
    • 11/20/2007 4:53 PM Rosalind Siegrist wrote:
      This past year my husband has traded numerous stocks as a hobby thruogh a website called Think or Swim. He started out with $20,000 and is down to less than $2,000.00. Our these losses tax deductible? He has never taken any money out of the account.
      Reply to this
      1. 11/21/2007 2:23 PM David Greenslit CPA wrote:
        The losses are deductible subject to limits and/or an interpretation. The general rule is that you can deduct $3,000 per year of the losses, with the remaining losses being carried forward to following years until they are used up. If in a future year, you have capital gains of say $5,000, the loss carry forward would offset all of the $5,000, plus an additional $3,000.

        I more risky position it to claim that this is a stock trading business. In that case, all of the loss would be deductible on schedule C in the current year. The IRS of course looks dimly upon this position, but some situations allow it in my opinion. Guidance here can be found by looking at the hobby loss rules, however, those rules by themselves are not definitive. My experience is that it is very rare to take this business loss position.

        One practical argument against this approach is that when you do have a business that trades stocks, you give up the favorable capital gains tax rates, and you also would be liable for Self Employment taxes in years that you make money. An argument in favor of it is the ability to take a direct deduction for your expenses such as subscription costs versus having to report them on schedule A.

        The safe conservative things to do is claim these losses on schedule D and carry forward the excess. While we wish that accounting was always black and white, it isn't in this case.

        Reply to this
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