Hobby vs Business: The IRS Perspective
If you are running a sole proprietorship and experiencing losses, you might be unknowingly setting yourself up for a rendezvous with the IRS. And trust me, it’s not as exciting as it sounds. The IRS might reject those deductions, classifying your business as a hobby rather than a legitimate deductible business expense.
The distinction between a hobby and a business is crucial because it has tax implications. The Internal Revenue Service (IRS) applies different rules to hobbies and businesses when it comes to deductions and reporting income.
What Defines a Hobby?
A hobby, according to the IRS, is an activity you engage in primarily for pleasure, relaxation, or enjoyment rather than for profit. If you run your campground as a hobby, you can only deduct expenses up to the amount of income you generate from the hobby. This means if your campground generates $5000 in a year and costs you $7000 to operate, you can only deduct $5000 of those expenses.
What Defines a Business?
In contrast, a business is an activity you engage in with the intent to make a profit. The IRS considers factors like whether you carry on the activity in a business-like manner, whether the time and effort you put into the activity indicate an intention to make a profit, and whether you depend on income from the activity for your livelihood.
If your campground is classified as a business, you can deduct all “ordinary and necessary” business expenses, even if they exceed your income. This allows you to offset the losses against other income sources.
Decoding the IRS Checklist
Wait, what? Yes, you read that right. In the eyes of the IRS, hobbies and businesses are as different as apples and oranges. Or campfires and tax audits, if you will.
How to Avoid Being Misclassified
To keep your business from being misclassified as a hobby, make sure to maintain a clear profit motive, comprehensive records, a well-defined business plan, involve experts, and consistently dedicate time and effort.
These guidelines aren’t rigid requirements, but they’re a good framework to follow. After all, when it comes to dealing with the IRS, it’s always better to be safe than sorry.
So, dear campground owners, let’s breathe life into our businesses and avoid the hobby trap. Let’s press play on our bigger ideas and never miss an opportunity for growth. Because, remember, owning a campground is not just about the business, it’s about the experience, exploration, and understanding. And together, we can make it an adventure worth investing in.
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Donna Bordeaux, CPA with Campground Accounting
Creativity and CPAs don’t generally go together. Most people think of CPAs as nerdy accountants who can’t talk with people. Well, it’s time to break that stereotype. Lively, friendly, and knowledgeable can be a part of your relationship with your CPA, as demonstrated by Donna and Chad Bordeaux. They have over 50 years of combined experience as entrepreneurial CPAs. They’ve owned businesses and helped business owners exceed their wildest dreams. They have been able to help businesses earn many times more profit than the average business in the same industry and are passionate about helping industries that help families build great memories.