Have a Tax Question? Ask a Tax Expert
That is not exactly correct.
As long as you are in the business - all losses are deducted against your other taxable income regardless of how many years you had losses.
However - the IRS may question if that is a business activity - your activity is considered a business if it is carried on with the reasonable expectation of earning a profit.
An activity is presumed carried on for profit if it makes a profit in at least three of the last five tax years, including the current year (or at least two of the last seven years for activities that consist primarily of breeding, showing, training or racing horses).
If your activity is not carried on for profit, allowable deductions cannot exceed the gross receipts for the activity.
If you are not sure whether you are running a business or simply enjoying a hobby, here are some of the factors you should consider:
So the main question would be if that is a business or hobby activity. Hobbies, also called not-for-profit activities, are those activities that are not pursued for profit.
Dear Sir or Madam,
When you say "
If your activity is not carried on for profit, allowable deductions cannot exceed the gross receipts for the activity. Does this mean I cannot take advantage of the tax deductions for 2008. I can carry on for the year 2009 and then we will see what happens.?
Thank you Cindy Lynn
The main issue is to classify your activity as a business or as a hobby.
As your expectation is hard to determine - the IRS is using a simple test - an activity is presumed carried on for profit if it makes a profit in at least three of the last five tax years. If you reported losses two or three consequences years - the IRS might disagree to classify the activity as a business unless you would provide other supporting evidences.
Please be aware that is the IRS disagrees - you likely will be disallowed deduction from the beginning of the activity.
If you simply carry the same activity under different business name - that might be considered as tax evasion - and would not help you.
If your intension is eventually to make a profit - you need to provide evidences about the reasonable expectation of earning a profit.
Sir or Madam,
What would be an" example of evidence to the IRS to turn my hobby into a business". I have rented space at $1400.00 per month my Internet and office phone comes to $125.00 a month and my Sprint bill is $250.00 a month and inventory is $5000.00, and miscellaneous expenses $1500.00. What amount would be factored in to show profit. This is to indicate how serious I am to keep the business, knowing one day I will have a break through.
"wanting to turn this into a business" - means that you are running the activity as a hobby and thinking to turn it into the business some time later - that is not a position to deduct business losses.
To deduct business losses - the activity should be carried on with the carried on with the reasonable expectation of earning a profit.
A hobby is an activity that is not pursued for profit. If - for instance - you have a profit - you had better have a profit from a hobby - because it is not subject of self-employment tax.
You profit motive should be very clear when the activity is started.
1. assuming you wrote a book - you spent three years working on the text and on more year trying to publish it - that sounds as you had a profit motive and have the reasonable expectation of earning a profit.
2. you are running a "manufacturing plant" in your spare room - you spent two years working on your invention - got a patent protection - and are selling a product - but so far was not very successful and three years on the row had losses - while it is hard to predict - that also sounds as you had a profit motive and have the reasonable expectation of earning a profit.