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Anne, Master Tax Preparer
Category: Tax
Satisfied Customers: 2429
Experience:  Enrolled Agent with 25 Years Experience specializing Individual and Small Businesses
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I have a fitness center filing income losses for several years.

Resolved Question:

I have a fitness center filing income losses for several years. I am a doctor running a clinic at the same location. IRS asked me to provide the proof that I am actively involved in the fitness business in order to file any active business loss. I have to provide my involvement of 500 hrs a year. Otherwise the loss should be a passive loss, and I have to pay back taxes. Of course
I am actively managing the fitness center, and I am there checking/trouble shootng/paying bills,etc. How should I deal with this situation?
Submitted: 7 years ago.
Category: Tax
Expert:  Anne replied 7 years ago.
HICustomerbr />
Thank you for using justanswer. According to the IRS, there must be an intention to make a profit from an activity, otherwise IRS may rule is as a hobby (which is your current situation)

These are the criteria IRS lists as some of the deciding factors in determining whether you have a business or a hobby on their Business or Hobby? Answer Has Implications for Deductions

  • 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 advisors 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?
There are, of course, additional factors that may help you case, for example:

First, and foremost, you must TREAT this as a business. Do you advertise, have you set up a separate bank account so that you are not "comingling" the money from this venture with your personal income (a huge no no for IRS if you want them to view this activity as a business). Do you approach this activity with the same intention as you do your job a a physician. I don't meant with the same intensity, but when you see a patient, there is absolutely no way that your job as a physician could ever be considered a hobby, and I'm sure you would do whatever it took to grow your business since it is your main source of income.

To a certain extent, "intent" is an intangible thing, so just saying that your intention of running the fitness center was to make a profit usually isn't enough in and of itself to sway the IRS that this is a business after you have more than a few years of losses. If you want the IRS to view this activity as a business, you must treat it as one.

The IRS's request to prove your 500 hours of partcipation is truly only one piece of the puzzle, (and as you stated, difficult to prove) That alone should not be the sole criteria. If you were my client, I would craft a letter that inluded many (if not all) of the criteria listed in the IRS website that I mentioned above. Ex: My client has always intended to for this fitness center to be a business, and has taken every step to make it profitable.He spends sufficient time there every day to make sure that the equipment is in good working condition, checking on his patients and others that make use of this equipment to ensure they do so in a manner that is not detrimental to their health. He has avertised this fitness center in order to bring in enough clients to help make it profitable. ( Note: if you have never listed any advertising expenses on your tax return for this business, then unless you can prove that you listed it on something like Craig's space or other free advertising service, then you may not want to mention the advertising. The last thing you want to do at this point is mis lead the IRS.) If you had business cards made for the business, that would qualify as advertising also. I would then continue down their list, showing how I complied with their criteria and was treating this as a busines.

I hope this helps.
Anne and 2 other Tax Specialists are ready to help you
Customer: replied 7 years ago.

Thank you very much. Real good answer.

Personal tax audit was triggered by my itemized deduction of mrtg interest over 90,000.

My stupid CPA claimed 3 personal properties, and my mortgage debt was over 1.1 Million. He did'nt know the limit on 2nd mortg amount of 100,000 for personal use besides home improvement of another 100,000. I used my 2nd mortg to buy investment property (200K). What do I Do?

Expert:  Anne replied 7 years ago.
Hi again

If any of the mortgages are secured by the business itself, you may deduct the mortgage interest from the business return (I'm not sure if you file as a Sole Proprietor, LLC, etc) but if the business is what secures the loan, then you may deduct the mortgage interest on whatever type of business return you file. This would be the cleanest way, to have the business secure the loan.

While you are limited on your personal tax return Schedule A (Itemized deductions) to mortgage interest from 2 homes, you may still be able to deduct the excess mortgage interest that was not allowed on your Schedule A if it was used for the business. Please see below:

Mortgage proceeds used for business or investment.

Here is the link to the complete IRS pub

Publication 936 (2008), Home Mortgage Interest Deduction

I hope this helps
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