Mike Harris is the proud owner of a deep-sea fishing boat. Although fishing for tuna and swordfish isn’t his primary line of work, he takes the “Mariner’s Mermaid” out most weekends and often sells his catch. Although Mike considers fishing a sidelineoccupation, the Internal Revenue Service (IRS) may or may not agree with him. What Mike considers a bona fide business, the IRS may judge a hobby.
What difference does it make? To the IRS—plenty. This is because tax rules for writing off expenses and losses differ, depending on whether the activity is a business or a hobby. If Mike is engaged in a business (for profit), and the IRS agrees, Mike can use any business loss (business expenses in excess of business income) to offset his income from other sources, such as wages, interest, dividends, and capital gains.
On the other hand, if Mike’s fishing excursions are deemed a hobby (not for profit), he can’t report a loss from the activity, and he can only deduct related expenses if he itemizes deductions. Moreover, these expenses are characterized as miscellaneous deductions subject to the 2% of adjusted gross income (AGI) limitation.
How does Mike know whether he’s engaged in a hobby or a business? In many cases, there may be a fine line between the two. To help make the distinction, the IRS provides a number of guidelines:
circumstances (which would be likely if he’s a full-time computer consultant,
rather than a commercial fisherman), he may have a more difficult time proving
it’s a business.
So, hobby or business? These IRS guidelines can help Mike classify his fishing trips. Since tax regulations are more favorable for businesses than for hobbies, the burden of proof is on Mike to convince the tax authorities that when he leaves port, he’s on a business trip.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
The information provided is not intended to be a substitute for specific individualized tax planning or legal advice. We suggest that you consult with a qualified tax or legal advisor.
LPL Financial Representatives offer access to Trust Services through The Private Trust Company N.A., an affiliate of LPL Financial.
This article was prepared by Liberty Publishing.
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