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even if you charge $$ it's a hobby

post #1 of 80
Thread Starter 

i know many of us believe if we get/charge one red cent it's a business

 

while we all are of course entitled to our own opinions i really think that one can charge for cake supplies and not be running a business according to the irs:

 

Quote:

Generally, an activity qualifies as a business if it is carried on with the reasonable expectation of earning a 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?
no we're just nuts--hobbyists like to do this--make beautiful tasty edible creations
 
  • Does the taxpayer depend on income from the activity?
hobbyists would all starve to death if they did
 
  • 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?
are you kidding?
 
  • Does the activity make a profit in some years?
not a chance in the very hot place
 
  • Can the taxpayer expect to make a profit in the future from the appreciation of assets used in the activity?
gently used cake toys and slightly dented pans--i don't think so
 

The IRS presumes that an activity is carried on for profit if it makes a profit during at least three of the last five tax years, including the current year — at least two of the last seven years for activities that consist primarily of breeding, showing, training or racing horses.

 

i remember being told on here something to the effect that generating any income at all is a business--rahr

 

but this says p.r.o.f.i.t--and profit is of course what's leftover after expenses--if all we take in is ingredient/material expenses we cannot possibly make a profit thus i think it says we are hobbyists

 

and i truly truly ishtabooli do not believe it constitutes a business

 

if a caker in the u.s. has no reasonable intention of making a profit and so many of us operate this way then yes we are engaging in a hobby

 

and there are some of us who intend to make a profit but we never will --those might be closet hobbyists :)

 

not trying to start a rip snorting debate--just putting this view out there from the irs

one baker's 'never ever do' is the next baker's 'i swear by this'
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one baker's 'never ever do' is the next baker's 'i swear by this'
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post #2 of 80

No one can argue with the IRS!!! Thanks for the information!!

post #3 of 80

Those IRS questions go to the deductibility of expenses and whether you have a hobby or a business, but even if you have a hobby and not a business, hobby income is taxable.  And state licensing requirements, if any, still apply as to whether you can legally accept money for cakes.  


Edited by VanillaSky - 2/26/13 at 4:08pm
post #4 of 80

This thread is just downright amusing! K8Memphis, you're right on!

 

Note that if you itemize on your tax return and you meet the 2% floor, you can deduct some of your hobby expenses...For example, for simplicity's sake, say you gross $1,000 for the year (aggregate sales price of all cakes "sold") and you spent $3,000 on ingredients, pans, cookie cutters, storage boxes, decorating books, Craftsy classes, etc. you have to report the $1,000 as income. Now, say your AGI is $100,000. 2.5% would be 2,500. SO, you can deduct expenses in excess of that amount, which would be $3,000-$2,500=$500 deductible. BUT that's only if you itemize...all the people out there who simply take the standard deduction are out of luck!

 

Now, isn't that a hoot?! icon_biggrin.gif

 

post #5 of 80

I'm not offering any legal advice to anyone, but seriously ya'all, if you think less then 500 words copied and pasted from a tax website accurately sums up what is and is not a legal business and there is no other information required OR any other governing authorities that may have different rules and opinions, then we'd never need CPA's.  icon_biggrin.gif

 

I appreciate your original post, K8, but I fear you are beating a hornet's nest here.

post #6 of 80
Quote:
Originally Posted by VanillaSky View Post

Those IRS questions go to the deductibility of expenses and whether you have a hobby or a business, but even if you have a hobby and not a business, hobby income is taxable.  And state licensing requirements, if any, still apply as to whether you can legally accept money for cakes.  

As do health department and food laws.

Beginners, be sure to parrot advice and get your post count up as fast as you can. After all, it's not what you know, it's what people THINK you know.
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Beginners, be sure to parrot advice and get your post count up as fast as you can. After all, it's not what you know, it's what people THINK you know.
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post #7 of 80

I'm working on my master's in accounting with an emphasis in taxation, so I have studied this extensively (far more than I have wanted to!). K8 is right. I'm not here to say everyone baking cakes has a hobby issue on their hands, but it is true that more goes in to determining whether selling cakes is a "business" or "hobby" as defined by the IRS.

 

 

Again, a lot of different factors have to be considered. And different CPAs will interpret the law differently. What I posted earlier is based on my strict interpretation of the laws. There are a lot of court cases out there that deal with this topic precisely.


Edited by texascakebaker - 2/26/13 at 5:41pm
post #8 of 80
Thread Starter 
one baker's 'never ever do' is the next baker's 'i swear by this'
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one baker's 'never ever do' is the next baker's 'i swear by this'
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post #9 of 80
The IRS's definition of a business vs. a hobby is for a very specific purpose: to make sure most business deductions that offset other income are the result of for-profit activity and not personal activity (e.g. a hobby). It is in fact more beneficial for the IRS to consider you a business than a hobby, which is the opposite of every other food safety and licensing dept (where a business can mean required inspections and additional fees).

If you have a fully licensed and inspected bakery it still is possible to be considered a hobby by the IRS if you post losses year after year and do not work to improve profitability (this would not be a good thing). If you bake from home, do not have a license or comply with local food safety laws, and only sell food for friends and family as a "hobby" it is also possible to be considered a business by the IRS, which is actually to your benefit.

The issue most often discussed on this forum is one of microeconomics...if you are advertising products for sale to the general public (even if that advertisement is just a web site or FB page), you are running a business, and you have a duty to at least have a general idea what market values are and price accordingly. This has absolutely nothing to do with how the IRS allows you to apply deductions to offset other income.

If you don't want to run a business, take down your web site and business FB page, do not mention that you sell cakes outside of your circle of family and friends, and do not accept orders from people outside your circle.
post #10 of 80
Quote:
Originally Posted by texascakebaker View Post

Note that if you itemize on your tax return and you meet the 2% floor, you can deduct some of your hobby expenses...For example, for simplicity's sake, say you gross $1,000 for the year (aggregate sales price of all cakes "sold") and you spent $3,000 on ingredients, pans, cookie cutters, storage boxes, decorating books, Craftsy classes, etc. you have to report the $1,000 as income. Now, say your AGI is $100,000. 2.5% would be 2,500. SO, you can deduct expenses in excess of that amount, which would be $3,000-$2,500=$500 deductible. BUT that's only if you itemize...all the people out there who simply take the standard deduction are out of luck!

I believe you are only allowed to deduct hobby expenses (subject to the 2% floor) up to your hobby income. So in your example, since your hobby grossed $1000, you would only be able to deduct $1000 in hobby expenses. However, if you had no other misc expenses under Schedule A you would not reach the 2% AGI floor (assuming $100K AGI) and would not be able to deduct any hobby expenses, which means you would owe income tax on all of your hobby income.

http://www.nolo.com/legal-encyclopedia/can-you-deduct-your-expenses-from-hobby.html

Now if you were a business in the eyes of the IRS, you would be able to deduct the entire $3K (assuming valid business expenses of course). Not only would you not have to pay tax on your $1K cake income, but $2K of income from other sources would be tax-free as well.
post #11 of 80

Jason, yes, I got the limitations a little mixed up in the previous post. I think I have it straight now.thumbs_up.gif Somebody jump out there and correct me if it looks fishy!

 

Assuming your activity is a hobby, you can only deduct hobby losses to the extent of hobby income (i.e. no net hobby losses, which is the point of the provision). 

 

Essentially, there are three potential limitations to hobby loss deductions applied in the following order. Get ready...cowboy.gif

 

Going back to the previous example and assuming it's a hobby...1,000 gross income on hobby cakes; 3,000 expenses on hobby cakes; 100,000 AGI

 

Test 1: The first number for "potentially deductible hobby losses" is the same amount of your gross income. That is, you cannot use an expense number larger than the gross sales number. So, 1000 of income; 1000 of expenses (Note: tossed by the wayside: 2,000 in expenses that will never see the light of deduction day...icon_eek.gif)

 

Test 2: I misspoke above...it is the 2% AGI test, not the 2.5% test. (Ignore the previous numbers as well ...my humble apologies. The numbers and order of applying the limitations were mixed up) ...So, since $1,000 of expenses fails to meets the 2% AGI test, none of the hobby losses are deductible. End Result: Report 1,000 as hobby income and zero expenses will offset...icon_cry.gif

 

Example Tweaked: 10,000 of hobby income, 10,000 of expenses. still 100,000 AGI. In test 2...10,000 of expenses exceeds the 2% floor, so 8,000 would be a miscellaneous itemized deduction....but that is subject to yet one more limitation...

 

 

Test 3:

 

Now, even if you meet those 2 tests, you still must itemize to get the benefit. In other words, if that 8,000 was the only itemized deduction you had, you would be better off to take the standard deduction, which in 2012 is $11,900 for married filers, that is assuming you are married...(comic relief in the midst of mumbo jumbo). (Other itemized deductions to lump with the hobby losses are property taxes, mortgage interest, etc.) Assuming you don't itemize, end result: 10,000 hobby income, ZERO expenses...sigh...

 

 Assuming you had other itemized deductions that would cause you to itemize, you would get to deduct $8,000 of hobby losses while also still showing 10,000 of hobby income.

 

 

Again, there are many factors to consider here--the most obvious being "are you continually reporting losses" and are you (in the IRS' eyes) "irrationally" continuing to do this "business" because you think "someday, somewhere over the rainbow" consumers will pay what the cakes are worth and allow you to turn a legitimate business profit that leads to a black bottom line. (Note: Start-up costs are a whole separate deal.)

 

In general, if your activity is posting losses as a business for a number of years, the IRS may argue that you are not engaged in an activity for profit and must report all gross income as hobby income; in most cases, you won't get the benefit of the hobby losses due to the three tests/limitations described above. In no case, however, will you be able to deduct a net hobby loss as you would a net business loss.

 

In my limited, and I emphasize limited, research related to how advertising affects this, it seems to just be one of many factors considered. If you have any questions, you need to take your specific situation to a C.P.A. who can look at your gross numbers, expenses, length of time doing this, and your overall situation (do you have a day job, how much time do you spend 'caking' etc.) to determine if the activity should be classified as a hobby.

 

None of this is intending to be professional advice; it's just food for thought from a bean counter that is just trying to survive grad school! It is information to help you to engage your CPA to make the correct legal determination for your situation. Please be proactive. Once you sign the return, you are validating the information and stance contained therein.

post #12 of 80

I don't know much about the laws, but even if the IRS doesn't care, doesn't the Department of Ag?  It is a food item, not jewelry or something.  It could be hazardous.  And yes, I know people say "I keep my kitchen cleaner than any restaurant".  True as that may be, they have a legal license to sell food and insurance to stand on if something goes wrong. 

I homeschool because I've seen the village and I don't want it raising my children.

 

http://whynotethiopia2.blogspot.com/

 

 

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I homeschool because I've seen the village and I don't want it raising my children.

 

http://whynotethiopia2.blogspot.com/

 

 

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post #13 of 80

We have the exact same discussion at this moment in the Netherlands. We have similar regulations on what our taxauthorities define business vs hobby.

 

I personally believe that when you start to bake for complete strangers, and you bake more than 2 or 3 cakes per month and you profile yourself with a website and/or business FB page, the general public will perceive you as a business. When that happens you transcend from a hobby to a business, no matter what you tell yourself to justify your choices.

post #14 of 80
Thread Starter 

all i'm saying is that the irs does allow for hobbyists in this quote

 

that the irs recognizes that a hobbyist does at times exchange money for product and therefore not illegally transacted

 

no debate no deductions no hornet's here just a tidbit of info on an isolated narrow distinction clearly stated in post #1

 

that imo in some cases hobbyists can receive money and it not be a business according to the irs quote

 

it's no problem if you interpret differently--no worries

 

peace out

 

one baker's 'never ever do' is the next baker's 'i swear by this'
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one baker's 'never ever do' is the next baker's 'i swear by this'
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post #15 of 80
Quote:
Originally Posted by -K8memphis View Post

that the irs recognizes that a hobbyist does at times exchange money for product and therefore not illegally transacted
Whether or not the transaction is legal is irrelevant according to the IRS. In fact there is a line on Form 1040 specifically for reporting income from illegal activities, including bribes, drug dealing, and stolen property (reported as fair market value in the year you steal it).

The IRS's treatment of hobby income is so disadvantageous, if you have any significant income from a hobby you are usually better off making it into a business.
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