You’ve heard the expression, “Do what you love and you’ll never work a day in your life.” What happens when what you love to do becomes your work? Many people have seen their side-hustles grow into a serious income stream. But what about those hobbies or activities that don’t bring in the big bucks? In many cases, the income generated by a hobby, as opposed to a business, can be a gray area with the IRS. Below are four things to consider when your side hustle or hobby starts generating income.
1. Does the IRS consider your side hustle a hobby or business?
Per the IRS, a hobby is any activity that a person pursues for enjoyment, with no intention of making a profit. That definition is intended to oppose a business, which does operate with the goal of earning a profit. This definition still leaves a lot of questions and uncertainty for taxpayers—especially those who run a side hustle. The IRS provides the following nine factors that may indicate your hobby has become a business:
- You carry on the activity in a businesslike manner and maintain complete and accurate books and records.
- You have personal motives in carrying on the activity.
- The time and effort you put into the activity indicate you intend to make it profitable.
- You depend on income from the activity for your livelihood.
- Your losses are due to circumstances beyond your control (or are normal in the startup phase of your type of business).
- You or your advisors have the knowledge needed to carry on the activity as a successful business.
- You were successful in making a profit in similar activities in the past.
- The activity makes a profit in some years (the amount of profit will also pay a role).
- You expect to make a future profit from the appreciation of the assets used in the activity.
We recommend consulting with an experienced CPA to help properly classify your income. There are tax advantages for both hobby income and business income that can be taken advantage of with proper tax planning.
2. Profiting from your hobby or side hustle
If you are making a profit from your hobby, then you must report this income on your tax return, regardless of the amount. The income should be reported on Schedule 1, Form 1040, line 21. Because the income is a result of a hobby, rather than a small business, you won’t be responsible for paying self-employment taxes. However, you should be certain that you meet the requirements for hobby income before claiming hobby status. If you find yourself looking for ways to generate more profit from your hobby, or depending on the income to pay your bills, it might be time to reconsider the way you’re classifying that income. These are common indicators that the IRS will define your activities as a business, thereby subjecting your income to self-employment tax.
3. Form 1099-K reporting requirements for money earned online
Online marketplaces have exploded in popularity, and the result is that millions of Americans regularly generate income online from platforms like Etsy, Airbnb, eBay, Amazon, and countless others. While the bulk of those activities fall under business income, there is also a significant subset of people who consider their online sales to be part of a hobby. You have always been responsible for reporting said income on your tax return; soon, the platforms will face requirements to send 1099 forms for a much lower threshold of sales. In previous years, taxpayers received form 1099-K only if their online sales were greater than $20,000 AND they had more than 200 transactions. Beginning in tax year 2024, taxpayers who generate $600 or more in online sales through platforms such as eBay, Airbnb, Etsy, VRBO, and Uber will receive Form 1099-K—regardless of whether the income is classified as a business or a hobby. These 1099 forms enable the IRS to better track the movement of funds. If you project that your hobby income will trigger a 1099, it’s even more important to ensure you’re meeting the hobby requirements and reporting all income properly.
Update: The IRS plans a phased-in approach for the $600 reporting threshold, with a $5,000 threshold anticipated for calendar year 2024.
4. Deductions for hobby expenses
Side hustle and hobby activities often incur expenses. These can range from costs to purchase materials, tools, or ingredients to registration fees, space rentals, home office lessons or training, and much more. The IRS allows deductions within certain limits. Taxpayers can deduct “ordinary and necessary hobby expenses.” However, the amount of deducted expenses is limited to the amount of the hobby income. If expenses exceed hobby income, incurring a loss, the loss can’t be deducted from other income. In order to deduct hobby expenses, taxpayers must itemize deductions on their tax returns.
Download our free comprehensive guide to small business tax deductions here!
Our best advice to taxpayers who believe that they have hobby income, as well as anyone running a profitable side hustle, is to consult with a tax specialist. Not only will this ensure you remain in compliance with rules related to hobbies, but also that you are receiving those most tax-advantageous deductions and optimal planning. Our CPA team based in Jacksonville, Florida has decades of experience working with individuals generating hobby income, as well as those that have turned their passion into a business. We welcome you to contact us for assistance in income clarification and tax planning options.