Is It a Business or a Hobby?

Why it matters

If a side activity is a business, you report it on Schedule C (or a partnership or corporate return), deduct ordinary and necessary expenses, and can use a loss to offset wages or other income. If it’s a hobby, all of the income is taxable, but none of the expenses are deductible. Before 2018, hobby expenses were a miscellaneous itemized deduction; the Tax Cuts and Jobs Act suspended that deduction, and the 2025 tax law made the change permanent.

So a hobby that earns $5,000 and costs $7,000 produces $5,000 of taxable income, not a $2,000 loss.

The profit presumption

An activity is presumed to be engaged in for profit if it shows a profit in three of the last five years. For breeding, training, showing, or racing horses, it’s two of seven years. The IRS can still challenge the activity, but the burden shifts to them. A new activity can file Form 5213 to postpone the determination until the fifth (or seventh) year, though doing so keeps the early years open for audit.

The nine factors

When the presumption doesn’t apply, the IRS and the courts weigh these factors. No single one decides the case.

1. Whether you carry on the activity in a businesslike manner: separate bank account, complete records, and changes in operations to improve profitability
2. Your expertise, or the advisers you consult
3. The time and effort you put in
4. Whether assets used in the activity are expected to increase in value
5. Your success in other business ventures
6. Your history of income or losses in the activity
7. The amount of occasional profits, if any
8. Your financial status: large losses offsetting large other income draw attention
9. Elements of personal pleasure or recreation

Enjoying the work doesn’t make it a hobby. What matters is whether you’re genuinely trying to make money.

Common activities that get a closer look

• Horse and livestock operations
• Small farms and greenhouses
• Photography, art, music, and writing
• Crafts and online sales
• Fishing and hunting guide services, and other sports-related activities

How to strengthen your position

• Keep a separate bank account and card for the activity.
• Keep records as a business would: income, expenses, mileage, and inventory.
• Write a short business plan with realistic profit targets, and update it.
• Document changes you make when something isn’t working, such as new pricing, marketing, or products.
• Get any licenses, permits, or sales tax accounts the activity requires. In Colorado, that often includes a sales tax license.

Reporting hobby income

Hobby income is reported as “other income” on Schedule 1 of Form 1040. It isn’t subject to self-employment tax. If you sell items you already own for less than you paid (such as used household goods), that generally isn’t hobby income at all. Keep records showing what you originally paid.

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