How Can I Determine if I Have a Hobby or a Business for Tax Purposes?

 Posted on July 01, 2026 in Taxation Law

There are many ways that people may make money. In addition to working for an employer or operating a business, a person may earn extra money through various types of activities. When doing so, they will need to understand whether they will be required to pay taxes on the money they earn or whether they can claim tax deductions for expenses or losses. Understanding whether activities may be classified as a business or a hobby is not always easy, but it is important to take the correct steps to address the potential tax issues that may arise.

When addressing issues related to taxes, a person should consider working with an attorney who has experience in tax law. A skilled lawyer can provide guidance on what taxes may apply to different activities, what deductions may be taken, and how to address tax audits or penalties that may be assessed by the IRS. By taking proactive steps to address these concerns, taxpayers can make sure they are complying with tax laws, and they can avoid financial problems that could affect them in the future.

Understanding the Difference Between Hobbies and Business Activities

Taxpayers are required to report all income they earn to the IRS. This includes income earned from hobbies. If a person receives payments through online payment processors, these payments may be reported on Form 1099-K. Payments received through digital assets such as cryptocurrency will be reported on Form 1099-DA. Income earned through hobbies must be reported on an annual tax return, and income taxes may apply. However self-employment taxes, which will typically apply when a person earns money through a business, will not apply to income earned through a hobby.

For some taxpayers, questions about whether expenses may be deducted from taxes may arise. In general, expenses related to hobbies or "activity not engaged in for profit" cannot be deducted, but if expenses qualify as business expenses, they may be deducted.

The IRS may evaluate several factors to determine whether activities may be classified as a hobby or a business. The questions asked in these cases may include:

• Does a person intend to make a profit, and if so, how much profit do they earn? Some people may earn money from a hobby, but they may primarily use this money to continue to fund the hobby rather than to earn a meaningful profit. For example, a person who enjoys arts and crafts may sell the items they make and use the money they earn to purchase materials or equipment. If the amount they make through these activities is not enough to be considered a business, their activities will likely be classified as a hobby.
• Has a person taken actions to improve the profitability of their activities? When a person engages in a hobby, they may focus on the enjoyment they get from certain activities rather than the profits they can earn. However, if a person has taken meaningful steps to cut down on expenses, increase sales, and improve the profits they earn, their activities may be classified as a business.
• Will a person be able to earn a profit in the future due to the appreciation of assets? The assets a person owns may increase in value in the future based on the activities they perform. For example, a person who spends time working on a classic car that they own may be able to sell the car for a profit in the future. In cases where a person puts effort into increasing the value of assets, resulting in significant profits, their activities may be considered a business rather than a hobby.
• Does a person depend on the income they earn to meet their ongoing needs? A person’s activities will be more likely to be considered a business if they use income they make through those activities to cover their ongoing living expenses.
• Does a person treat their activities like a business? Hobbies will often be treated casually, without very much separation between a person’s activities and their personal life and finances. However, if a person maintains records related to their activities, tracking their income and expenses, it is more likely that their activities will be considered a business.

These are just a few of the issues that may be considered when looking at whether the money a person has earned came from a hobby or a business. There is no single factor that will determine how activities may be classified, and the IRS may consider all circumstances related to the money a person makes, the ways they market goods, and the way they handle financial issues to determine how tax-related issues will be handled.

Contact our San Jose Tax Attorney

If you have concerns about whether activities you perform may be classified as a business or hobby, John D. Teter Law Offices can provide guidance as you deal with the IRS. Our San Jose, CA tax lawyer can assist with tax audits in which the IRS may attempt to impose taxes or penalties for activities that it has classified as a business. He can also help you understand what tax deductions may be available or what benefits you may receive by claiming that your activities should be considered a hobby or business. To get legal help with these issues, contact us at 408-866-1810 and arrange a consultation.