Correct Classification of Hobby Activities Critical For Accurate Registered Tax Return Preparer Job

December 22, 2011 by  Filed under: Taxes 

An issue that appears constantly on the radar of a tax preparation business is income from hobbies. Individuals earn money from a variety of activities in which the primary objective is pleasure. Many are surprised to learn that payments they receive are taxable income. The final tax impact depends upon some factors that are best determined as a registered tax return preparer job.

The distinction between hobby and business is important. Defining a hobby as a sideline business usually has tax advantages. Therefore, tax return preparer work necessitates identification of activities that qualify as businesses. Sometimes, former hobbies are taken to a new level that elevates them to business status. Basically, the IRS considers any activity a hobby if it is not pursued for profit.

Only a business can deduct expenses that create a tax loss. This is founded on the concept that certain expenses are necessary to build future profitability of an enterprise. A business can deduct all ordinary and necessary expenses. In the tax preparation process for hobbyists, the expenses are deductible only to the amount of hobby income. Hobby losses never occur for tax purposes.

Hobby expenses are not deducted first before reporting the hobby income. Rather, all money received from a hobby is reported as other income. Hobby expenses are only deductible as a miscellaneous itemized deduction. Consequently, taxpayers without enough total deductions to itemize – from any category – incur no additional deduction for hobby expenses. Creating a further hurdle is that only the part of miscellaneous itemized deductions exceeding two percent of adjusted gross income is deductible.

When a hobby generates recurring income, taxpayers should endeavor to report the activity as a business in order to encounter a lower tax effect. A tax preparation guide for these situations identifies the IRS assumption that an activity is a business if it has a profit in at least three of the preceding five years.

The IRS also claims that it will apply subjective measures to determining if someone has expectation of profit from an activity. But, this is a last resort deployed only when the activity cannot pass the profit test. Therefore, an RTRP must tread carefully in this process.

The tricky part of IRS rules in registered tax return preparer study about hobbies entails the factors related to profit expectation. Among the subjective considerations for a business are the amount of time devoted to the activity, whether the individual relies upon the income, and the causes for expenses that create a loss.

IRS Circular 230 Disclosure

Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.

Fast Forward Academy is a leading publisher of education for tax preparation business and tax professionals. Access to free questions for the registered tax return preparer job is available on their website.

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