The IRS defines a hobby as an activity that you pursue without expecting to make a
taxable profit - such as coin or stamp collecting, as opposed to setting up your own dealership. The
IRS assumes you're trying to make a taxable profit if you actually made money in at least three
tax years of
the past five tax years, including the current tax year. For horse breeding, racing, training, or
showing the test is taxable profits in two (2) tax years of seven (7) consecutive
tax years. However, regardless
of whether or not you meet the above taxable profit tests, the IRS may still try to rebut the presumption
and disallow your tax deductions on your tax return.
If, in the early tax years,
the IRS tries to disallow your
tax loss on your tax return you may make a tax election on Form 5213
to
postpone the determination of whether the above tax tests apply. You must make the
tax election and file the form within three (3) tax years of the due date of the first
tax return for
the activity. The postponement is until the end of the fourth tax year (sixth
tax year for horses)
following the first tax year of the activity. By filing the form you agree to waive all
statute of limitations issues for that activity. You can file Form 5213 within sixty (60) days after
receiving a tax notice from the IRS disallowing your tax deductions on your tax return so long as you are still
within the three (3) tax years described above.
If you lose money pursuing a hobby, you cannot deduct your
hobby loss from your other
income on your tax return, but you can deduct your expenses up to the amount of your hobby
income on your tax return. A hobby loss is
a miscellaneous tax deduction on your tax return, though, and limited by the 2% of AGI threshold.
A profitable sale of your hobby collection, such as stamps or coins, is taxable as a
capital gain on your tax return. A loss upon the sale is not tax
deductible on your tax return.
