Business or Hobby?

The best sources of ideas for businesses comes from your experiences and interests. Many great businesses have been built out of hobbies and other passions. Often these businesses start very small, as what some call “lifestyle” businesses that eventually create a little income. Over time, the entrepreneur is able to transition from a few evenings and weekends to a full-time business.
But now our friends at the IRS are throwing a kink in this cool way to become economically independent. From StartupJournal:

The Internal Revenue Service is stepping up efforts to prevent taxpayers from deducting losses on activities that aren’t genuine businesses run to make a profit. The problem: It’s not so easy to tell a budding business from a hobby.
Officials say new research shows taxpayer errors in this area are costing the government billions of dollars a year in unpaid taxes. Thus, auditors are “on the lookout” for people trying to deduct losses from hobbies, an IRS spokesman says. To underscore the agency’s concern, the IRS recently issued a fact sheet the spokesman says is aimed at “making sure that taxpayers know and abide by the rules.”

Sure…. We should all expect some poor person turning their craft or hobby into a business to know the over 60,000 pages of “rules” that are the IRS code.
The story goes on to illustrates this point:

But how are you supposed to figure out whether your activity qualifies as a genuine for-profit business? That can be exceptionally tricky. The IRS says you should consider several factors, such as: Does the time and effort put into the activity indicate you intend to make a profit? Do you and your advisers have the knowledge needed to carry on the activity as a successful business?
Another factor is whether you have made a profit in the past. The IRS says it “presumes” an activity is indeed carried on for profit if you have made a profit during at least three of the past five tax years, including the current year. (The rule is different — at least two of the past seven years — for activities that consist primarily of breeding, showing, training or racing horses.)

The IRS has some handy “tips” at their website and there is more information at WorldWideWeb Tax.
Since a part-time business rarely can afford strong outside tax advice, the key is to be cautions and realistic on how you approach your business and make sure to keep very good records. Don’t mix expenses and revenues that may create red flags. And keep good records, including a separate checking account for your fledgling business venture.