Tax Deductions Myths for Business 

1.  Just call it a business...

Your business activity may be classified as a hobby by the IRS regardless of what you call it. The difference is extremely important. Many businesses incur an operating loss during a tax year. This loss will offset income from other sources.  A loss from a hobby is not deductible and cannot offset other sources of income.

Now here’s the irony. The full amount of your income for your hobby is considered as gross income. If you choose to itemize your deductions on Schedule A, your hobby expenses may be deductible, but only up to the amount of hobby revenue. The point is that you can NEVER have a hobby loss. In a business you CAN have a business loss.

The distinction between a business and a hobby is critical. Here is how the IRS distinguishes between a business and a hobby:

• The manner in which you conduct business. Do you maintain accurate books and records;
  
• How much time do you devote to operating the business;
  
• Whether or not you have the expectation that your assets used in the business will appreciate in value;
  
• Whether or not you have a history of success in other activities;
  
• Your history of income and losses in this activity;
  
• How much profit, if any, has been earned;
  
• Whether or not this is your only source of income;
  
• Are there elements of personal pleasure or recreation involved?

2.  If I run a home-based business, I can write off all the expenses related to my home...

The simple answer here is this is not necessarily true at all.

While there are many deductions that you can take with a home-based business, running a home-based business does not allow you every business tax deduction. Generally, all the rules for business tax deductions for your home-based businesses are the same as for any other business.

3.  If I operate a business, I can write off all my entertainment expenses...

The short answer here is, no you can't. Entertainment is a major red flag for generating a tax audit. Entertainment is a legitimate deduction but keep detailed receipts and be aware that if the entertainment is extravagant, you will probably be audited.

4.  If I operate a business, I’ll be can to write off everything I buy...

You can write off everything that is used for a legitimate business purpose but not everything you buy. The 6-pack of Coke you bought for the office is a write off if it’s for the customers but not if it’s for the kids when they visit you.

5.  I heard that I have to make a profit if I’m in business or it’s only a hobby...

This is only partially true. The tax law provides that if you run your business like a business and not like a hobby, you are a business. What is your motive? There is a presumption that if you have a profit three out of five years, you have a business profit motive. A profit can be a single $1. If you intend to never make a profit, consider a corporation.