The key word for the IRS is BUSINESS. You have to have to look like a business, act like a business, work like a business in order for the IRS to let you keep the advantage of a business. If you don’t, then they’re going to claim that you have a not-for-profit venture. No, it’s not a charity, it simply means you can’t take the deductions we’ve been talking about.
The IRS has a 9 factor test that they use to determine whether you have a real business. If you have a business that makes taxable income, after all deductions, right outside the gate you don’t need to worry about this.
They are looking for businesses that show losses. When you consider most business have losses from the beginning, that’s a pretty big group. In the case of home-based businesses, most people start part-time and the nature of the business often means you are giving up a lot of active income at the front for passive income down the road.
That’s the trap the IRS hopes to catch home-based business owners in.
This 9 factor test actually distills down to 4 categories. Their audit manual specifically walks auditors through these categories.
These categories are:
- Do you run your business in a business-like manner?
- Do you put in the time and effort needed?
- Do you have the experience from other businesses to make this work?
- Have you shown a profit in the past or do you have intermittent profit now or is there reasonable expectation of profit in the future?
I recently did a webinar entitled “Are you in an IRS-Risky home-based business?” Look for an announcement of soon of where you can go to listen to this webinar.