Hobbies are fun. They can also cost money. Sometimes they can make money. If you have an expensive hobby, can you deduct any of your expenses? Starting in 2018 after the passage of the Tax Cuts and Jobs Act (HR 1, “TCJA”), the short answer is “no.”
For tax purposes, a hobby is an activity you engage in primarily for a purpose other than to make a profit. The IRS commonly classifies inherently “fun” activities like creating art, photography, crafts, writing, antique or stamp collecting, or training and showing dogs or horses as hobbies. Even if you occasionally make money doing such an activity, it is a hobby if your prime motivation is having fun, not earning a profit.
Because hobbies are not businesses, hobbyists have never been allowed to take the tax deductions to which businesspeople are entitled. However, for decades the tax law did permit hobbyists to claim as an itemized deduction their hobby-related expenses up to the amount of income the hobby earned during the year. This was not a very generous deduction because of the limitations on itemized deductions, but it was better than nothing.
Unfortunately for people who earn income from hobbies, the TCJA completely eliminates the itemized deduction for hobby expenses, along with all other miscellaneous itemized deductions. The prohibition on deducting these expenses goes into effect for 2018 and continues through 2025. This means that taxpayers will not be able to deduct any expenses they earn from hobbies during these years, but they still have to report and pay tax on any income they earn from a hobby! The deduction is scheduled to return in 2026.
Example: Charles paints part-time as a hobby. He earns $3,000 from selling paintings in 2018 and has $2,000 in expenses. He must report and pay tax on his $3,000 in hobby income, but he may not deduct any of his hobby expenses, even if he itemizes his personal deductions.
The TCJA roughly doubled the standard deduction to $12,000 for singles and $24,000 for marrieds filing jointly, so this makes up somewhat for the loss of the deduction for hobby expenses and other miscellaneous itemized deductions. The fact that you can’t deduct your expenses doesn’t mean you shouldn’t continue to earn money from a hobby; but you might want to minimize your expenses during 2018 through 2025.
If you engage in an expensive activity like raising horses and want to be able to deduct your expenses, you should take steps to convert the activity into a business for tax purposes. A “business” is an activity you engage in primarily to earn a profit. You can enjoy doing it, but enjoyment is not your primary motivation, profit is. You don’t have to earn a profit every year—or even for many years—but making a profit must be the main reason you do the activity. You must work regularly at the activity and carry it on in a businesslike manner—for example, keep good records, have a business plan, and obtain expertise in the activity. Although you don’t have to earn a profit for the activity to be a business, it helps a lot. In fact, the IRS will presume that an activity is a business if you earn a profit at it during any three out of five consecutive years.
Prior to passage of the TCJA, hobby expenses were deductible only as a Miscellaneous Itemized Deduction on IRS Schedule A. This meant they could be deducted only by taxpayers who itemized their personal deductions. Moreover, hobby expenses were deductible only if, and to the extent, they exceeded 2% of the hobbyist’s adjusted gross income (total income minus business expenses and a few other expenses). And, such expenses were deductible only up to the amount of hobby income--if you had no income from a hobby, you got no deduction.