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Upstart California business expenses may be hobby losses

This is the year that many Orange County residents will follow their passions and start their own businesses. The current economic climate has shown many Californians that being an employee of someone else is not as risk-free as it once was, which is why increasing amounts of Californians are going into business for themselves while still employed. Normally, businesses can deduct expenses but the deduction of business expenses may not be as straightforward for many upstart businesses.

Contact an experienced California tax law attorney if the IRS contacts you because it disagrees with your deduction of expenses for a new business. Often the IRS will consider business expenses associated with a new business to be "hobby losses." The difference between business expenses and hobby losses is significant when it comes to a tax audit because this may result in an accuracy related penalty being assessed against a taxpayer.

One recent tax court decision deals with business losses associated with a new business. The case involves an Intel employee who wanted to author a book about a trip around the world. In addition to being a MBA holder, the man was also an experienced photographer and he planned on photographs being a large part of his book.

The man completed his trip in 2006 and 2007 while on a paid leave from Intel. The four-month trip included stops in South America, Asia, Africa and Australia. On average, the man would spend three days in each country taking pictures and journaling.

The man's tax preparer told the man that he could deduct the expenses associated with his worldwide trip as business expenses for his 2006 tax return because the trip was research for his book. The man claimed a $19,140 loss, which was disallowed by the IRS.

We will discuss specific details on the IRS' position and the tax court's ruling in our next post.

Source: T.C. Memo. 2012-4, "Michael S. Oros v. Commissioner of Internal Revenue," Docket No. 19400-009, Jan. 5, 2012

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