It may seem fairly obvious whether a person is in business or not, but the distinction can be important for other reasons.
It's important to establish, from a tax point of view, whether your “activity” is more than a hobby, and is in fact a bone fide business. Hobbies are activities which lack a profit motive, amongst other factors, and just as you don’t have to pay tax on hobby income you cannot claim hobby expenses as losses against other income. However, some hobbies can display certain characteristics of a business at some point, which may give rise to taxable income.
It is an ongoing issue, from the ATO’s point of view. “A hobby is a spare-time activity or pastime pursued for pleasure or recreation,” the ATO said in a recent document on the topic. “Unlike a hobby, a business is run with the intention of making a profit and has basic reporting requirements, such as declaring income and claiming expenses.”
Some years ago, a court case involving turtle was initiated by the ATO. Breeding and selling turtles was seen as running a business, with substantial tax and penalties charged on three years of undeclared profits. The turtle enthusiast claimed to be simply funding a personal hobby, but there was found to be significant financial purpose and viability in his online sales.
It's worth bearing in mind - In this era of e-commerce the ATO has become more sophisticated in obtaining data for their audits.
Of course, if a LOT of money being made, the ATO are more likely to look at it as a business. However, when determining if a person is conducting a business or a hobby the ATO considers the common-law business indicators.
There is no set gross money limit that indicates a business.
It is therefore important to know the difference between a hobby and a business. To help, the ATO has come up with a set of guidelines. It says that there is no single rule that determines if you're in business. From photography, scrap-booking, cooking or even horseback riding, each of these hobbies can turn into a business. With that in mind, when it comes time to lodge your tax return, your hobby could possibly be your business. Taxpayers get confused about whether or not they should be reporting their hobby as a business. Of course, you want to avoid being penalised if you’re not declaring income to the ATO, right?
a hobby is an activity that you engage in for personal enjoyment. This means you are doing your hobby for your satisfaction. Generally, there are some factors that you can think about to ensure you’re actually a hobby. Follow these guidelines below:
- Your do not have a set schedule for your hobby.
- Gifting or selling your items for the cost of your materials.
- You do not intend to make a profit.
- You do not make a profit.
- You’re simply involved in your hobby for recreation.
Although taxpayers may have expensive hobbies, the ATO doesn’t specify an income limit as to when you’re considered a business. Luckily, you won’t need to declare any income you earn from your hobby to the ATO. However, if you experienced any losses from your hobby, you can’t report that on your tax return.
Signs of a Business
Now if you’re selling your lavish paintings to people who are interested in art and you’re marking up each art piece to make a profit, good news is, you’re a business. Here are some indicators that you have a business:
- You regularly make a profit.
- An item’s price is worth more to guarantee a profit.
- Your schedule is consistent in order carry out your activities.
- You plan your activities in a business like manner.
- You are paying for advertising or any commercial outlet of your activity.
As you can see, the main difference between a hobby and a business would be your intention to make a profit.
The following are indicators that you may be in business:
- You've made a decision to start a business and have done something about it, such as registered a business name or got an ABN.
- You intend to make a profit or genuinely believe you'll make a profit from the activity, even if you're unlikely to do so in the short term.
- You repeat similar types of activities.
- The size or scale of your activity is consistent with other businesses in your industry.
- Your activity is planned, organised and carried out in a businesslike manner. This may include:
- keeping business records and account books
- having a separate business bank account
- operating from business premises
- having licenses or qualifications
- having a registered business name.
The same principles apply broadly to all manner of activities and lack of profits does not necessarily mean someone is not in business. However, it is acknowledged that arts businesses have different characteristics to other businesses - they may sustain lower income and losses for a longer period while building reputation and creating a niche market.
To also help, the ATO has devised a “Hobby or business?” decision tool (access this here). Note that it is hosted on the business.gov.au site, and is not a tax-specific tool as it mentions other criteria such as consumer law.
If you do determine that your activities are indeed a hobby, the ATO will generally not expect that you to have any tax reporting obligations. You will not be entitled to an ABN. The ATO does advise, however, that taxpayers should check on a regular basis to make sure activities still qualify.
On a related note, the ATO say even if your activity is a hobby, but you supply goods or services to businesses, they may request an ABN when they pay you. “As you don’t need an ABN,” it says, “you can use the “statement by supplier” (hobby form) to avoid the business withholding an amount from their payment to you for not having an ABN.”
Attention Business Starters!
If you realise that you’re indeed a business, you need to determine your business structure. Overall, this means you need to identify with a business type such as a Sole trader, Partnership, Company or Trust.
- Sole Trader: An individual owns a business and reports this on their personal income tax return.
- Partnership: Two or more people start a business to share profits and losses. You must lodge a separate partnership income tax return.
- Trust: A third party has legal control of a business and runs the business to benefit someone else. You must lodge separate trust income tax returns.
- Company: Legally, a company is separate from its shareholders. You must lodge a separate company income tax return.
Additionally, common registrations in order to be a business are Tax File Numbers (TFN), Australian Business Numbers (ABN), Goods and Services Taxes, Pay As You Go (PAYG) withholdings, Fringe Benefits Taxes (FBT), and Fuel Tax Credits. As a reminder, your business structure helps you to find out your tax obligations. Find out which business structure you are by taking a look at the ATO’s guidelines.
Is your hobby online selling?
Online selling might be tricky. If you sell items online as a hobby, this means you are carrying out your activity for your own personal interest without the goal of making a profit.
For example, Amanda loves to shop. She constantly buys clothing from blouses to jeans to shoes. However, as seasons and years change trends age and go out of fashion. Amanda decides to list her clothes on Amazon for individual sale. She sells some clothing for more or less than the original purchase price. She charges buyers for the shipping costs and receives $1,075.
Amanda’s online-selling is a hobby. She did not improve her clothing to increase it’s value, she didn’t sell repeatedly, she didn’t pay the online website to advertise, and mostly sells clothing for less than the purchase price. Lastly, she does not have the intention of selling clothing online to make consistent income.
Online Selling as a Business.
To make matters simple, if you set up an online website to advertise and sell the products created from your hobby to make a regular sale, then it is no longer a hobby. It becomes a business and your income will be subject to tax.
For instance, Sharon has a full-time job as a kindergarten teacher at New Hill Public School. Her hobby is collecting old antiques and repairing them during her spare time. Her friend; Bill, offers her $300 for an antique vase. Then, Sharon starts to take an interest in making a business out of this activity. Due to this, Sharon takes pictures and shares them on social media like Facebook and Twitter. The total profit was $25,000 for the year. This is considered taxable because her intention was to make a profit. In the end, she did sell her items for a profit since she restored these antiques, made repeated sales, and because she uses a specific online website to advertise even though she didn’t specifically pay for advertising.
What happens if I don’t declare my income?
Your business income is labeled as “assessable income”, which means you are required to declare it to the ATO and it is subject to tax. If you do not declare your income, you can possibly trigger the ATO to take a closer look at your entire tax situation. Steer clear of this by reporting all of your business income to avoid possible ATO audits. Fortunately, your earnings from your hobby is not assessable income, so you can exclude this on your tax return.