Sometimes the distinction between a hobby and a business can be confusing when you want to determine the nature of your income-generating activities.
It is important to establish whether you have a hobby or a business as each classification has different regulatory and tax implications. What might have started as a hobby can turn into a business, sometimes without you realising the point of transition from one to the other. If the ATO identifies you as a business, and you did not declare your income, you could end up with an unexpected hefty tax bill. Worse still, a penalty for not reporting your income correctly may apply.
What is a hobby?
A hobby typically refers to an activity we do for enjoyment in our spare time, regardless if we make money from the activity or not. There is no intention for you to make an income from a hobby. The benefit of being a hobby is that you do not have to meet the ATO’s reporting obligations. But this also means that the option to deduct your hobby-related expenses is not available to you. Also, losses incurred from your hobby are not deductible against other taxable income.
What is a business?
If the activities you carry out are commercial and your main purpose is to make a profit, you’re running a business. A business has to meet reporting obligations. The ATO expects businesses to declare their income.
There are benefits to running a business as opposed to a hobby. Businesses are allowed to register for an ABN. With an ABN, it means you can also register for an Australian domain (.com.au). You can build and promote your brand when selling to your customers. The ATO also allows you to claim tax deductions on your business-related expenses.
Is what you’re doing a hobby or a business?
It is important to work out whether you are indeed carrying on a business or a hobby for tax and legal implications. Answering the questions below can help you decide.
- Is the main intention of your activities to make a profit?
- Do you sell items for more than they cost to make or purchase?
- Are the activities regular?
- Do you manage your activities like a business? For example, you have systems and processes for doing things or pay for advertising and marketing.
- Do you have a business name and an ABN?
- Do you have a separate bank account?
- Do you look like a brand?
Monetary value does not determine whether an activity is a hobby or a business. There are some expensive hobbies that people partake with no intention of making money.
There is no set rule to determine exactly when your hobby turns into a business. But if you’ve answered yes to most of the above questions, the ATO is more likely to see you as a business.
What about selling online?
The same questions can help you determine if your online selling activities are a hobby or a business. If you’ve paid for your online presence such as your online shop, have a logo, and expect to make a profit, then you are a business.
If you simply sell off your unused or second-hand items, and this is not a regular activity, you are not a business.
If you are still confused as to whether you are a hobby or business, you can head to the online tool from Business.gov.au to help you or speak to your tax professional for clarification.
What are the legal and tax implications of hobby vs business?
You do not need to report the income you made from your hobby to the ATO. It’s a good idea to review your activities regularly to make sure you are still a hobby and have not transitioned to being a business unintentionally.
If you are a business, you’ll need to register for an ABN and may be required to register for GST if the annual income is more than $75,000. Your tax obligations will vary depending on your business structure. There are 4 types of business structures in Australia. They include:
- Sole trader – this is where an individual owns the business. The income generated from a sole trader business is included in the personal tax return.
- Partnership – two or more people own the business. The profits, as well as losses, are shared. A separate tax return is lodged.
- Trust – this is a separate entity that controls the business and operates the business to benefit someone else. A separate tax return must be lodged.
- Company – this is a separate entity from its shareholders. The company must lodge a company tax return.
It’s important to remember that if you are running a hobby and sell to other businesses, you need to let the business know that you are operating as a hobby. If you don’t, they will withhold 49% of your payment for tax purposes.
For some businesses, you may need permits and licences. For example, cooking from your home kitchen to sell homemade foods would require approval from your local council.
Whether you are operating as a hobby or business, the team at Moiler has experience in managing personal and business tax. Contact the team at Moiler and let us handle your tax matters so you can continue to do what you love.
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