If you own and operate your own business, please read on.
James and Robyn Hess operated an Amway business selling products directly to consumers and sponsoring other Amway distributors. Mr. and Mrs. Hess attended Amway training functions and met with prospective distributors. However, the Hesses had never run a business before, did not create a business plan and did not create a budget.
On their federal Form 1040 tax returns for 2005 through 2011, they reported gross receipts from Amway sales ranging between -$2.00 to a maximum of $2,178.00. However, each year they reported losses from the Amway business of between approximately $10,000.00 to $25,000.00. Despite the substantial losses, the Hesses continued to operate their business in the same manner and did not seek advice from anyone.
The IRS took the position that they could not claim these losses on their tax returns because the Hesses did not engage in the activity for profit. In order to be entitled to business expense deductions, a taxpayer must have engaged in or continued the activity with the actual and honest objective of making a profit. After considering the case, the United States Tax Court held in favor of the IRS, stating that the taxpayers did not conduct their Amway business with the actual and honest objective of making a profit.
Further, the Hesses did not conduct their Amway activity in a businesslike manner, did not seek advice from third parties, did not maintain records for the purpose of monitoring and improving business performance and consistently produced losses while generating nominal income.
We know that running a business is difficult and time consuming and your income can fluctuate from year to year. However, if you consistently produce losses over a large number of years, the IRS will begin to question whether you are running that business as a hobby or to otherwise reduce the tax on your income from other sources.
If the IRS has disallowed your business losses, call us, we can help.