IRS usually allows 5 years of business activity before they question if your activity is a business or a hobby. You must show a profit during at least three of the last five years, including the current year. There are exceptions to the basic rules.

If your business activity does not show a profit then, it is considered; not for profit and the losses from your activity may not be used to offset your income.

In order to make this determination if your activity is a hobby or a business, ask yourself the following questions:

1. Is the time and effort you put into the activity indicate your intention to make a profit?

2. Do depend upon the income from the activity?

3. If there are losses, are they due to circumstances beyond your control or did they occur in the start-up phase of the business?

4. Have you changed methods of operation to improve profitability?

5. Are you qualified to run/operate the activity, or do you have advisors who have the knowledge needed to carry on the activity as a successful business?

6. Have you made a profit in similar activities in the past?

7. Does your activity make a profit in some years?

8. Can expect to make a profit in the future from the appreciation of assets used in your activity?

If you answer "yes" to the above questions, then you more then likely have a valid business and not a hobby. If you are not sure, you should contact your tax professional. Each of these points have additional legal jargon attached to them, for legal tax codes, go to: irs.gov and read Publication 535, Business Expenses.

If you have a valid business, you report your income on Schedule C. If you have a hobby, you report your activities on Schedule A, with limitations.

There are companies out there selling home business as a legal tax deduction. Before you make such an investment, remember question number five. Are you qualified to run/operate the activity or do you have advisors who have the knowledge needed to carry on the activity as a successful business?

Again, IRS presumes that an activity is carried on for profit if it makes a profit during at least three of the last five tax years, including the current year.