Q. My daughter has decided my granddaughter should be an actress. I think she’s crazy. She’s planning on voice lessons, acting lessons and professional headshots for this six-year-old. I’m thinking, if she spends all this money, can they deduct it even if the kid never gets a job?
A. We’re not going to judge your daughter’s decision to make her kid a star, but we will tell you the tax rules.
The big issue is whether the acting endeavor is a hobby or a real income-producing activity.
This brings us to the IRS “hobby/loss rule,” which limits the deductibility of expenses to the level of income.
The first hobby loss provision of the tax code was enacted in 1943 and the intention was to limit the ability of individuals with multiple sources of income to apply losses incurred in “side-line” diversions to reduce their overall tax liabilities, said Michael Maye, a certified financial planner and certified public accountant with MJM Financial in Gillette.
He said the current “hobby/loss” rules were put into place in 1969 are covered under IRC 183.
“Generally, the IRS allows individuals to deduct expenses incurred in a trade or business or for the production or collection of income, or for the management , conservation or maintenance of property held for production of income,” Maye said. “The taxpayer must engage in or carry on the activity related to the expenses with an honest objective of making money.”
If an activity is not engaged in for profit — a hobby — the deductible expenses are limited to income earned, he said.
Per the IRS, whether an activity is being operated for a profit is based on the facts and circumstances of each case and there is no bright line, Maye said.
“Recordkeeping and documentation will be critical in this situation,” he said.
Another issue to consider is that the child is the one engaged in the business rather than her parents.
“For tax purposes, expenses are normally deductible by the individual who incurs them,” Maye said. “So there is a potential mismatch —the child has the income while parents have the expenses.”
Based on the complexity of the rules, he recommends your daughter reach out to qualified CPA who specializes in working with child actors.
Email your questions to moc.p1537389061leHye1537389061noMJN1537389061@ksA1537389061.