The Art of the Tax Loss

art

Everyone knows what a hobby is, right? It’s something you do to relax and have fun, not something you do as an occupation. And everyone knows what a business is, too. It’s something you do to make money. So everyone should know the difference between a hobby and a business, right? Well, it turns out that’s a harder question than you might think — especially where our friends at the IRS are concerned.

This week’s story concerns Susan Crile, a tenured professor of studio art at Hunter College in New York City. Teaching art is her “business,” and she earns a respectable professional income from it — from 2004 through 2009, her salary grew from $85,999 to $106,058.

But Susan was a distinguished painter and printmaker long before securing her coveted teaching position. She’s sold 356 works of art since 1971. Her work hangs in the permanent collections of at least 25 museums, including the Metropolitan Museum of Art and the Guggenheim Museum. It also graces Fortune 500 and government offices, including the Federal Reserve Board, the Library of Congress, and various U.S. embassies. Criles works approximately 30 hours per week in her Manhattan studio during the academic year, and full time at a larger studio upstate in the summer. She also travels extensively for her work, including a trip to Kuwait to depict burning oil fields during the first Gulf War.

You would hope that an artist as accomplished as Criles would enjoy fame and fortune from her work. She may be famous, at least in the art world, but fortune seems to be lagging. She’s grossed as much as $111,815 from sales in a year, but never shown a profit. From 2004 through 2009, Criles reported just $15,865 in income from her art. But for that same period, she reported $286,976 in expenses. These included the cost of materials, of course, but also expenses for vehicles, mortgage interest (presumably on her studio property), travel, meals and entertainment, utilities, research, maintenance, and local transportation.

Unfortunately, you don’t have to take any art classes to become a tax auditor. Maybe that’s why the critics at the IRS panned her tax returns. They called her art a hobby, not a business, and used the so-called “hobby loss” rule to disallow all her deductions exceeding her income. Then they presented her with their review — a bill for $98,547 in taxes and penalties!

Tax Court judge Albert Lauber agreed that some of Criles’s deductions, like telephone and cable TV bills, newspaper subscriptions, tips to her doormen, and cabs to the opera, museums, and social events, were inappropriately personal and ought to be disallowed. But then he addressed the real question: had she created her art with a bona fide intent to earn a profit? Fortunately, the tax system offers a nine-factor “paint by numbers” test for distinguishing a hobby from a business, and the judge concluded that Criles’s time, effort, and expertise outweighed her spotty income over time. Deduction upheld!

Do you have a hobby that makes (or loses) money? Maybe it isn’t really a “hobby” at all, and maybe you can take advantage of it come tax time. The only way to know for sure is to call us and ask for a plan to make the most of your activity. So call us today while there’s still time to plan for 2014, and together we’ll see if we can paint a picture of savings!