Today, many people sell homemade products online or work on some unincorporated sideline venture outside of their regular day jobs. Such activities can generate extra spending money. This can be especially helpful for retired people and stay-at-home parents — or for those who been laid off or taken a pay cut, during the COVID-19 crisis.

For example, suppose you’ve turned a love for woodworking or crafting into an Etsy site that sells custom furniture or face masks. Or maybe you’ve started playing violin in the parking lot of your local grocery store. Should these activities be reported as for-profit business activities or nondeductible hobbies under the tax law? Here’s why it matters for federal income tax purposes and how to make the distinction.

Comparing the Tax Treatment

In general, you must report all sources of income on your federal income tax return (Form 1040), including revenue from hobby and business activities. But the extent to which you can deduct the related expenses depends on how the activity is classified under the tax code.

Expenses related to a legitimate, for-profit business activity generally are deductible under the tax law. So, if you operate an unincorporated for-profit business activity that generates a net tax loss for the year (deductible expenses in excess of revenue), you can generally deduct the full amount of the loss on your federal income tax return. That means the loss can be used to offset income from other sources and reduce your federal income tax bill. ...