Quite often handmade businesses are lovingly nurtured on the side (for years) while we continue to work for someone else and get a steady paycheck. But be aware there IS a point when your “hobby” does become a business – at least as far as the IRS is concerned.

Just because you are currently selling handmade items doesn’t automatically mean you have a business. In reality, it all boils down to one simple thing (from the view of the IRS) — your intention to make a profit from selling your handmade items!

Knitting, crocheting, dying yarn, spinning yarn, quilting, sewing, making jewelry, designing knit or crochet patterns, glass blowing, catering, cupcake baking (and the list goes on and on) are all considered to be a “hobby” by the IRS and isn’t profitable, and with good reason – the IRS doesn’t consider a hobby to be profitable because:

• It’s something you do to relax
• You make things that YOU like
• You give most of your finished items as gifts or perhaps donate them to charity
• You only have an occasional sale
• Perhaps you sell your finished items for the cost of materials PLUS a couple of bucks for yourself

Now, even though the IRS doesn’t consider a hobby to be profitable, you are still EXPECTED to report any money that you do make from that occasional sale on your personal tax return (Form 1040) at the end of the year.

On the flip side you can also deduct hobby expenses – BUT only up to the amount that you claim in sales AND you must itemize your deductions on your tax return. As a quick example:

Let’s say you sold $1,000.00 worth of handcrafted items and spent $1,500.00 in materials, supplies and fees. As a hobby – you can ONLY deduct $1,000.00 (because that’s the amount you can claim in sales) and you must itemize your deductions using Schedule A when you file your tax return.

HINT: Talk to your CPA or tax preparer for more information.

BUT, as soon as you open an Etsy, Facebook, Ravelry, etc. shop and expect others to pay a fair market value for your finished objects, the IRS then considers you to be a handmade business – because you then intend to make a profit on the items you sell.

And that’s when EVERYTHING changes, and you need to step up your game.

For most of us this will mean that in addition to filing our regular Form 1040 at the end of the year, we’ll be adding another form called a Schedule C – Profit or Loss From Business where we can legally deduct other expenses that are involved with running a business like the cost of patterns that we purchase, the cost of hosting a website, fees charged by PayPal, Etsy, Ravelry, etc., the cost of craft fair booths, business licenses, etc. So if we go back to our quick example – it’s quite likely that you can deduct the entire $1,500.00 that you spent. BUT you have to be really good about tracking income & expenses – and that means bookkeeping!

Again, talk to your CPA or tax preparer for more information.

It doesn’t matter (initially) if your sales are slow. The determining factor from the standpoint of the IRS – you are a business if you are selling your finished object for a price that would:

• cover the cost of the materials you used to make the object
• cover any overhead involved in running the business, and
• have some cash left over (the profit)

And that:

• you conduct yourself in a businesslike manner
• that the time and effort you put into the business indicate you intend to make it profitable
• you depend on income from the business for your livelihood

Here is a list (right off the top of my head), based on my own experience of things you need to think about and do BEFORE starting a handmade business:

• Lay your foundation – what are you going to sell
• Find your niche
• Create a business plan
• Figure out what you need for startup money (businesses cost money)
• Learn about pricing to make a profit
• Get everyone on board (especially your family)
• Figure out where you are going to sell
• How will you collect money?
• Business name
• Business website
• Business domain name
• Choose a legal/tax structure
• Get an FEIN/EIN (Federal Employer Identification Number)
• Get Federal, State and/or Local business licenses, permits, Sales Tax accounts
• Will you need business insurance?
• Do you need Trademarks or Copyrights?
• Set up business bank accounts
• Bookkeeping
• Branding – business cards, hang tags, packaging, etc.
• Advertising – social media and an elevator pitch

There is a lot of information on the web about starting a handmade business – some make it sound so simple – make sure you are well informed and while it’s too late to have any impact on your 2017 tax return, it’s a good time to start planning for this year.

Visit The Yarn Bookkeeper for relevant tips on bookkeeping for your handmade business.