I’m starting my own small business from scratch. So when I’m asked my income for things like the ACA website, credit applications, and the like, what do I say?
I might be very successful, and I might actually have a negative income next year. I will probably have a modest income though. What should someone put when they make a life change such as this?
You’ve left out way too many factors and variables to even guess at an answer.
IIRC, when I started a business years ago, my accountant told me that I had to show a profit by year 3 for the IRS to consider it a legitimate business and not a hobby. That may well have changed by now, and IANATaxExpert, so you might call your CPA and discuss the matter.
In my experience, creditors want to see the income you can prove, that is, tax returns from past years. Not expectations of future income. I’d suggest you contact the SBA for help with your questions. Also, many communities have programs where retired business persons help you set up a business plan and get the ball rolling. Seek help from them.
You have to look at the context of the question, especially if you’re filling out applications for some official purpose.
For many purposes (like ACA), you’re allowed to use estimates of what you think income will be. For other purposes (pretty sure FAFSA is one of these) you use last year’s income even if that’s totally disproportionate to what you expect to continue making. I once used a clinic that had a sliding fee schedule based on income and they literally told me I could put anything down that I wanted to.
Interesting thoughts. One thing to compare it with is that people who have a traditional 9-5 job with a steady paycheck have an expectation that they will not lose that job, so they really can’t say that they are sure that their income next year will be the same. In my field, there are a lot of people who work 6-12 month contracts and then sit at home for a month or two waiting for another one, but in the end they manage to pull off an average of $60k-$100k income per year. If someone is between contracts (and thus not currently making anything), are they expected to report their income as $0, even though they have not ever made less than $45k on average for any of the previous ten years? If they sign up for a six month contract paying $45k total, do they annualize/prorate this to $90k, report only $45k, or try to mesh it in with historical data and come up with a probability estimate model of what kind of opportunities they will likely have in the second half of the year and say that their estimated annual income is $61.5k?
There haven’t been any changes, but the 3/5 rule is a simplified rule. Basically, if you’re profitable 3/5 years, then the presumption is that you’re a business; the IRS would have to find evidence to argue that it’s a hobby. If you’re not profitable at least 3/5 years then the presumption is that you’re a hobby, and it would be up to you to offer evidence that you really are a business. (It’s worth noting that the presumption is there because it’s usually the position that costs you more in tax.)
The actual determination, though, is based on 19 different factors. If you have a proper business plan, you’ll have written down your evidence that you’re a business on about half of those factors already (things like: your qualifications, why you think you can make a profit, how you changed operations to attempt profitability). Other factors look at how much time you put in, whether there’s personal enjoyment of the activity, whether you rely on the income to live on, etc. All of these factors are subjective, and there’s lots of case history that is interesting to someone who is interested by case history.
The main tax thing is that losses from a hobby can’t be deducted, but a business loss generally can. For example someone who has a regular 9-5 job that they use to support their passion for restoring old cars but occasionally bumps into someone who offers $200 and a beer to “Hey, you’re great with old cars, can you look at the starter on my '65 Falcon?” is an automotive hobbyist, not a self-employed mechanic. He can’t use the excuse that he did some minor work for profit to get a massive tax deduction for everything he spent on his hobby.