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Hobby-loss rule

One requirement for deducting business losses is that you show you are trying to make a profit. The law presumes you’re in business for profit if you report a taxable profit for three years out of any five-year period (or two out of seven years if you’re into breeding, showing or racing horses). Otherwise, your activity is assumed to be a hobby, unless you can prove otherwise. The distinction is important because if the expenses of a hobby exceed the income, the difference is considered a personal expense, not a tax-deductible loss.