How does the IRS differentiate between a hobby and a business?

The distinction between a hobby and a business rests primarily on the concept of profit motive. The IRS considers an activity to be a business if the individual involved has the intention to make a profit, which is a critical factor in this differentiation.

When an individual engages in an activity with the intent to earn income with a reasonable expectation of profit, it meets the criteria for being a business. Conversely, in the case of a hobby, the emphasis is typically on personal enjoyment or leisure, and there isn’t a primary motive to generate income.

This understanding is crucial because it affects tax implications. Income generated from a business is fully taxable, and business expenses can be deducted, whereas hobby income must also be reported, but related expenses are limited in how they can be deducted.

The other options do not accurately encapsulate the IRS's criteria for determining the nature of the activity. For instance, while income thresholds (like $600) may impact reporting requirements for different types of income, they do not define the difference between a business and a hobby. Furthermore, hobbies being strictly regulated or being confined only to personal use does not reflect the nuances of IRS guidelines on profit motive and intent.