Retail Industry ATG - Chapter 3: Examination Techniques for Specific
Industries (Direct Sellers)
IRC Section 162(a) generally allows taxpayers to deduct all the ordinary and necessary expenses paid or incurred
during the taxable year in carrying on any trade or business, including the business of direct sellers.  IRC Section
212 further allows taxpayers who are individuals to deduct all the ordinary and necessary expenses paid or
incurred during the taxable year for (1) the production or collection of income, or (2) the management,
conservation, or maintenance of property held for the production of income.  Under IRC Section 262, however, no
deduction generally is allowed for personal, living, or family expenses.

IRC Section 183(a) generally limits deductions, in the case of an activity engaged in by an individual or an S
corporation, if the activity is not engaged in for profit.  The term “activity not engaged in for profit” is defined by IRC
Section 183(c) to mean any activity, other than one with respect to which deductions are allowable for the taxable
year under IRC Section 162 or under paragraphs (1) or (2) of IRC Section 212.

If an activity is not engaged in for profit, IRC Section 183(b) allows a taxpayer the deductions that would be
allowable without regard to whether or not the activity is engaged in for profit.  If the gross income derived from the
activity for the taxable year exceeds these deductions, IRC Section 183(b) also allows a taxpayer to deduct the
amounts that would be allowable as deductions if the activity were engaged in for profit, to the extent of any
remaining gross income.

Under IRC Section 183(d), an activity is presumed to be engaged in for profit if the gross income derived from the
activity exceeds the deductions attributable to the activity for three or more of five consecutive taxable years.  This
presumption is rebuttable; that is, the IRS may establish that, despite the fact that the gross income exceeded the
deductions for the requisite time period; the activity is not engaged in for profit.  On the other hand, if the gross
income does not exceed the deductions for the requisite time period, there is no presumption that the activity was
not engaged in for profit; that is, examiners cannot rely on IRC Section 183 (d) as the basis for disallowing losses.

The test to determine whether a taxpayer conducted an activity for profit is whether they engaged in that activity
with an objective of earning a profit.  Although a reasonable expectation of profit is not required, the profit objective
must be bona fide, as determined from a consideration of all the facts and circumstances.

The regulations under IRC Section 183 provide nine factors to be used in determining whether a taxpayer is
conducting an activity with the intent to make a profit.  No single factor controls, some are more important than
others in given circumstances, and other factors may be considered.  The mere fact that the number of factors
indicating the lack of a profit objective exceeds the number indicating the presence of a profit objective (or vice
versa) is not conclusive.

Past court cases that have considered whether the taxpayer is engaged in a trade or business and whether an
activity is engaged in for profit include:

* Commissioner v. Groetzinger, 480 U.S. 23 (1987)
* Higgins v. Commissioner, 312 U.S. 212 (1941)
* City Bank Farmers Trust Co. v. Helvering, 313 U.S. 121 (1941)
* Owen v. Commissioner, 23 T.C. 377 (1954)
* Haft v. Commissioner, 40 T.C. 2 (1963)
* Schwinn v. Commissioner, 9 B.T.A. 1304 (1928)
* Schott v. Commissioner, T.C. Memo. 1964-272
* Engdahl v. Commissioner, 72 T.C. 659 (1979)
* Boyer v. Commissioner, 69 T.C. 521 (1977)
* Herrick v. Commissioner, 85 T.C. 237 (1985)
* Elizabeth Giles v. Commissioner, T.C. Memo. 2005-28
Profit v. Not-For-Profit Issue
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