Legal Definitions - trade or business

In the context of taxation, a trade or business refers to any activity that a person or entity undertakes with the primary and genuine objective of earning a profit. This means the activity must be conducted regularly and continuously, demonstrating a serious intent to generate income, rather than being merely a hobby, personal pursuit, or occasional endeavor.

The classification of an activity as a "trade or business" is significant because it allows the taxpayer to deduct ordinary and necessary expenses incurred in running that activity from their taxable income. Tax authorities typically look for evidence of a profit motive, such as the time and effort spent, the expertise of the taxpayer, the expectation of asset appreciation, and the history of income or losses from similar activities.

• Example 1: A Local Coffee Shop

  A person decides to open a coffee shop in their neighborhood. They lease a commercial space, purchase espresso machines and furniture, hire baristas, buy coffee beans and ingredients from suppliers, and advertise their shop. Their daily operations involve serving customers, managing inventory, and handling finances, all with the goal of selling coffee and pastries to make money.

  How it illustrates the term: This activity clearly qualifies as a "trade or business" because it is a continuous operation, involves significant investment and effort, and its fundamental purpose is to generate revenue and profit from selling products and services to the public. All expenses incurred, from rent to coffee beans, are directly related to this profit-seeking objective.

• Example 2: A Freelance Software Developer

  An individual works as a freelance software developer, offering their coding and programming services to various clients on a project basis. They maintain a professional website, actively bid on contracts, issue invoices for their work, and invest in software licenses and a powerful computer. They consistently seek new clients and projects to sustain their income.

  How it illustrates the term: This is a professional activity undertaken with a clear objective of earning a profit. The developer provides specialized services, charges fees for those services, and actively markets themselves to secure paying clients. The regular and continuous nature of seeking and completing paid projects demonstrates a genuine profit motive, making it a "trade or business."

• Example 3: An Online Artisan Craft Seller

  Initially, someone enjoys making custom-designed t-shirts as a hobby, occasionally selling a few to friends. As demand grows, they decide to take it more seriously. They invest in professional screen-printing equipment, set up an e-commerce website, register a business name, dedicate specific hours each week to production and marketing, and track their income and expenses with the goal of making a substantial income from sales.

  How it illustrates the term: While it began as a hobby, the shift to investing in professional equipment, establishing a formal online presence, dedicating significant time and effort, and actively managing sales and expenses with the intent to generate substantial income transforms this into a "trade or business." The primary objective has evolved from casual enjoyment to a serious pursuit of profit.