Taking a talent or hobby from the dorm room to a global brand a la Mark Zuckerberg is any entrepreneur's dream. But knowing when and how to upgrade your hobby to the next step requires more thought and preparation than most consider.
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With a lackluster economy and tight job market, the transition from hobby to business is happening in greater numbers than ever, according to Mark Steber, chief tax analyst at Jackson Hewitt.
"More people than ever are experiencing a variety of life changes," Steber said. "Going into business is a result of these life and employment changes."
Intent is what really determines if your basket weaving or jewelry making is a hobby or an actual business, he said. If you intend to make money on what you are doing, it's no longer a hobby, Steber said.
"Whenever you cross that threshold, whatever point and time that is, you fall into the realm of taxes, requirements and business planning," he said.
Deborah Sweeney, CEO of MyCorporation.com, said the hopeful entrepreneur should consider big picture things first, such as financing, employees and support. Also, think about if your hobby can actually translate into a viable business plan.
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"It's not just something occupying your free time," Sweeney said. "It has to also be a valuable asset from an income standpoint."
If you decide to take the next step and move forward as a business owner, Sweeney said you need to decide what kind of company you will be—a corporation or LLC. Also think about protecting your personal assets.
MyCorporation.com helps fledgling businesses file with the state, Sweeney said, and the turnaround time is often less than 24 hours. However, some states can take up to a month.
Next, write up an operating agreement, Sweeney said. This will state how you will run the business, and who actually owns the company. Here you separate out your personal assets from the business, she said. This type of business plan is all the more important if there are multiple owners. This needs to be done annually.
"The saddest part is that everything [in a business] is going well until it's not," she said. "What happens if you have a dispute? Even a personal agreement between two owners can lead to problems. People often don’t do enough until it's too late."
This rule applies to intellectual trademarks and property, Sweeney said. Business owners too easily loose the rights to things like their actual business name because it isn't trademarked. A trademark filing costs around $500 total, and copyrights are about $50, she said. Through a service this would likely cost closer to $150, Sweeney said.
"Other people might think [the name] is a great idea too," she said. "To protect intellectual property from the beginning, we incorporate first then trademark. Also, copyrights are a huge thing—if you're not protected it’s more expensive to litigate for infringement after the fact."
Sometimes new entrepreneurs believe it's easier to not file taxes as a business owner, under the guise of saving money. Steber said this is rarely the case, and more often than not they can deduct expenses even if the business is not profitable.
"As a business owner, you will take less of a tax loss," he said.
Steber said record keeping is extremely important once you become a business owner. The more money you are making, the more attention your business will attract, he said.
"You need to know what you have, what you report and what expenses you can deduct," he said. "If you are in the business to make money, you are well-served to get someone who understands the rules."